High-interest saving accounts, stocks, Roth IRAs – when it comes to saving, and earning interest on, your hard-earned money, you have options. If you’re looking to build up your savings to fund a large purchase (like buying a home, for example), you may be wondering what type of savings account can yield you the highest return for your money, the quickest.
One of the options available to you is a Certificate of Deposit (CD) account. So what is this type of savings account, and is it the right move for your financial needs? Read on to learn more about the pros and cons of a CD account, and when it makes sense (or doesn’t) to keep your cash in one.
What is a CD Account?
A CD account is a low-risk savings tool provided by banks and credit unions that enables you to earn interest on your cash in a safer manner than more risk-heavy ways of investing, such as the stock market. Just like a standard savings account, CDs are considered lower risk because they are FDIC-insured up to $250,000. And, along with being relatively low-risk, a CD account grows your savings at a faster rate than a standard savings account because it accrues interest.
Sounds great, right? So what’s the catch?
In opening up a CD account, borrowers exchange the interest rate in agreement of leaving a lump-sum deposit untouched for an extended period of time. While that period of time varies by lender, it averages from at least 3 months to 2 or more years.
However, that period of time can pay off. The average annual percentage yield (APY) for a one-year CD account is .14%, while the average APY for a five year CD account is .28%. Using NerdWallet’s CD Investment calculator, we can see that if we were to invest $10,000 in a CD account, we’d earn about $14 in interest payments in one year, and about $140 in five years. While the number may seem small, it’s extra cash you wouldn’t have earned from a standard, no-interest savings account.
When to Consider Opening a CD Account
When it comes to CD accounts, you can earn the most cash in interest the longer you keep your savings in the account. If you have a long-term savings goal and are able to keep your cash in savings for more than a year, a CD account can be a great way to earn interest on that savings, as it accrues interest and grows more and more over time.
Additionally, if you have extra cash in your savings account just sitting there, it can be a smart financial decision to transfer it over to a CD account so you can grow some interest on that cash, risk-free.
When a CD Account May Not Make Sense
If you think you may need access to your cash sooner than later, a CD account, and its required holding period, may be a deal breaker for you.
Before committing to locking up your money in a CD account for a set period of time, be sure to consider the fees and penalties associated with cashing out your CD prior to the maturity date. Depending on your lender, those fees can amount to anywhere from one to twelve months of equivalent interest earned.
Like any financial decision, keeping your savings in a CD account can have pros and cons depending on your unique financial goals. Before moving your money into a CD account, be sure to also have a “rainy day” savings account so you can avoid early withdrawal fees if you need immediate access to your money.
The opinions expressed in this post are for informational purposes only. To determine the best financing for your personal circumstances and goals, we advise you to consult with a licensed advisor.
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