A certificate of deposit (CD) is an investment made with a bank for a specified time frame. A CD is usually issued by commercial banks or brokerage firms. CDs bear a specific period maturity rate typically from three months to as long as five years, and a fixed interest rate for that period. The longer the term of your CD, the higher interest rate you’ll receive. CDs typically require a minimum deposit; however, they may offer higher rates for larger deposits. Like all time deposits, the funds may not be withdrawn before the time of maturity. Consumers looking for low-risk investments often turn to CDs.
The most common way to acquire a CD is by opening an account at an FDIC-insured bank. When you purchase a CD, the sum of money you pay is invested for a fixed period of time either one month, six months, one year, five years, or more. The bank pays you interest at regular intervals for your investment. At the end of the fixed period of time, you receive the money you originally invested plus any accrued interest. CD Withdrawals before the period of maturity usually incur in a penalty. If you redeem the CD before it matures, you may have to pay a monetary penalty or give up a portion of the earned interest. For a five year CD, it is usually a six month interest penalty.
Although it is possible to withdraw money from your CD investment, this action normally incurs a penalty. Financial institutions normally give a mail notice to the CD holder before the end of the maturity requesting directions. The notice usually gives the holder the choice to withdraw his or her money or deposit it into a new CD. If no directions are received from the holder, the CD is rolled over for another set period of time; however, the holder may specify not to roll over the CD at the time the CD is purchased.
The advantage of CDs is the safety of knowing in advance how much money you will get in return. A CD often earns more than a savings account. In addition, in the U.S. the FDIC guarantees your investment up to $250,000. Like savings accounts A CD is insured by the Federal Deposit Insurance Corporation (FDIC). CDs issued by credit unions are insured by the National Credit Union Administration (NCUA). On the other part, there are two disadvantages to CDs. One is that the returns are minimum compared to other investments, and that your money is tied up for the time the CD is under maturity, so you won’t be able to withdraw it without incurring in a penalty.
Fixed-rate CDs are the traditional type of CDs; however, more banks are offering a great number of CD products with a wide variety of non-traditional features. Consumers can now find CDs with little to null penalty due to early withdrawals. You may also find CDs with special redemption characteristics in the event of the consumer’s death. In addition, many banks are offering variable interest rate CDs based on a tied performance to a particular market index, including the S&P 500 or the Dow Jones industrial Average. These CDs are often referred to as market-linked, equity-linked, index-linked, or structured CDs.
Before you invest, figure out your objectives and options before depositing your money on a CD. Before you purchase a CD, find out when the CD matures. Be sure to investigate the interest rate on your CD and whether it is variable or fixed. If you are considering investing in a variable-rate CD, make sure you understand under which circumstances the rate can change. Ask about the amount you’ll have to pay if you cash your CD before maturity. If you buy a brokered CD, check out the background of the deposit broker.
CDs as investments offer higher interest rate than a regular savings account. Unlike other investments, CDs offer federal deposit insurance of up to $250,000. Although most people can purchase CDs directly from commercial banks, they can also purchase CDs from brokerage firms or independent agents. For some time, most CDs paid a fixed interest rate at the end of the period of maturity; however, like many financial products, CDs have become more diverse, allowing investors to choose among variable rate CDs, long-term CDs, and other CDs with special features.