On a scale of least to most risky places to save or invest your money, stocks would fall on one end of the spectrum, while savings accounts would fall on the opposite end. Somewhere in the middle, nestled close to bonds, are certificates of deposit (CDs), a savings product that has FDIC insurance but carries some risks.
Excluding no-penalty CDs, most CDs have an early withdrawal penalty. The penalty is designed to discourage you from withdrawing money before your term is up. Often, you'll forfeit some interest if you do.
But in some scenarios, you could even lose some of your initial deposit. Here's how.
Early withdrawal penalties are equal to several months of interest
The most common way you can lose money is by breaking a CD contract before you earn enough interest to pay the penalty.
Most short-term CDs, like those with six to 12 month terms, impose an early withdrawal penalty that's equal to several months of earned interest, while long-term CDs may have a penalty equal to 12 months or more. If you have a 12-month CD that charges a penalty worth three months of interest, breaking your contract before the three month mark would result in a loss.
Don't miss that. It doesn't matter if you've earned that interest; your CD provider will expect you to pay the penalty. That means it could take some money from your principal if you don't have enough to cover the fee. Depending on how long you've had the CD before breaking the contract, this could be a sizable amount.
Brokered CDs come with their own risks
Brokered CDs are offered through brokerage accounts, like Fidelity. They often boast high APYs with a variety of terms. To buy one, you must have a brokerage account with the broker, and you typically buy them in set amounts (like $1,000). But the higher APYs are appealing and could help you earn the most interest on your savings.
These CDs don't have early withdrawal penalties. In fact, the only way you can break your term is by selling the brokered CD on a secondary market. This would involve finding a buyer who wants to take the CD off your hands.
Sometimes, this works in your favor. For instance, if you have a CD with a 6% APR at a time when the ongoing CD rate is 3%, you won't have trouble finding a buyer. But if the opposite was true, and you had a 3% CD while CD rates were as high as 6%, you might have to take a loss to attract buyers at all.
You won't lose money if you don't break your terms
Finally, rest assured that your money is safe if you stay within your CD contract. As long as your CD provider has FDIC insurance, your CD deposit will be safe up to $250,000.
If you have savings you won't need in the near term, an early withdrawal penalty shouldn't scare you. Today's CD rates are high in comparison to years past. Stashing cash in a CD could help you keep pace with inflation (assuming CD rates are above the inflationary rate), not to mention prevent you from spending money in a checking account.
Of course, don't be tempted by CD rates if you don't have much savings in your bank account. Earning high interest means nothing if you have to forfeit it or your principal to access your money. A high-yield savings account or money market account would be better for your money.
In sum, yes, you can lose money on a CD. But as long as you don't withdraw too early, you'll be left with at least your principal. Keep your money in for the entire term, and you won't lose anything at all -- you'll have your principal, plus money earned on today's high APYs.
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FAQs
You could lose money in a CD if you withdraw before you've earned enough interest to cover the penalty. Brokered CDs don't allow early withdrawals, but you could lose money if you sell them on a secondary market at a bad time.
Can you lose your money in a CD? ›
The risk of having a CD is very low. Unlike how the stock market or a Roth IRA can lose money, you typically cannot lose money in a CD. There is actually no risk the account owner incurs unless you withdraw money before the account reaches maturity.
Why does Dave Ramsey not like CDs? ›
But when it comes to long-term savings, Dave Ramsey cautions against opening a CD. In fact, he insists that CDs are really nothing more than glorified savings accounts with slightly higher interest rates. The problem with those rates is that they don't do a good enough job of keeping up with inflation.
What is the biggest negative of putting your money in a CD? ›
Banks and credit unions often charge an early withdrawal penalty for taking funds from a CD ahead of its maturity date. This penalty can be a flat fee or a percentage of the interest earned. In some cases, it could even be all the interest earned, negating your efforts to use a CD for savings.
How much will a $500 CD make in 5 years? ›
This CD will earn $117.15 on $500 over five years, which means your deposit will grow by 23.4%.
Are CDs safe if government defaults? ›
In most cases yes, up to a point. CDs are typically insured up to the FDIC limit, though it is possible to buy jumbo CDs above that level. But you could also invest in a US Treasury money market fund, and Treasuries are backed by the full faith and credit of the US government without limits.
Are CDs safe if the market crashes? ›
Market Crashes and CDs
Even if the market crashes, your CD is still safe. Your interest rate won't change, and your money is still insured. But, keep an eye on interest rates. After your CD term ends, you might find that new CDs have lower rates if the economy is still struggling.
Do millionaires use CDs? ›
As for whether financial planners tend to recommend CDs for their wealthy clients? It depends. Certified financial planner Blaine Thiederman says CDs are low-risk but they also offer low returns. “If you're a high-net-worth individual, you've likely got a diversified portfolio already.
Why is CD not a good financial investment? ›
CD rates tend to lag behind rising inflation and drop more quickly than inflation on the way down. Because of that likelihood, investing in CDs carries the danger that your money will lose its purchasing power over time as your interest gains are overtaken by inflation.
Is it smart to put your money in a CD? ›
1. CDs are safe investments. Like other bank accounts, CDs have federal deposit insurance for up to $250,000 (or $500,000 in a joint account for two people). There's no risk of losing money with a CD, except if you withdraw early.
While longer-term CDs may tie up your funds for years, a 6-month CD allows you to access your money relatively quickly. If you suddenly need your $5,000 for an emergency or a more lucrative investment opportunity arises, you won't have to wait years to access your funds without incurring hefty penalties.
How much does a $10,000 CD make in a year? ›
Earnings on a $10,000 CD Over Different Terms
| Term Length | Average APY | Interest earned on $10,000 at maturity |
|---|
| 1 year | 1.81% | $181 |
| 2 years | 1.54% | $310.37 |
| 3 years | 1.41% | $428.99 |
| 4 years | 1.32% | $538.55 |
1 more rowApr 24, 2024
Savings accounts give you more flexibility to make withdrawals, but CDs offer fixed interest rates that can boost some savings if you're able to leave your money alone for a set time. The best place to deposit your cash generally depends on how long you're willing to leave it in your account.
How much does a $50,000 CD make in a year? ›
5% APY: With a 5% CD or high-yield savings account, your $50,000 will accumulate $2,500 in interest in one year. 5.25% APY: A 5.25% CD or high-yield savings account will bring you $2,625 in interest within a year.
How much money should I put in a CD? ›
The specific amount you put into a CD depends on your personal finances. The best way to decide how much money to put into a CD is to figure out how much cash you can afford to part with for an extended amount of time. While that amount will be different for everyone, you should keep a few things in mind.
How is CD interest taxed? ›
CD interest is subject to ordinary income tax, like other money that you earn. The IRS requires investors to pay taxes on CD interest income. The bank or financial institution that holds the CD is required to send you a Form 1099-INT by January 31.
Is your money guaranteed in a CD? ›
First, they are guaranteed by the bank or credit union that offers them, meaning that they are legally required to pay you exactly the amount of interest and principal agreed upon. Second, they are generally also insured by the federal government for up to $250,000.
What happens to a CD if the bank fails? ›
The FDIC Covers CDs in the Event of Bank Failure
But the recent regional banking turmoil may have you concerned about your investment in case of a bank failure. CDs are treated by the FDIC like other bank accounts and will be insured up to $250,000 if the bank is a member of the agency.
How long should you keep money in a CD? ›
Traditionally, in your typical ladder, five-year CDs have a higher yield than one-year CDs. But these days, you're likely to see a CD with a term of around six months to 18 months will likely have the highest yield in your ladder.
How long can you keep your money in a CD account? ›
CD terms typically range from three months to five years. The trick is to find a CD with the right maturity date for you. If your term's too short, you might miss out on a higher rate available for another term. If your term's too long, you may need the money prematurely and pay an early withdrawal penalty to get it.
