How Do CDs Work? Start Stacking Your Savings
A certificate of deposit, or CD, is a type of savings account. When you open a CD, you agree to leave money in the account for a specific period of time. Over that time span, the money earns interest, which you can withdraw at the end of the term.
Why Choose CDs?
CDs are considered one of the safest forms of investment. They are FDIC-insured up to $250,000, as long as the bank that issues them has FDIC insurance. Other key features of CDs include:
- Predictable income. Fixed-rate CDs earn at a locked-in interest rate for the entire term.
- Higher interest rates than traditional savings accounts. A 12-month CD at Marcus by Goldman Sachs earns 0.55% APY. A standard Bank of America Advantage Savings account, however, has an APY of 0.01%.
- Low initial deposits. Some banks, such as Ally and Capital One, let you open a CD with any amount that works for you.
Depending on which financial institution you bank with, your bank or credit union’s CD products also might be referred to as:
- Term certificates
- Term CDs
- Savings certificates
- Time deposits
How a CD Earns Interest
CD accounts earn compounding interest. That means interest is added to the principal, and you earn interest on the original amount you deposited plus all the interest the account earns during the CD term.
Terms of a Certificate Deposit
The terms of a CD detail important information about the account. This includes the following features that are locked in:
- Interest rate
- Maturity date
- Bank or credit union agreement
Types of CDs
There are some important distinctions between the different types of CD accounts. Understanding these differences can help you choose the one that’s best for you.
- No-penalty CD: No fee charged for early withdrawal but usually pays a lower interest rate
- High-yield CD: Offers some of the highest interest rates available on the market, but usually with a longer term
- Jumbo CD: Requires a larger investment (usually $100,000 minimum) but pays higher interest rates
- Bump-up CD: Allows you to bump up to higher market interest rates if rates go up; usually, though, only one rate increase is allowed during the CD term
- Step-up CD: Allows you to lock in your interest rate for a period, and your rate will increase over the term
- Brokered CD: Offered by a stockbroker, online brokerage or other investment professionals, with a flat fee or percentage of investment amount often charged
Why Would You Use a Certificate of Deposit?
People use CDs to help them meet a variety of financial goals. They include:
- Emergency funds
- Retirement investments
- Saving for a vacation or big-ticket item
CDs can be a part of anyone’s financial plans. They’re a great option for people who:
- Want a product that has a better interest rate than traditional savings accounts
- Need liquidity but don’t want savings to be too accessible
- Are saving for a special purpose such as a wedding or home improvement project
Is a Certificate of Deposit Worth It?
CDs are considered one of the safest forms of investment. They offer important benefits, such as:
- Low risk. CDs don’t fluctuate. As long as you keep your money in one, you’re guaranteed the interest.
- Government guarantee. CDs carry insurance of up to $250,000, such as savings and checking accounts.
- Steady returns. Some CDs pay a very competitive rate, especially when compared with other guaranteed accounts such as savings accounts. You can use a CD rate calculator to compare the options.
The national average APY for a 12-month standard CD is 0.15%. That might not seem like much, especially if you compare the rate to returns you might expect from other investments. But CDs serve a purpose in financial planning.
Do CDs Affect Your Credit Score?
Assets such as savings accounts and certificates of deposit don’t directly affect your credit score. Your credit score is based on the following factors:
- How much money you owe
- What types of credit you have
- How often you pay your accounts on time
- How long you’ve had your credit accounts
- How many new credit inquiries you have
Some banks check your credit when you open a new account. This can affect your credit score because it is a new inquiry. Fortunately, inquiries make up only 10% of your credit score, so a hard pull should drop your score by just a few points.
How To Open a Certificate of Deposit
Opening a certificate of deposit is similar to opening a checking or savings account. Here’s how it’s done:
- Choose a bank or credit union that offers certificates of deposit. You might qualify for relationship rates if you have a checking or savings account at the same institution.
- Choose the type of CD you want. Compare the terms of the CD and interest rate.
- Complete the application for opening a certificate of deposit. Many banks let you complete and submit this online.
- Fund the account. You may be able to transfer money online or send a check.
What To Consider Before You Open a CD
Before opening a certificate of deposit, think about how it fits in with your financial goals. It’s a good place to keep money that you don’t need to access immediately since CDs typically earn more interest than savings accounts.
But pay attention to the term length. You may pay fees for cashing in the CD early. The interest rate might not keep up with the inflation rate. You can lose some purchasing power if you leave money too long in a CD with an interest rate lower than inflation.
Our in-house research team and on-site financial experts work together to create content that’s accurate, impartial, and up to date. We fact-check every single statistic, quote and fact using trusted primary resources to make sure the information we provide is correct. You can learn more about GOBankingRates’ processes and standards in our editorial policy.
- Federal Deposit Insurance Corporation. "Insured or Not Insured?"
- Investor.gov. "Certificates of Deposit (CDs)."
- Capital One. "Online CD Savings Accounts & Interest."
- Local Government Federal Credit Union. "Share Term Certificates."
- U.S. Department of Labor. "The Magic of Compounding."
- FINRA. "How Your Credit Score Impacts Your Financial Future."
- Discover. "How to Open a Certificate of Deposit (CD)."