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
If the interest rate offered is below the current inflation rate, then investors in CDs will actually lose money on their investment when it's measured on an inflation-adjusted basis. For this reason, yield-conscious investors might prefer investments that are riskier but offer higher potential returns.
Can you lose your money in a CD? ›
If the interest rate offered is below the current inflation rate, then investors in CDs will actually lose money on their investment when it's measured on an inflation-adjusted basis. For this reason, yield-conscious investors might prefer investments that are riskier but offer higher potential returns.
What Dave Ramsey says about CD? ›
Ramsey has referred to certificates of deposit as "nothing more than glorified savings accounts with slightly higher interest rates." Ramsey warned that you shouldn't invest in CDs because average rates won't keep pace with inflation and because they aren't a good place to grow your money.
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.
Is my money safe in a CD account? ›
Bottom line. CDs are one of the safest ways to store money and earn a set rate of interest, which can help you better plan your finances. CDs opened at FDIC-insured banks, or credit unions backed by the NCUA, are guaranteed by the federal government.
What happens to CD if bank collapses? ›
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.
Are CDs safe if the government defaults? ›
While no one knows precisely what a default would entail, consumers can rest assured that their Treasuries and certificates of deposit are reasonably safe.
What does Suze Orman say about CDs? ›
Orman is a fan of CDs, saying that she believes they "make terrific sense." Of course, she does have some caveats. She believes you should build an emergency fund before investing in a CD, and that CDs can be a good complement to a savings account but not a replacement for one.
What if I put $20,000 in a CD for 5 years? ›
So, no matter which 5-year CD you choose, you're going to earn between $4,000 and $4,700 on a $20,000 deposit at today's best rates. Keep in mind, you have to pay taxes on CD interest, so your total return could be less. Still, this is a decent return for a relatively risk-free investment.
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.
Are CDs safe if the market crashes? Putting your money in a CD doesn't involve putting your money in the stock market. Instead, it's in a financial institution, like a bank or credit union. So, in the event of a market crash, your CD account will not be impacted or lose value.
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 | 2.60% | $263.12 |
| 18 months | 2.21% | $336.74 |
| 2 years | 2.07% | $422.32 |
| 3 years | 1.94% | $598.77 |
3 more rowsBanks and credit unions can penalize savers who withdraw CD funds before maturity. CD rates may not be high enough to keep pace with inflation when consumer prices rise. Investing money in the stock market could generate much higher returns than CDs.
Why am I losing money on CD? ›
Early Withdrawal Penalties
The most common way people lose money through a CD account is by withdrawing their funds before the term ends. When you take money out of your CD account before the maturity date, you'll typically have to pay an early withdrawal penalty.
Do you pay taxes on CD interest? ›
Key takeaways. Interest earned on CDs is considered taxable income by the IRS, regardless of whether the money is received in cash or reinvested. Interest earned on CDs with terms longer than one year must be reported and taxed every year, even if the CD cannot be cashed in until maturity.
Can money be withdrawn from a CD? ›
Federal law sets a minimum penalty on early withdrawals from CDs, but there is no maximum penalty. If you withdraw money within the first six days after deposit, the penalty is at least seven days' simple interest. Review your account agreement for policies specific to your bank and your account.
How much do you lose if you take money out of a CD? ›
For CDs with terms of 24 months or less, the penalty is 90 days of simple interest on the dollar amount you withdraw early. For CDs with terms greater than 24 months, the penalty is 180 days of simple interest on the dollar amount you withdraw early.
Is a CD safer than a money market account? ›
CDs and money market accounts are equally safe. They are both insured accounts and will not lose value.
Are you guaranteed money back with a CD? ›
A CD investment provides guaranteed returns and your money stays federally insured. How much interest you can earn on a CD depends on the rates, which can be affected by Fed rate increases.
