Opening a certificate of deposit (CD) can be a low-risk way to save for short- and long-term goals, whether it’s a new set of wheels in your near future or a child’s education that’s still several years out. Many enjoy that with a CD, your savings can grow at a fixed rate and may be insured. Sounds pretty good, right?
CDs offer a low-risk opportunity
One way a CD can be a low-risk savings vehicle is if you open an account with an FDIC-insured bank or financial institution. If you do, the federal government will insure your funds up to the maximum allowed by law. In other words, even if the bank fails, you may get your money back. You can also open fixed-rate CDs, which offer a set interest rate for the entire term. The CD benefit here: You can predict your earnings and establish a reliable income stream.
You may consider opening a certificate of deposit because CD interest rates are often higher than what a checking or savings account offers. However, certificate of deposit interest rates depend on a variety of factors. Understanding these can help you compare CDs, decide if and when you should open a CD and find a competitive interest rate.
Review these six factors that impact CD interest rates, and you’ll be on your way:
1. The CD’s term
When you open a CD, you’ll have to choose a term. Don’t worry. It’s not a trick question. The term is simply the length of time you agree to leave your initial deposit at the financial institution. Terms are often between several months and 10 years, and it’s important to choose carefully because you could pay a penalty if you withdraw your money before the account’s maturity date.
Generally, a CD’s interest rate rises as the term increases. However, that also means you won’t have access to the money for a longer period of time.
“Currently, interest rates have been going up,” says Quentara Costa, a financial planner and founder of the financial planning company POWWOW, LLC in North Andover, Massachusetts. As a result, Costa says she’s “not as keen about locking up my liquid cash in longer-term CDs” because she might be able to get a better yield in the near future.
Knowing what influences certificate of deposit interest rates can help you make an informed decision when you’re shopping for a CD.
2. The type of CD
It’s difficult to talk about certificate of deposit interest rates without considering the different types of CDs, including fixed-rate CDs, bump-up or adjustable-rate CDs and variable-rate CDs:
- Fixed-rate CD: The CD interest rate will remain the same until the CD matures.
- Bump-up or adjustable-rate CD: If you choose to open a bump-up CD, you may be able to adjust your CD’s interest rate before it matures. A CD with this feature could be a good choice if you think interest rates may rise in the future. However, you may only be able to request the change a limited number of times.
- Variable-rate CD: With a variable-rate CD, you don’t get to decide if or when the interest rate changes. Instead, the certificate of deposit interest rate may increase or decrease based on the rise or fall of a benchmark interest rate.
The type of certificate of deposit not only impacts if, and when, the CD interest rate can change, but it also may influence your interest rate when you first open the account. Bump-up and variable-rate CDs, for example, could offer a higher interest rate down the road, but you may start with a lower rate than what you could get from a fixed-rate CD of the same term.
Some issuers also offer penalty-free CDs that let you withdraw your money before the maturity date without paying a penalty. In this scenario, the certificate of deposit interest rate may be lower than what you could get from a comparable CD that doesn’t offer this feature.
3. Current benchmark interest rates
CD issuers may base their rates on other benchmark interest rates. The federal funds rate, for example, is the interest rate that depository institutions such as banks charge one another for borrowing money, and it’s a common benchmark for certificate of deposit interest rates. When the federal funds rate rises or falls, the interest rates on new CDs could rise or fall as well. Knowing how the federal funds rate can impact CD interest rates, Costa says she doesn’t recommend clients lock in long-term CDs if the benchmark interest rate is expected to increase. Instead, she recommends a high-yield online savings account or a money market account for short-term goals.
4. The amount of your deposit
You may be able to lock in a higher certificate of deposit interest rate by depositing more money when you open a new CD. There may be a minimum deposit to get a higher CD interest rate, such as $100,000. Some issuers call CDs with these large minimum opening deposits “jumbo CDs.” However, even at lower levels a bank or other financial institution may offer you a higher CD interest rate depending on your deposit amount.
5. The financial institution
Banks and credit unions may also offer different CD interest rates depending on their internal measures and goals. Arnie Cabiles, founder of financial planning and investment management firm Achievable Wealth, LLC in Vallejo, California, worked as an investment advisor at banks and a credit union for about eight years. Because a CD can be considered a liability on a financial institution’s balance sheet, Cabiles says at one point the credit union, “kept their rates lower than other local banks and credit unions to slow the amount of deposits coming in.” The opposite could also be true, Cabiles explains, and you may be able to find higher certificate of deposit interest rates when the issuer is looking to attract new customers and bring in more deposits.
6. When you deposit the funds
After you open an account, you could have several weeks to fund your new CD. But if your deposit is received within 10 days of submitting your application, some banks, including Discover, will give you the highest CD interest rate offered on one of the following dates: the date you submit your application, the date your account is opened or the date your funding deposit is received. After that, the bank may give you the current interest rate on the date the deposit is received.
Finding the best return on your savings
Knowing what influences certificate of deposit interest rates can help you make an informed decision when you’re shopping for a CD. When you’re ready to open a CD and compare options, Cabiles says that you may want to check out bank or credit union websites to get a sense of interest rates. He also recommends looking at brokerage marketplaces, where you can quickly and easily compare issuers’ current interest rates.
You may also want to look for the annual percentage yield (APY) rather than the underlying interest rate. The APY shows you how much you’ll earn each year—with compounding. As a result, a CD’s APY could be higher than a CD’s interest rate. In addition to comparing the APY, look for and compare different fees, such as a monthly fee or maintenance fee, which could impact your overall return.