What is a Certificate of deposit?
The certificate of deposit also known as CD is a financial product used by American banks and other foreign banks to restrict access to an account and the holder from withdrawing funds on demand until a set date is reached.
Banks use a certificate of deposit in the same way they use a savings account but they differ because a certificate of deposit has a specific fixed maturity date usually one, three or six months and also some last up to 1-5 years.
CDs come with a fixed interest rate and is insured by the federal deposit insurance corporation (FDIC) for up to $250,000 per individual and thus making it virtually free of any risks.
Commercial banks who grant this certificate to their customers do so with an agreed term in place which is usually a higher interest rate than is obtained with other accounts (checking and savings).
Nowadays, CDs are typically issued electronically like most of other banking services. Upon maturity, it may then automatically renew, giving the holder the full amount of the principal and the earned interest which is now available for withdrawal.
A penalty is incurred if an account holder wants to withdraw the funds in a CD before its maturity date. This is known as the early withdrawal penalty and is usually the same with the amount of interest established for the CD.
These certificates of deposit usually require a minimum deposit and reward larger deposits with higher interest rates. These large deposits are known as “jumbo CDs” and are a minimum of $100,000.
How does a certificate of deposit work?
As already stated, a certificate of deposit is basically a savings certificate that comes with a fixed date of withdrawal, fixed interest rate, and other terms. In return for keeping the money, the bank pays you an extra interest rate and you also get a higher annual percentage yield (APY). In most cases, the banks use the deposited money for other banking purposes because they expect that the money will be with them for the fixed date.
When a customer opens a CD, they choose how long they intend to keep the funds locked, this is usually between 6, 12, 18 and 60 months. When the maturity time of a CD is reached, the bank will notify you and then you have to choose how to proceed. At this stage, you either chose for the money to be transferred into your other accounts (savings or checking) or reinvest the funds into another CD with different or the same terms.
Certificate of deposit rates
It’s usually difficult to pinpoint a bank with the best CD rates because various banks offer different terms and requirements for their certificate of deposits.
The best option left to intending customers is to carefully shop around. Compare the various rates offered by each bank to choose whichever one that best suits their needs.
To check the CD rates of some banks in USA click here
Certificate of deposit pros and cons
The certificate of deposit was designed to be flawless in terms of risk management, all your funds in a CD is insured by law and therefore secure but what are other pros or cons of a CD? Let’s check them out;
- CDs offer higher interest rates compared to other conventional accounts (savings and checking)
- Small banks and internet banks usually offer better CD rates
- And of course, your funds in a CD is guaranteed to be safe from market fluctuations.
- It is widely available to all who can afford it in various financial institutions nationwide.
- The major disadvantage with a CD is basically that your funds are tied up for the duration of the agreement. And is also inaccessible in some banks while for others it comes with a huge penalty.
- Inflation does not affect CDs. This just means that CDs is not really an investment option for those looking to make a huge profit. CDs mostly works for minor savings, not an investment option.
- With your funds in a CD, you could be missing out on other more profitable ventures! For some, this is a big issue and it must be carefully considered before entering into a CD agreement.
In conclusion, CDs works better for those with extra cash looking to stash it away safely for a period of time. Finding the perfect CD for you requires detailed research. This is because the interest rate is not the only thing to be considered. Follow the link here to check out things you need and how to go about getting the best CD rates for yourself.