How CDs work

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When you put your money into a CD, you agree to let the bank hold it for a certain period of time.

So, here's the not-so-fine print with CDs: You'll have to agree to let the bank hold on to your money for months or years. That's called the CD's term.

You might choose to stash your money away in six-month, two-year or five-year CDs. Normally, the longer the term, the higher the interest rate.

For example, Ponce Bank currently offers 0.45% APY on its five-month CDs, 0.45% on its 13-month CDs and 0.45% on its two-year CDs. (Keep in mind, you probably won't find rates like these at your local bank; Ponce offers yields several times higher than the national averages.)

As you can see, the potential payout from a long-term CD can be very enticing. Who doesn't want to earn better returns?

But you may have to lock your money away for a loooooooong time.

If some financial emergency comes along and you need to get at your money, tapping your CDs could be costly.

The risks with CDs

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You'll face penalties if you try to withdraw money from your CDs too early.

Yeah, we know — we said at the beginning that CDs were risk-free. That's true in one sense: You can put up to $250,000 in CDs and will never lose that money as long as your account is with a bank insured by FDIC or a credit union insured by NCUA.

But if you go back on your bargain with the institution and need to withdraw your money early, you'll face the risk of penalties. The rules vary, but generally you'll have to give up a chunk of your interest.

For example, if you close out a one-year CD too soon, you could say goodbye to six months' worth of interest. If you've had the CD only two months, the penalty would eat into your original deposit amount. Ouch!

The early withdrawal penalty for a five-year CD might be a full year of interest.

Another risk is that interest rates might rise while you've got your money locked up, and your savings will miss out on the opportunity to earn better returns.

Different flavors of CDs, laddering

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A CD ladder can help you take advantage of rising interest rates.

All of that describes the workings of a traditional CD. There are other varieties that allow you to make withdrawals more easily ("liquid" CDs) or take advantage of rising interest rates ("bump-up" CDs).

To get some of that flexibility, you might have to accept a lower interest rate when you open the account.

But there is a trick that can allow you to grab onto rising rates using just plain-vanilla, regular CDs. It's called laddering.

You divide your investment across staggered CDs so that every year you have CDs that are maturing.

This way, you can enjoy the higher initial interest rates from longer-term CDs, and also have regular opportunities to invest in new CDs at even better rates.

Where to get CDs

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You can open a CD at your nearest bank or credit union.

Opening a CD can be as simple as visiting your nearest bank or credit union. Smaller, local banks or credit unions will give you better rates than the big national institutions, and online-only banks can offer great deals because of their lower expenses.

Or, if you want to comparison-shop across banks (which you should), you can compare rates online. Look for a minimum deposit that you can manage, although some banks have CDs with no minimum opening requirements.

You'll want to look for the best rates and find CDs at your sweet spot, with a good yield and a term that's doable. How long will you want to lock away your money?

As we mentioned before, if you can stick it out, a two-year CD from Ponce Bank will net you 0.45% APY — that’s 2.6 times the national average for that term. But if can’t wait that long, a five-month CD will still net you a tidy 0.45% APY — four-and-a-half times the national average. These accounts are insured by the FDIC and come with no fees attached.

Putting cash out of reach for years may be tough — but if you've just got some spare change languishing in a low-rate savings account that you never touch, put that money into CDs pronto.

About the Author

Doug Whiteman

Doug Whiteman


Doug Whiteman is the editor-in-chief of MoneyWise. He has been quoted by The Wall Street Journal, USA Today and and has been interviewed on Fox Business, CBS Radio and the syndicated TV show "First Business."

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