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Put Your Savings on Steroids with Certificates of Deposit Print
Monday, 3rd November 2008 (by J.D.)This article is about Basics, CD Rates, Hints and Tips, Investing, Money Hacks
High-yield savings accounts are great. They allow you to set aside money in a safe place to earn a respectable return. (That return is low right now, but will increase as the economy improves and interest rates rise.) But did you know you can put your savings on steroids by using a certificate of deposit?
Certificates of deposit (often simply called CDs), by definition are time deposits. You give your money to the bank and then promise not to touch it for a specific length of time. In general, the longer you agree to let the bank keep your money, the higher the interest rate you’ll receive.
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For example, here are the current rates from ING Direct (as of 16 November 2009):
- 6 month CD: 1.25%
- 9 month CD: 1.25%
- 12 month CD: 1.75%
- 18, 24, 30 and 36 month CDs: 1.50%
- 48 month CDs: 1.75%
- 60 month CD: 1.75%
By contrast, the ING Orange High Yield Savings Account currently yields 1.30%. Unlike a savings account, once you put your money into a CD, the interest rate does not fluctuate. If you open a 6-month CD at 1.25% and interest rates drop, you earn 1.25% the entire six months.
If certificates of deposit offer higher returns than a savings account, then why doesn’t everybody use them? The primary drawback to CDs is that they’re less liquid than a savings account; you can’t just move money in and out of them without penalty. You can take your money out of a CD before it “matures”, but you’re docked interest when you do. In fact, many (most?) banks penalize the interest amount, even if it isn’t earned (meaning you could lose part of your principle if you close your CD early).
Anatomy of a CD
I was fortunate to win a $1,000 6-month certificate of deposit from ING Direct recently. (I never win anything!) Looking at it might be instructive:
Looking at this screenshot, you can see that a certificate of deposit has an initial value (in this case, $1,000), an interest rate (3.50%), and a term (6 months). In other words, this is very much like a loan that I’m making to the bank.
You can also see that if I chose to redeem this CD early, I would sacrifice three months interest, whether earned or not. Because I’ve held the CD less than a month, if I were to break it now, I’d actually sacrifice part of my principal.
When this CD matures on April 9th, I will have $1017.28. Obviously $17.28 isn’t a huge return, but remember that interest rates are low right now. (Also consider that my $10,000 emergency fund were all in CDs, I would earn $172.80 in six months.)
Finally, it’s important to note that unlike a savings account, a certificate of deposit ends after a set amount of time. What happens at the end of the term depends on the arrangments you have (or have not) made with your bank. (See below.)
CD tips and tricks
Using a certificate of deposit is a great way to put your savings on steroids, but there are ways to make them even better. Here are a few tips and tricks that to help you get the most out of your money.
Use CDs to beat falling interest rates. When the Federal Reserve cuts short-term interest rates, you feel the pinch in your savings account. Certificates of deposit are a great way to buy yourself “protection”.
When you see a rate drop coming, open another CD. For example, the Federal Reserve just cut short-term rates another 0.50% last week. I would be shocked if banks didn’t follow suit, lowering the interest on their savings accounts. ING Direct could go as low as 2.25%.
When you see an interest drop coming, take some money from your savings account and throw it into a 6- or 12-month certificate of deposit, locking in the higher rate. (My web research hasn’t revealed what causes CD rates to move, but they do not move in lockstep with savings accounts.)
Climb the CD ladder. Just as you might use dollar-cost averaging to profit from fluctuations in the stock market, you can use a “CD ladder” to profit from fluctuations in interest rates.
Say you have $5000 to invest. To build a CD ladder, you would invest the money in CDs with staggered maturation dates:
- $1000 in a one-year CD
- $1000 in a two-year CD
- $1000 in a three-year CD
- $1000 in a four-year CD
- $1000 in a five-year CD
As each CD matures, you immediately invest your money in a new five-year CD, effectively maintaining the one-year stagger, or ladder. You won’t earn the best possible rate of return, but you will earn a good one, and your income will be relatively constant. The CD ladder is also a form of diversification: you’re not betting all your money on one interest rate. (Mrs. Micah has an introduction to laddering CDs at ING Direct.)
Protect yourself with parallel CDs. One of the biggest risks to your investment in a certificate of deposit is the need for early withdrawal. What if something happens and you need to pull the money out? As we’ve seen, this can be expensive. Nickel at Five Cent Nickel suggests mitigating your risk with parallel certificates of deposit.
Again, assume have $5,000 that you’d like to put into CDs. Instead of opening a single certificate of deposit for the full amount, consider opening multiple CDs. You might open three CDs at once, for example: two $1,000 CDs and one $3,000 CD.
This gives you a buffer in case you need to get at the money early. If you find you need $500, you can break a single $1,000 CD and the rest of your money is safe from penalty.
Beware auto-renewals. Nicole wrote last week because she was surprised to find that her certificate of deposit at Countrywide had automatically renewed at the maturation date. Many (most?) banks will do this unless you instruct them not to.
If you know you’re ready to pull your money out of a certificate of deposit, be sure to contact your bank to find out the proper procedure for doing so. Nicole found herself locked into another twelve month CD when she needed the money now. If she broke the contract, she would be forced to sacrifice 180 days interest, whether earned or not.
(Note that Nicole’s story had a semi-happy resolution. She knows to speak up when something seems wrong. Countrywide wouldn’t let her out of the CD entirely, but “I was able to negotiate a compromise to transfer the money to a 3-month CD, rather than the 12 month CD. Although the interest rate is lower, I will be out in 3 months, which isn’t too bad.”)
Shop around. As with any financial decision, it pays to shop around for CD rates. You may find that your local bank actually offers a better deal on certificates of deposit than the online banks.
For example, my local credit union only offers 0.35% on its regular savings account, but its CD rates are competitive with (and sometimes higher than) ING Direct. Since I keep my checking account at the credit union, it might make sense for me to hold my CDs there. (In this case, however, they’re not high enough to make me switch; I’d rather track everything in one place at ING.)
Here’s my list of current CD rates from online banks.
CDs in practice
I’m new to the certificate of deposit, but I can already see some uses for it. My $10,000 emergency fund, for example, is currently earning 2.75%. I may instead create a series of parallel CDs, as described above.
Also, I’m saving for my Mini Cooper. That money is also earning 2.75%. I’m nowhere close to buying the car, though, so I might as well put it into a certificate of deposit, too.
Though certificates of deposit are new to me, I’m sure that most of you have been using them for years. What tips and tricks can you offer? Do you have favorite sources for CDs? How do you decide which money to keep there and which to keep in a savings account?
November 3rd, 2008 at 5:18 am
I really have to start looking at CDs because I use paypal to hold my emergency funds, and it used to be above 5% interest, but now it’s almost below 2%.
This is a perfect and very timely post. Thanks J.D!
November 3rd, 2008 at 5:30 am
I’ve been considering setting up a series of CDs (a ladder as you refer to it) with my emergency fund. I’d like to get a rotation going where I have a 1-year CD maturing roughly every other month, and then I can gradually bump them up.
Since my goal is to have an emergency fund to cover 1 year’s worth of expenses, I’m not sure I want to go with longer term CDs. If I do need to survive for a year due to a layoff, I’d rather not have to worry about breaking CDs, but simply let them expire and take the cash over that year as I look for work.
November 3rd, 2008 at 5:39 am
“In fact, many (most?) banks penalize the interest amount, even if it isn’t earned (meaning you could lose part of your principle if you close your CD early).”
Dang. I’m going to avoid CDs at all costs. I would hate to lose my principles.
November 3rd, 2008 at 5:51 am
We recently transferred $5000 from our ING emergency account to an ING 1 year CD to get a better return. It was super easy.
November 3rd, 2008 at 5:55 am
Right now, dollarsavingsdirect.com is offering 4% if you open with $1000 (but there’s no minimum balance). It’s the same bank as emigrantdirect.com, so I’m not sure exactly why the latter is only offering 2.75%. In any event I now have accounts at both and I’ve transferred to dollarsavingsdirect.com to earn as-good-as-CD rates with complete liquidity.
November 3rd, 2008 at 5:57 am
Saving is good! It makes me feel a little more secure.
However, savers in the USA penalized with low interest rates.
The interest rates you quote on CD’s for example–the rate of inflation is higher. The interest you earn is taxable, too.
What’s a saver to do?
November 3rd, 2008 at 6:17 am
I have to agree with Don. I have a dollar savings direct account and wouldn’t dream of losing the liquidity for a lower interest rate. Even with the recent changes in prime, the rate has stayed at 4%. JD, I’m amazed that you haven’t made a post about this new product since the rate chasing thread had such a response.
November 3rd, 2008 at 6:23 am
One thing I like about ING is that their CDs have no minimum deposit requirement, so you can open them in amounts as small or as big as you like.
Our emergency fund is in a CD ladder — 12 CDs, each with a 1 year term, 1 CD maturing each month. Also at ING, if you let your CD automatically renew (or “roll over”) for a new term, they often will give you an extra .10% in interest — so, if their normal rate is 4.25% for a 1 year CD, when you roll over a CD, they give you 4.35%.
November 3rd, 2008 at 6:26 am
I’ve been using CD laddering for my emergency fund for years. I have 6 6-month CD’s, maturing sequentially over 6 months and auto-renewing.
The beauty of this is that I only have access to one months worth of my emergency funds at a time, preventing me (or at least making me think about it) from going through the fund too quickly.
Luckily I have not yet had to tap the funds and my fund has automatically increased with my cost of living (for my monthly bills at least).
November 3rd, 2008 at 6:41 am
Good timing on this post. I opened a $5000 6 month CD at HSBC (4% APY) on the 28th. This was a little more than half of our current emergency fund. In retrospect, I wish I would have done some sort of laddering or paralleling. Maybe next time..
November 3rd, 2008 at 6:45 am
But what happens if interest rates go up again? Just two years ago, high-yield savings accounts were garnering 5+ and HSBC was even offering 6% for a few months!
At that time, the CD were all barely above 4%.
If this happens, does it makes sense to withdraw from the CD and put it back into the savings account?
November 3rd, 2008 at 7:18 am
We’ve got a 0% interest car loan ($380/month), but we have $6000 in our savings account set aside to pay off that loan.
I have been opening 6,9,12 and 18 month CDs each month in order to set up a ladder.
Once the CDs start maturing we’ll be paying off our loan with a CD each month, and be able to stretch that $6000 a bit further.
All my CDs are with ING, since they don’t have a minimum amount to open a CD, and many other places have a $500 or $1000 minimum.
November 3rd, 2008 at 7:23 am
Ouch. Thanks for the spelling correction, those of you who pointed it out. I wish I could say it was a typo, but it wasn’t. It’s fixed now, though!
November 3rd, 2008 at 7:32 am
It may also be good to spread the CD’s out over time. For instance, If you have $6000 to put in, deposit $1000 ever month for 6 months in 6 month CD’s. For the first 6 months, you will be losing a little possible interest but after that you will continually have access to $1000 in case you need it.
Or if you are saving $500 per month, deposit the money every 2 months for the same effect but on a 2 month schedule.
This way, you have multiple smaller accounts in case you HAVE to draw them earlier but if it’s a small emergency under $1000, you can pay for the emergency on your credit card and then pay off the credit card within a week or two when your next CD matures.
November 3rd, 2008 at 7:40 am
I’ve got two $10,000 CDs I set up with 6 month terms. They’ve each rolled over once. I’ve “earned” $600 just by leaving it alone. It really couldn’t be easier. And because I’m a procrastinator, I’m pretty much guaranteed to miss the deadline for withdrawing the money (unless I really need it; that’ll keep it in the forefront of my mind) and it’ll roll over automatically.
I love the idea of the 12 CDs ladder!
November 3rd, 2008 at 7:49 am
For me the extra few dollars a year doesn’t outweigh having the money tied up with possible penalty for withdrawl. I prefer to use a money market mutual fund. This may change one day but right now I have to interest in locking in these historically low rates for any amount of time.
Side note: For all of the ING advertising on this site, including this article, I’d say the odds of ‘winning’ that CD weren’t so far fetched.
November 3rd, 2008 at 7:49 am
CD laddering is a great way to go, but I disagree with sticking with one bank for ease. With internet banking, it is easy to set up and track CDs at an array of banks. I have a 5 year ladders at 6 month increments. All 10 CDs started at my credit union. Now I have CDs at 8 banks based on who had the highest rate at the time a given CD expired. Bankrate.com lists the best rates. While ING offers 4.25%, GMAC offers 5.15% for the same time duration. Both are FDIC insured, and GMAC only requires $500. This is not a plug for GMAC but rather an endorsement to go with the highest rate you can get from an FDIC insured institution.
November 3rd, 2008 at 7:51 am
I put much of my savings for my house down-payment into CDs. My bank has special, higher interest rates for people who have at least $10,000 total (in all accounts) in that bank. These rates might not show up on sites like bankrate.com, so it could be worthwhile to check with your bank.
In general, the longer the term, the higher the interest rate, but a lot of banks have CD “specials,” with a special high rate for a certain term. For example, my bank currently has a special on 9-month CDs, for which they are offering 3.778% — much higher than the 1.833% for a 12-month CD at the same bank.
It is important to make sure the CD is FDIC-insured. If it is, it doesn’t matter what bank you use. You can pick the one with the highest interest rate from Bankrate.com.
November 3rd, 2008 at 7:56 am
Like others, we have 6 staggered 6 month CDs, each with enough to get through 1 month with no other income (e.g. in case we lose a job). But we _also_ have, not in CDs, enough to cover the non-expected/non-regular portion of our emergency fund. We’ve decide this is an important part also. We decide on a peak amount that we might need from our emergency fund, then put that much minus the monthly amount (which would come from the monthly CD) into this extra account. Now we just hope we don’t have a peak emergency _and_ lose a job, but we’re working towards that.
Also, we’re working towards moving those 6 6-monthers up to 12 1yr CDs, but that takes time.
November 3rd, 2008 at 8:06 am
One word of caution about opening multiple CDs at ING Direct -
If you fund the CDs using your savings account, this will count as a withdrawal. So you could quickly reach your maximum 6-per-month withdrawal limit.
Some wonder why to lock themselves into an ING Direct CD when DollarSavingsDirect is paying 4% APY for a liquid savings account. With the current rate environment, these savings account rates may not last much longer. With a CD, the rate is locked until maturity.
November 3rd, 2008 at 8:20 am
In Canada we do have CDs, their maximum term is less than one year and they usually have a higher minimum than GICs (e.g. $5000 for a CD and $1000 for a GIC).
Many of our local banks do offer a rate ‘bonus’ if you have other business with them, or are willing to move other business to them. I have seen the bonus as high as 0.75%, not bad if you are flexible with your record keeping.
November 3rd, 2008 at 8:21 am
Thanks for this article! I’ve held ING CDs for about 3 years and have been very happy with them. With the CD ladder, I’ve never had to break one yet - I just use or renew as they come up. Your advice about the rate drop inspired me to open another one just now!
Oh, and congrats on the ING CD - isn’t it fun to win stuff?!
November 3rd, 2008 at 8:30 am
Note: CD in Canada is actually called “Term deposit”.
GIC is more of an investment.
November 3rd, 2008 at 8:33 am
Thanks, folks, for the clarifications on CDs and GICs in Canada. I propagated some misinformation picked up during research. I’ve edited the reference from the article to avoid further confusion. You guys are awesome!
November 3rd, 2008 at 8:43 am
This may seem like common sense to most of you but I recently opened a CD with $10 under the assumption that I could continually add dollars to it over time like I do my savings account. Not the case. It’s a one time deposit, then you basically don’t touch it until it matures. Bad me for not reading first.
November 3rd, 2008 at 8:46 am
I have CDs with ING on a rotation schedule, my goal is to have 12 1-year CDs that mature in turn at the beginning of each month. I have 8 so far. The idea being that if for any reason my monthly income (paychecks) were disrupted, I could cash the CDs to cover my bills.
However, I find myself now in a bit of a bind because I need a few thousand dollars all at once for an emergency and I’m going to have to take penalties on a couple of CDs to get the funds. Still better than going into debt, though, right?
November 3rd, 2008 at 8:47 am
JD, great post. We have four CDs with ING. They come up every three months. We took a portion of our e fund and put it into CDs. We haven’t touched our e fund but one time in the past two years that we’ve had it. If the worst happened, we could liquidate our CDs and take the penalty. ING CDs are great products and easy to use.
I want to win one too!
November 3rd, 2008 at 9:18 am
Its also worth noting that one should read the fine-print on CDs. Most banks require that the money you put into opening a CD be “new money.” That is, money that isn’t currently held at the same institution.
Also, I’ve noticed some brick and mortar banks in my area advertise great CD rates, but when you go in to inquire about opening one they say that you also need to open a checking account with them in order to get the promotional rate.
November 3rd, 2008 at 9:32 am
@sammy: “The interest rates you quote on CD’s for example–the rate of inflation is higher. The interest you earn is taxable, too.
What’s a saver to do?”
Sammy, there are savings that are there for when you’d need money soon and there are investments where you could lose money but may get higher return. Still there are some safer options:
If you want some protection against inflation yet don’t want to lose money, you can consider government tax-protected securities such as I bonds that determine rate based on fixed portion (current 0 - ouch) and a portion based on inflation — but you are only to invest $5000 a year. There are also TIPs that pay a small interest and increase your principal by the inflation amount every year. You can find out about all of those if you go to http://www.treasurydirect.gov. Government bonds are safer than CDs as they have full tax power of the US government behind them.
If you can stand (a little) risk but not as much as in the stock market, you can look into bonds - both municipal and corporate. Because of current credit crunch, there are some attractive yields there. Just last week I bought $5000 worth of 10-year old AAA-rated municipal bond with a tax-free YTM (yield-to-maturity i.e. yearly yield that takes into consideration today’s cost of the bond) of 5.36%. This yield is gone now - my bond is already up - but there are still some 5.016% AA-rated bonds. This is tax-free; both federal and state if you buy your state’s bonds. If you keep to AA and AAA bonds, the chance of default is very low.
Corporate bonds are riskier, so you have to investigate the company. The yields now are very attractive, though, with some good companies paying 9.7% and 10.3% (e.g. American Express, Prudential, Goldman Sacks); Verizon is paying over 8%. If the company goes bankrupt, you lose your money, so there is some risk. I just transferred another $5000 into my brokerage account, and I am thinking of buying one of these bonds.
Now, bond interest is usually is simple interest simply paid to you as income twice a year. So you don’t get advantage of compounding, but then you can take the interest bonds pay you and invest it in something else.
Another thing. If you call bonds to maturity, you get your principal back (unless bond issuer declares bankruptcy); the interest gets paid to you as income usually twice a year. In the meantime, however, the value of the bonds fluctuate. Usually, the value goes up when the interest rates go down and vice-versa. So if at some point you decide you don’t want to hold to maturity, you can resell at whatever the value is. For example, if you need the money, or if the bond resale value goes up and you want to take advantage of it. BTW - the $5000 municipal bond I bought, I paid $4995 for, but now a week later it’s resale value is $5250 (which makes resulting yield-to-maturity smaller since the bond pays fixed interest amount; it was larger relative to $4995 but is smaller relative to $5250); if it goes up more I might even consider selling it. Of course, then I’d have to pay taxes on capital gains.
If you want money soon, you can build a bond ladder - some bonds that mature next year, some that mature some years in future. Again, if you need your money you can always sell the bond, but then you get whatever value it is selling for at the time which could be above or below you got it for.
November 3rd, 2008 at 9:58 am
I believe the section titled “Protect yourself with parallel CDs” is incorrect (at least it is with my bank).
If I took out a $5,000 CD, and a $1,000 emergency came up, I could recover $1,000 plus the penalty on the $1,000 and leave the rest in the CD. I don’t have to cash in the whole CD and pay the entire penalty.
I don’t know if this policy is common.
November 3rd, 2008 at 10:00 am
One thing about Savings bonds for emergency fund that might come up (it did once for me)… Most people don’t declare their interest income every year on their taxes, they just defer it until redemption.
What that means is if you have an emergency that you cash your savings bonds to pay for, you’ll owe extra tax come tax time. Now depending on the situation that might not be so bad. If you lose your job, you’re paying less tax anyway. But if it is just money for an unexpected expense, that might be different.
I still have a significant portion of my emergency fund in savings bonds, but I also keep a chunk in online savings accounts now so I pay part of my tax “as I go.” That is the part I would access first for emergencies.
November 3rd, 2008 at 10:37 am
Ok this is a dumb question but let’s say I open a 12 month CD for 4% and I have it automatically renew at the end of the 12 months. When it comes time to renew will it stay at that same rate or will it reset at that time to the current rates when it matures?
November 3rd, 2008 at 10:42 am
In my experience, the rate resets. These details are usually provided you, via mail/email, a few weeks prior to the CD’s expiration. With my credit union, you have an option at the outset for either renewal at current rates or deposit into your checking/savings account. The devil is in the details, hopefully provided at sign-up. If not, consider another institution…
November 3rd, 2008 at 10:50 am
Is there anything like a CD in the UK, anyone?
I must say I’ve never even heard of them.
November 3rd, 2008 at 10:57 am
Ron, Jeremy is right, the rate resets. You can’t hold on to a high rate forever. This is why you want to make sure that if you don’t want a CD at that rate, you don’t let the CD roll over. This is especially important since CDs can become much more attractive or much worse investments at any given time based on rate fluctuations.
November 3rd, 2008 at 11:17 am
I signed up for a CD from Emigrant Direct today. Actually, I noticed in their terms they say that the account (any account) can possibly be considered “abandoned” if there aren’t deposits or withdraws. That’s kind of scary.
One thing that I really wonder about with these online banks is, what do you do if you want to close your account? Is there a fee associated with deciding to leave their service?
November 3rd, 2008 at 11:19 am
My emergency fund is in a series of laddered CDs at INGDirect. But I didn’t open them all at once, I started out every paycheck opening a new 6 month CD with $50. INGDirect has no minimum deposit for CDs, and frankly, when I started this scheme, I was lucky to be able to scrape up $50 a paycheck for a CD.
A year and a $700 new computer later, I went from a negative checking account balance to 17 CDs totaling about $1600. Voila, I’m a *saver*!
November 3rd, 2008 at 11:52 am
Is the interest in a CD compounding or should I be taking monthly disbursements to my savings account to earn interest on my interest?
November 3rd, 2008 at 11:54 am
You can also check out risk-free CDs, which some banks offer (I have one at Bank of America). With the risk-free CD, you pay no penalty for withdrawing funds early (with funds available within 7 days)…so a tad less liquid than a savings account, but still much better than having to pay the penalty with a normal CD.
It has a slightly lower interest rate due to the fact that it’s risk free (but still better than a savings account), so I have $5000 in the risk free for emergencies and the rest of my savings in regular CDs. To be honest, I am probably being somewhat paranoid about putting away $5000 in emergency money, but I’d rather be safe than sorry.
November 3rd, 2008 at 11:58 am
The rate of return doesn’t seem worth it to me for the lack of liquidity. It’s barely better than a typical money market account where you have access to your money at any time.
I sincerely hope no one would lock up their money for 5 years at 4.25%
November 3rd, 2008 at 12:02 pm
I have to wonder about people using a CD as an emergency fund. I fear people may have lost sight of the purpose of an emergency fund — either that, or they’re OK taking an early withdrawal penalty in the case of an emergency.
Keep in mind that an emergency fund is there for *emergencies* — what if you crash your car and need a new one, or burn down your kitchen, or get sick and have thousands of dollars in medical bills that aren’t covered by insurance, or lose your job? These are the reasons you have an emergency fund, presumably because you’ll need to be able to get at money quickly if these things happen. That’s something you can’t do with CDs (unless you accept the penalty).
I recently realized that my $10,000 emergency fund was overkill. It had become a generic savings account, and although I’ve withdrawn from it several times for genuine emergencies, I’ve never had to withdraw more than about $1000. I realized that the chance of me needing more than $5000 in an emergency is exceedingly unlikely (I’ve never spent $5000 on a single thing or event in my life except cars), so I reduced my emergency fund to $5000 and put the remainder towards other goals.
November 3rd, 2008 at 12:11 pm
I agree with Tyler in part, namely having your entire emergency fund in CDs is not the best course of action. A true emergency fund should be more liquid than are CDs. I suggest a money market account for a portion of the emergency fund with the rest is laddered CDs. The money market funds can be used for sudden emergencies ($500 for a new radiator) while the CDs can hold the bulk of the funds equal to the 3-6 month equivalent it is suggested that people save for true emergencies.
This way, you keep your emergency funds in a safe investment while getting a bit higher returns than most money market accounts offer. Then again, this is all a tad academic as having emergency savings, in any form, puts one ahead of the pack and the cost of early CD withdrawal is much less than having to borrow.
Note: 3-6 month is aspirational and not a reflection of where I am at presently…
November 3rd, 2008 at 12:34 pm
Lisa: the APY is already calculated for you, but yes it does compound. When a year is up, the APY will be whatever it is.
Eden: why not do both? If you don’t need all your money to be liquid, why not get a little bit extra on some of it? It’s not that hard to do with the online services.
November 3rd, 2008 at 12:46 pm
Just a heads up: Capital One is offering a 3.75% APY on their online savings account through Costco. Here’s the link,
http://www.capitalone.com/directbanking/offers/costco/
Don’t know when this will last but the rate is better than locking your savings in a CD that’s earning less than 3.75% and is not liquid.
November 3rd, 2008 at 12:49 pm
agreeing with angelo, the higher rates of cds provide a little bit more, so why not?
also the idea of laddering, in part, is to avoid market timing. like stocks, it is hard to predict interest rates. in 2002, you cd from 1998 locked in at 4.25% for a decade, looked pretty swell.
November 3rd, 2008 at 12:58 pm
I also want to point out that Bank of America has a “No-Risk CD”. It has lower interest rates (right now lower than ING savings, but not always) than some of their other products, but given at most a week warning to the bank, you can withdraw any portion of your CD with no penalty.
I currently have the majority of my emergency fund in two of these CDs, though I’m thinking I might end one and move it to a traditional CD with a higher rate of return.
November 3rd, 2008 at 2:20 pm
I have been wondering for a while exactly how CDs work. I have about $10k in ING Direct savings for no reason, and thanks to this post, I’m considering looking into a CD. Thanks for the post!
November 3rd, 2008 at 2:41 pm
I have about 60% of my emergency funds in CDs that are divided to come due about a month apart. This leaves me with about 3-4 months worth of fast cash emergency funds, and if something really catastrophic happened, I can break open the smallest CD I need and leave the rest alone. I get the best of good interest rates and security if I need it.
November 3rd, 2008 at 2:47 pm
What a timely article! I just got done setting up a CD ladder from my ING Orange account, they have a real cool page to do that all at one time. Figured I better get on the ball before rates go down even lower.
November 3rd, 2008 at 2:49 pm
I think that when looking into the six month cds you have to consider something like an Etrade savings account at 3.30% interest. You are loosing .20% from the 6 month CD from ING, but it keeps you more liquid.
November 3rd, 2008 at 2:54 pm
My parents taught us about CDs when we were kids - I think I had one when I was 12. Then I forgot about them until just recently, and I opened two CDs with ING. I made a mini-ladder without even knowing what I was doing; it just seemed smart to me to put some in a 6mo and some in a 12mo, given the balance between better interest and a need for liquidity. Now I know about ladders, I think they’re cool!
November 3rd, 2008 at 3:42 pm
Barry: I’m not sure if they already reflect the current Fed 1% interest rate. If so, I doubt they’ll go much lower, but still better to get your interest going early.
November 3rd, 2008 at 3:48 pm
kitty: thanks for the information on interest. I am going to look into some of those!
November 3rd, 2008 at 4:22 pm
CDs are a horrible investment device. And worse for an Emergency Fund. What happens when that emergency comes along and you need access to your money? Now instead of easily pulling the money out of the bank, writing a check, or pulling out of the ATM you have to go through the trouble of cashing them in, losing money earned and maybe even some of the original money because the “expected” emergency happened. Bad, bad idea.
Besides, if you have a good credit union you can earn more than 4% interest on a basic checking account. I currently earn 5.25% on mine.
My point is why risk any of your money at all on crap CDs when there are other (and not to mention more liquid) ways to earn the same or more interest. Doesn’t sound smart to me.
November 3rd, 2008 at 5:15 pm
CD ladders are an awesome way to put away and grow your money, if you’ve already got an ‘emergency fund’ in place. You’re going to have access to at least some of your money every six months, and during that time you’ll be earning a much better interest rate than high yield savings accounts.
November 3rd, 2008 at 5:44 pm
I also have a cd ladder going for my emergency fund. I started out setting up a 3 month, 6 month and 12 month cd every month until I had one maturing each month of the year. As they renew I’m converting them all to 12 month cds. So every month I have access to part of my emergency fund. Right now I have amounts ranging from $50-$500, but I’m first bumping them all up to $500 and eventually want to get them all to $1000 so I can pay all my basic needs for a year even if my fiance and I both lost our jobs. It also keeps us from touching the emergency fund unless it’s really an emergency.
November 3rd, 2008 at 6:32 pm
Bill: I don’t know how it is at other banks, but ING CDs you just click a button that says redeem early, and that’s it. The penalty for withdrawing early is 3 months interest. That’s it. It’s a very small penalty for an emergency if my 3-4 months liquid reserve doesn’t cover it.
If I had an emergency where I didn’t have time to log in, click the redeem early button, and write a check, I’m probably being held up and it would be a good thing the CD money is inaccessible.
November 3rd, 2008 at 6:48 pm
CD’s are not the best option for short-term funds. Depending on the amount you invest, the (if it is only 10k or so) it probably isn’t worth it. If you should need the money early a lot of times there are fees attached. Plus that same 10k at 6-months or a year at 2.75% compared to 3.5% is not that much of a difference. One upside to most of these fees is that they are usually tax deductible, but you still lose money. I agree with Bill that there are more liquid ways to earn the same interest.
November 3rd, 2008 at 8:12 pm
To each their own, of course. I have a years worth of emergency savings - 3 months worth in liquid funds. I can’t foresee that I would need all of that upfront. If something happened to my job, I would be guaranteed my CDs would mature at intervals where I could pay my bills - like getting a salary or loan from myself. If I lost my job, it would guarantee that I would have to budget my money until the next CD matured. By then, I would have hoped to have a new job. But if not, I’m covered.
I guess it’s sort of like freezing credit cards for some people. If half my emergency fund is locked away in untouchable funds, then it prevents me from thinking, “Ooo I can buy that new Macbook!”
November 3rd, 2008 at 10:15 pm
I rarely brag about being deployed to Iraq, just because it’s not that much fun, but after 30 days in a combat zone, servicemembers can put 10K in an account (called the Savings Deposit Plan) that makes a gauranteed 10% interest. It will continue earning interest for 90 days after we return from the combat zone.
There is no CD rate better than this! Any servicemember who does not take advantage of this account is throwing money away.
Your tax dollars at work, and I for one appreciate it!
November 3rd, 2008 at 11:03 pm
I feel so alone here. No CDs on my ING account. Now I have a New Year’s resolution for once.
November 4th, 2008 at 6:04 am
Adam. CDs are similar to fixed rate accounts in the UK. Some good rates at the moment, Anglo Irish Bank Corporation International) Privilege Fixed Interest account 7.21% for 12mths. Much better rates than the average UK savings acoount. I just opened a Halifax International regular saver account which is 10% for 12 months.
November 4th, 2008 at 7:56 am
Someone else said to check your local credit union. They don’t always have better CD rates but at my credit union they have 5% on a checking account up to $15k.
I have a checking account that I opened at another bank to get $100 bonus. no minimum and I just need to have at least $250 a month in direct deposit. We use this account to build up savings to pay for our life insurance (2x a year) and our propane that we pre-buy in May for a discount. What I do is take that $$ out each month (leaving only $100) and deposit it in my credit union at 5%. But I don’t add it to my software program that I track our accounts. I keep a separate ledger for that money in there. I can see the true balance online when I pay bills, but I follow my program as the “balance”. Then when I need that cash I can get to it.
This kind of tricks me into not having it on the books to spend on other things while still earning 5%.
Kind of silly but it works for me.
I do have a couple of CD’s that were set up for me in an IRA account. One is at 5.01% and will mature in 2010 and the other is at 2.5% and matures in May. Since these are in an IRA account I just keep rolling them over.
November 4th, 2008 at 12:49 pm
It seems to me the folks who are protesting sticking EFs in CDs are people who are thinking of traditional CDs and traditional dollar amounts.
INGDirect really does make it simple to yank the cash, as I found out earlier this year when I needed to buy a new computer (yes, a computer is a need in my world). I closed six seperate CDs to and lost about $1.75. I had laddered CDs, and they were all in small dollar values, currently my biggest CD is $252.60 and most are in the $50 range, because that is how much I put towards my EF every pay period.
As I stated before, I have used INGDirect’s incredibly simple new account setup to go from a negative checking balance to no consumer debt and a one-month EF in 11 months. It works for me, but that doesn’t mean it will work for your situation.
November 4th, 2008 at 12:59 pm
Bankrate.com has an excellent CD laddering calculator that will tell you when and how much to invest in a ladder based on your goals.
November 4th, 2008 at 2:30 pm
Re: using CDs for emergency cash. Given 12 CDs, one maturing every month, my plan (should the need arise) is to either use a CD to cover the emergency expense if the expense occurs during the grace period (my CDs have a 10 day grace period during which I can either withdraw without penalty or roll over) or use a credit card to cover the expense and use the next maturing CD to cover the full credit card payment. My goal is to have 12 CDs of $2500 each. If an emergency occured requiring more than $2500, I would assume the magnitude of that situation would dwarf any concern I would have about losing some interest by breaking into a second CD.
November 4th, 2008 at 4:31 pm
Unlike most CDs on the market, Washington Mutual’s CDs actually do include an “Add-On” feature: once the CD has been set up, you are allowed to make additional deposits at any time during the term, up to the amount of the original sum (for example, if you open a CD with $2500, you could deposit up to $2500 more, for a total of $5000). The additional deposits earn the same interest rate as the money used to open the CD, and all the money is available to you at the end of the term, whether or not it’s been held in the CD for the full time period. This is a nice incentive to put a little extra cash aside, if you don’t think you’ll need the money too quickly. WaMu has also been known to offer great limited-time-only promotional rates which come and go without warning (currently branches, but not the website, are advertising a 3.51% APY on 9-month CDs, $1000 minimum to open); opening a CD and continuing to make deposits at the CD rate could be a good buffer strategy against sinking interest rates. (Every bank probably needs cash right now, even if they don’t offer the Add-On feature, so keep looking for good deals!)
A word of caution: the Add-On feature might not survive Washington Mutual’s eventual takeover by Morgan Chase, but a bank employee told me this week that all terms and rates outlined in current WaMu CD agreements will hold to the deposits’ maturity.
November 6th, 2008 at 9:33 am
This is a great post, one that explains the basics of CDs, which most people are not familiar with.
The main point to remember is that it’s not liquid for the term, but you are locked into a potentially great interest rate. It’s not entirely ideal to put your whole savings into CDs; if you have an emergency, you have to pay penalties! But if you have a good amount that is laying around and you don’t want to risk putting it into investments that could potentially lose value, then this is a good product to have knowledge of.
Also know that it’s a deposit product that is FDIC insured at member banks. So know your FDIC insurance rules as well.
There are other special CDs already mentioned in the comments that allow you to make additional deposits or make partial/full withdrawals with no penalty. Some of these require minimum balances or requirements, but it’s always good to know your options.
Also as an insider tip from someone who works for a bank, it pays to rate shop sometimes. Not sure if this applies to all banks, but where I work we have rate calculators that helps us make VERY competitive offers that are not usually promoted; very short term with really good rates. Just tell your banker what you are looking for and see if they can get approval from upper management. You’ll probably need a high balance though (sometimes $10,000+). But again, it never hurts to know your all your options!
January 13th, 2009 at 4:39 pm
“My $10,000 emergency fund, for example, is currently earning 2.75%. I may instead create a series of parallel CDs, as described above.”
Did you end up doing that, JD? I’m considering it, but I’m concerned about liquidity, given the nature and intent of an emergency fund.
January 13th, 2009 at 4:42 pm
Dustin, I did not do the parallel CDs, but I still may sometime in the future…
April 3rd, 2009 at 11:30 am
In addition to an Add-On feature in order to attract interest in CDs some credit unions have gone to a bump feature. The ones I have seen are longer than 18 months. At some point after an initial period, usually 6 months on an 18 month CD, you are allowed to adjust your interest rate. Therefore if you invested in a CD at a very low rate of return, say 2%, and in 6 months rates are now 3.5%, you are allowed to bump up to at least a portion of that improved rate, sometimes the entire improved rate. I have not seen this on many CDs, but in low times it might be a good idea, since an investor may miss a good period of growth, but can still bump their CD if they are watching interest rates.
May 6th, 2009 at 7:14 am
about how many have “certificate deposit” today?
June 25th, 2009 at 1:21 pm
I have yet to see anyone speek about using a CD ladder for/in retirement.My plan is to begin to pull my IRA funds approx.,1 year before retirement and set up 12 each CD’s worth 25k each.These would be in three seperate banks/credit unions to assure FDIC backing, for a total of 300k.I will repeat this with my wife’s IRA the year before she retires and sell our home and add an additional 300k to put monthly in CD’S. This will bring three $25K CD’S ($75K)to maturity each month at what ever interest rate they were purchasted at.So @ 2.5% this would be $1,875.00 per month income plus two social sec checks,one pension,and a small house valued at approx.,$300k.Please let me know if you see any flaws in my plan as I am not a pro at this and I do want to have all my $$$ in safe place so that what just happened in the USA will never get me in my retirement.Looking forward to all your comments……… thanks-soooo much pat