Certificates of Deposit

Certificates of Deposit are a fairly low-risk investment option that can be converted into cash quite easily if necessary. Certificates of Deposit (or CD's as they are commonly called), are attractive to many investors because they have a higher interest rate than a typical savings acount, and the CD's have federal deposit insurance up to $100,000- which is unique in the world of investing products.

How Certificates of Deposit Work

To purchase a CD, you invest a specific amount of money for a specific period of time. You can choose 6 month CD's, 1 year CD's, 5 year CD's, or longer. The longer you invest your money in a certificate of deposit, the higher the interest rate you'll receive. When you cash in your certificate of deposit at the end of the specified time period, you receive the amount you invested originally, plus the interest that has accrued.

If you need to withdraw money that you've deposited into a CD, you can do so before your time is up but you will pay either an early withdrawal penalty or give up some of the interest your deposit has earned. It's always a better idea financially to leave the money in the CD for the full term, but it's comforting to most investors to know they can access that money if an emergency should arise.

When you purchase a certificate of deposit, you can choose between a fixed interest rate option, a variable rate CD, long-term CD's among other features.

Understand Certificate of Deposit Terms

When you go to purchase a certificate of deposit, there are many terms of your investment you should understand prior to the purchase.

Maturity Date - Because there is such a wide range of options for when the CD matures, make sure you know whether the maturity is 3 years, 5, 10... or even 20.
Understand Call Features - A callable CD means the bank that issued you the certificate can terminate the CD after a set period of time. They do this sometimes when interest rates fall. If the CD is callable, and it becomes terminated, you shouldreceive the amount you invested plus the unpaid accrued interest during the time period.
Understand How the CD is "held" - if you purchase a brokered CD instead of a traditional bank CD, it's possible that a group of investors own small pieces of your CD rather than one holding the entire CD. Always confirm with your broker how the CD is held and ask for a copy of the CD title. The record should show that the broker is an agent for you, and will make sure your portion of the CD qualifies you for the FDIC coverage up to $100,000.
Penalties for Early Withdrawal- Even if you have no intentions of withdrawing the money before the maturity date, it's a good idea to know what to expect if you should have to withdraw those funds.
Confirm Interest Rate - you should know whether or not the interest rate on your certificaate of deposit is fixed or variable and how often it is paid (monthly, or semi-annually).

Who Should Invest in Certificate of Deposits

A Certificate of Deposit investment makes more sense for a younger investor who is diversifying their investment portfolio, and has plans to leave the money in the investment for several years to maximize the interest earnings. An individual approaching retirement on the other hand, may not benefit as much from a long term, high-yield certificate of deposit.