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Understanding Certificates of Deposit (CDs)

A Certificate of Deposit (CD) is a type of savings account that offers a higher interest rate compared to traditional savings accounts. However, the funds are typically locked in for a predetermined period. CDs are a great option for those looking for a low-risk investment and are willing to sacrifice liquidity for better returns.

Key Terms to Know

Annual Percentage Yield (APY)

The APY is the interest rate you’ll earn on a CD. Higher APYs mean better returns, provided you avoid early withdrawal penalties. APYs can vary between financial institutions and generally follow the federal funds rate set by the Federal Reserve. As of January 2024, CD rates are well over 5%.

Term Length

The term length of a CD is the duration for which your money is locked in. This can range from one month to five years. Short-term CDs are ideal if you need access to your funds sooner, while longer terms might offer higher APYs.

Maturity Date

The maturity date is when the CD term expires. At this point, you can either renew the CD, withdraw your funds, or reinvest them. Most financial institutions offer a grace period of seven to ten days to make this decision.

Minimum Opening Deposit

Most CDs require a minimum deposit to open, ranging from $500 to $2,500. Some CDs, known as “jumbo CDs,” require deposits of $100,000 or more and generally offer higher interest rates.

Early Withdrawal Penalty

Withdrawing funds from a CD before its maturity date usually incurs a penalty. This fee can vary but may be as much as 540 days’ worth of interest.

CD Barbell

This strategy involves opening one short-term CD and one long-term CD. The long-term CD offers higher yields, while the short-term CD provides liquidity for immediate financial needs.

CD Ladder

A CD ladder involves investing in multiple CDs with different term lengths. This strategy allows you to access funds at regular intervals as each CD matures.

Bump-Up CD

A bump-up CD allows you to request an interest rate increase if market rates go up during your CD’s term. However, these CDs usually start with lower initial yields.

Step-Up CD

Similar to a bump-up CD, a step-up CD automatically increases your interest rate at predetermined intervals, such as annually or every six months.

IRA CD

An IRA CD combines the tax benefits of an IRA with the stability of a CD. It offers a fixed interest rate for a set period, but early withdrawals may incur steeper penalties.

Interest Rate Risk

Interest rate risk is the possibility of missing out on higher returns if rates increase after you open a CD. Strategies like CD ladders, barbells, step-up CDs, and bump-up CDs can help mitigate this risk.

At O1ne Mortgage, we are committed to helping you make the best financial decisions. For any mortgage service needs, call us at 213-732-3074. Our team of experts is here to assist you!

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