Gen Y Finances: Are CDs Worth It?
Last week I compared CDs to online savings accounts and pointed out that the interest rates on CDs at brick and mortar banks are about the same as the interest rates for an online savings account. So for the short answer, in terms of interest rates, no they’re not really worth it.
CD’s, by the way, are Certificates of Deposit. Unlike savings accounts, where you can access your money at any point, you can only withdraw from a CD during a certain time period without a penalty. HowStuffWorks has a good rundown of just what a CD is, and if you should consider opening one, saying:
A CD is good idea when:
* You have money you won’t need for a while
* You can get a better interest rate than with other types of savings
* You don’t want the risk of other types of investments
Comparing the rates of online savings accounts, and even online CD’s, to brick-and-mortar bank CDs generally give interest rates within a half a percentage point. (To see if that makes a difference in terms of what you’re depositing, you can use The Simple Dollar’s Guide to Calculating APR and APY ) The question then is does the added interest make up for the inconvenience of a CD?
Personally, I’ve used CDs a lot in the past when I knew I wouldn’t need the money for a certain time frame and wanted to get the best returns on it. I’ve also seen older individuals who are able to have substantial CDs and are able to live off the monthly interests checks. And in both of those cases, CDs can work well. I’ve moved away from CDs, however, in favor of online banking because of the previously mentioned negligible difference in interest rate. Not only that, but even though I work for a bank and am loyal to my bank, my money is mine and they’re not taking it. The idea of paying a penalty to get to my money is not something I find appealing.
Of course, like all things savings, it’s a matter of finding what works for you: Kim posted last week saying that she’s had good experiences with ING CDs making more with the additional bonus rate than average rates. For her, the benefits outweigh the inaccessibility. Perhaps the clincher depends on whether you need something more out of sight, out of mind than a simple online account.
Several years ago now, I set up CD for my younger brother that he wouldn’t be able to access until his high-school graduation. Even though he only had direct access to one of his accounts via ATM card (the others were out of sight, out of mind), he still made purchases against balances his accounts that my parents were custodians for.
These out of sight accounts apparently were just not out of sight enough. In his case then, the CD was definitely worth it because the money was better of held for a time when he’d incur lots of expenses (his first year at college) and the threat of a penalty for withdrawing money was a sufficient deterant to withdrawing from that account.
Ultimately, while CDs then may not be the best way to set aside money for an emergency or for general savings scenerios, they can definitely be useful for specific savings goals or if other methods of saving aren’t working out.
Photo credit: stock.xchng.
Elizabeth: One of the objections I hear from younger people about CDs is the time commitment… and fear about the “money you won’t need for awhile” part. Here’s an idea from Free From Broke about how the CD Ladder Plan for beginning savers:
CDs are also good when it’s clear that interest rates are going down. I got one a few months ago that was only very slightly better than my online bank account, but now it’s 1.2% better. (I got a one-year CD and it may not stay better the whole year, but I decided to risk it.)
However, right now it’s not so obvious that interest rates are going down; it seems like they’re more likely to go up, in which case CDs are definitely not as good.
Good point Debbie. Several years ago I got a CD for a 5.12% percentage rate and was glad to have it when the interest rates lowered.
Nina, I like the CD plan from Free From Broke, but I’m more drawn towards using the same plan to put money in an online savings account for emergencies. Again though, this is probably because I had to use my emergency fun last year and the last thing I wanted was to be stressing about not being able to withdraw my money (especially since I was abroad). My personal bias right now is to not have CDs because of that concern.
Debbie M. does make a good point about locking in high rates, and the CD ladder is an interesting concept, so like all forms of savings, I think it really depends on your saving goals.
I’m thinking of purchasing a CD for my grandchild every year as a birthday gift What happens yearly after earning interest, would he have to pay taxes on his interest? I have always bought him a savings bond but could a CD be better?