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Certificate of Deposit (CDs)

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Definition:

One savings tool is a certificate of deposit or a CD. A CD is a tool that locks your money in at a set interest rate for a certain period of time. The interest rate is usually higher than a normal savings account or a money market account, since you do not have access to the money for the length of the CD. Generally, a CD is a very conservative way to save your money since the rate of return is so low on the account. If the CD rate is fairly high, they may not be a bad investment, but over the last ten years CD rates have steadily dropped.

You may consider setting up a CD if you know that you will be using the money in a specific period of time and will not need to access it immediately. However, this is generally for very short periods. If you are looking at more than five years you should consider mutual funds. If you are considering a shorter period you should also consider a money market account. A CD rate will not go up if the interest rates begin to rise whereas a money market account will. If the interest rates are close it may be better to go with a money market account, because the interest rates vary according the current market.

One of the biggest risks of a CD is that you will not earn interest at the rate of inflation. Additionally if you do need to access the money before the CD term is up, you will pay penalties and early withdrawal fees. If you are considering opening an IRA that is a CD, you would be better off going with an IRA that is connected to mutual funds. When you are choosing a CD, you are choosing a product that will keep your money safe, but not necessarily help it to grow. the FDIC rules apply to the CDs, and if you have more than $250,000 in the bank, any amount over that will not be guaranteed. You may consider using a CD ladder as a savings tool for your emergency fund.

CDs have different options when it comes to paying interest on the account. Many CDs will deposit the interest into one of your accounts monthly or quarterly. Other CDs will add the interest back into the CD or pay the interest at the end of the CD term. Additionally, some CDs will automatically roll over into a new CD at the current market rate. If this is the case, you need to mark the date on your calendar so that you can withdraw it and put it into a better investment option.

If you are using CDs because you are leery of investing in the market, you may want to consider choosing mutual funds that spreads the risks over a wide variety of stocks. This will reduce your risk, but give you a higher rate of return. A god financial advisor can help you find the best options that will reflect your comfort level for making risks. However, a CD may be a good option if you are looking for a better place to put your money because of low savings account interest rates.

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