The hidden value of CDs and how to use them

Graphic design image of a hand holding a and  certificate that says certificate of deposit with words, "CDs offer a potent mix of monetary security and return on investment." - TAB Bank

by Nick Craven, AVP Business & Consumer Banking

Certificates of deposit are commonly provided by a wide variety of financial institutions, alongside other foundational accounts like savings and checking vehicles. Although CDs may not be as well-known or widely used as a savings or checking account, they can play an important role in your financial strategy. Let's look at the hidden value of CDs and how you can use them to get closer to your financial goals.

What is a certificate of deposit?

The CD is a time deposit. Essentially, you agree to deposit an amount of money with your financial institution for a given number of months. The terms of CDs are often relatively flexible, with a variety of different deposit lengths available. TAB Bank, for example, offers eight CD options that mature between 6 and 60 months, with interest rates that improve based on the length of the term.

It's important to remember that while you have plenty of options before making the deposit, the rules are much stricter while the CD matures. Sometimes, you aren't allowed to withdraw the money. In other situations, you can still access it but you'll have to pay a significant penalty to do so. When you make a CD deposit, you need to anticipate not accessing the principal until the term ends - whether it's six months or five years. It's also vital to recognize the minimum deposit value for CDs, which require a notable commitment. TAB's minimum is $1,000.

In terms of value, the CD offers significantly more beneficial rates than most savings and checking accounts, even those offering relatively high interest. A 60-month CD from TAB, for example, featured a 2.94 percent annual percentage yield in October 2018. Keep this value in mind as we look at how to use CDs.

Using and benefiting from CDs effectively

A CD clearly doesn't replace a checking or savings account, nor is it the only investment option you should consider or use as part of a larger financial strategy. However, they can play a very important and unique role in your financial future.

What's the best way to use CDs? One strategy is to simply invest in them when you have a specific project, plan or need at some point in the future. Consider a plan to buy a second (or third) car for your family. If you already have the funds, can anticipate the need and there's no pressing, immediate requirement to get one, you can consider a CD. Even a six-month CD with just $7,500 deposited would provide about $170 in interest, which could be used to pay for title and registration fees, put toward insurance or a variety of other needs. There are a variety of other scenarios where a similar approach can help, from funding an addition to your home to increasing money saved for a big vacation.

Because CDs are secured by the Federal Deposit Insurance Corporation, they carry a high degree of safety in terms of the results. No matter what happens, you know that the principal is guaranteed to be returned to you. While the interest paid is modest compared to playing the stock market, there's absolutely no chance of losing the money involved. This is important when determining where and when to use a CD.

Another consideration to make is the CD ladder. This approach involves depositing in several CDs so that some of the money becomes available sooner, which can be reinvested to potentially take advantage of higher CD rates or put toward another need. By spreading $6,000 dollars across a 12-month, 36-month and 60-month CD, for example, you balance the higher long-term rates with faster accessibility. To learn more, check out Investopedia's detailed breakdown of CD ladders.

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