A CD locks your money away for a set time in exchange for a higher interest rate than a savings account

A certificate of deposit (CD) is a contract between you and a bank. You give the bank a lump sum of money—say $5,000—and agree not to touch it for a specific period: three months, six months, one year, five years, or longer. In return, the bank pays you a fixed interest rate, which is usually higher than what you'd earn in a regular savings account. When the CD reaches its maturity date, you get your original money back plus the interest earned.

The bank uses your money during that locked period. They lend it out to other customers as mortgages, auto loans, or business credit lines. The interest they charge borrowers is higher than the rate they pay you, and that difference is how the bank makes money on the deal. You're essentially lending the bank your cash, and they're paying you for the privilege.

The tradeoff is straightforward: you get a better rate, but you lose access to your money. If you withdraw before the maturity date, the bank charges you a early withdrawal penalty—usually a certain number of months' worth of interest. On a one-year CD, that might be three months of interest. On a five-year CD, it could be six months or more. The penalty varies by bank and CD term.

Key Takeaways

  • You deposit a fixed amount and agree not to withdraw it for a set period—typically three months to five years—in exchange for a may provide interest rate.
  • The bank lends your money to other customers and keeps the difference between what they pay you and what they charge borrowers.
  • Early withdrawal before the maturity date triggers a penalty, usually equal to several months of interest, which reduces your earnings.
  • CDs are FDIC-insured up to $250,000 per depositor per bank, so your principal is protected even if the bank fails.
  • Interest rates on CDs vary by bank, term length, and deposit amount, so comparing offers before opening one saves you money over time.

How the interest rate is set and what it depends on

Banks set CD rates based on what the Federal Reserve does with short-term interest rates. When the Fed raises rates, banks typically raise CD rates too—sometimes within days. When the Fed cuts rates, CD rates fall. The longer the CD term, the higher the rate usually is, because you're locking your money away for longer and the bank wants to compensate you for that lost access.

The rate also depends on how much you deposit. A $100,000 CD might pay 0.10% more than a $1,000 CD at the same bank for the same term. Some banks offer "bump-up" CDs that let you increase your rate once if rates rise during your term, or "no-penalty" CDs that let you withdraw early without a penalty—but these come with lower starting rates to offset the flexibility.

Different banks pay different rates on identical CD terms. A large national bank might pay 4.50% on a one-year CD while a credit union or online bank pays 5.00% for the same term. Shopping around before you open a CD can mean hundreds of dollars in extra interest over the life of the account.

What happens when your CD reaches maturity

On the maturity date, your CD stops earning interest. The bank then gives you a window—usually 7 to 10 days—to decide what to do next. You can withdraw the money, move it to another account, or renew the CD at the bank's current rate for another term of your choosing.

If you do nothing during that window, many banks automatically renew your CD at their current rate for the same term. This is called automatic renewal. If rates have dropped since you opened the original CD, you'll earn less going forward. If rates have risen, you'll earn more. Read your CD agreement to see whether your bank auto-renews and what the new rate will be.

Some banks notify you by mail or email before maturity so you can plan ahead. Others don't, so mark your maturity date on a calendar. If you want to move your money elsewhere or withdraw it, you need to act during that grace period. After the grace period closes, the bank treats the renewed CD like any other account, and early withdrawal penalties explore again.

Early withdrawal penalties and when they explore

If you need your money before the maturity date, the bank will let you have it—but you'll pay a penalty. The penalty is usually stated as a number of months of interest. On a three-month CD earning 4.50%, the penalty might be one month of interest. On a five-year CD, it might be six months of interest.

The penalty comes out of your earnings, not your principal. If you deposit $5,000 in a one-year CD at 5.00% and withdraw after six months, you've earned about $250 in interest so far. If the penalty is three months of interest (about $75), you'd receive $5,000 plus $175 in net interest. You don't lose your original deposit, but you lose some or all of the interest you've earned.

Some banks charge a flat dollar amount instead of months of interest—say $25 or $50. A few offer no-penalty CDs, which let you withdraw without any charge, but the interest rate is lower to compensate. Before opening a CD, ask the bank what the early withdrawal penalty is in writing. It's usually in the disclosure document they give you or post online.

FDIC insurance and what it protects

CDs held at FDIC-insured banks are protected by FDIC deposit insurance up to $250,000 per depositor per bank. This means if the bank fails, the FDIC will pay you back your principal and accrued interest up to that limit. You don't have to do anything to set up this protection—it's automatic.

The $250,000 limit applies per bank, not per CD. If you have three CDs at the same bank totaling $300,000, only $250,000 is insured. If you have $250,000 at Bank A and $250,000 at Bank B, both are fully insured because they're at different banks. CDs at credit unions are insured by the NCUA (National Credit Union Administration) under the same $250,000 limit.

FDIC insurance covers the money you deposited plus interest earned up to the maturity date. It does not cover losses from early withdrawal penalties or from choosing a CD with a low rate. The insurance protects you from bank failure, not from your own decisions about when to access your money.

CD ladders and how to use them

A CD ladder is a strategy where you open multiple CDs with different maturity dates so that one matures every few months or every year. For example, you might open five one-year CDs, each with a different start date, so one matures every few months. When each one matures, you can renew it or move the money elsewhere.

The advantage is flexibility. Instead of locking all your money away for five years, you get access to portions of it regularly. You can also take advantage of rising rates: if rates go up, you can reinvest the maturing CD at the new higher rate instead of being stuck with an old low rate for years. The downside is that you earn less interest on the shorter-term CDs than you would on a single long-term CD.

A ladder works best when you have a lump sum to invest and want some of your money to be accessible without penalty. If you only have $5,000 total, a ladder might not be practical because you'd be splitting it into small pieces. If you have $50,000 or more, a ladder can be a useful way to balance safety, access, and return.

CDs versus savings accounts and money market accounts

A regular savings account has no maturity date and no early withdrawal penalty. You can take money out whenever you want. The tradeoff is a much lower interest rate—often 0.01% to 0.50% depending on the bank. A CD pays more because you're giving up that flexibility.

A money market account sits between a savings account and a CD. It usually pays more interest than a savings account but less than a CD. You can write checks or make withdrawals, but there are limits on how many you can make per month. Money market accounts are good if you want some interest earnings but need regular access to your money.

Choose a CD if you have money you won't need for several months or longer and want the highest interest rate available. Choose a savings account if you need to access your money frequently or don't know when you'll need it. Choose a money market account if you want something in between—a bit more interest than savings but more flexibility than a CD.

Frequently Asked Questions

Can I withdraw money from a CD before it matures?

Yes, but you'll pay an early withdrawal penalty. The penalty is usually several months of interest and comes out of your earnings. You get your original deposit back, but you lose some or all of the interest you've earned. Some banks offer no-penalty CDs that let you withdraw without a charge, but they pay lower rates.

What happens if the bank fails while I have a CD?

The FDIC insures your CD up to $250,000, so you'll get your money back. The insurance covers your principal plus accrued interest. You don't have to do anything—the protection is automatic at any FDIC-insured bank. Credit union CDs are insured by the NCUA under the same limit.

Can I renew a CD at a different bank when it matures?

Yes. When your CD matures, you can withdraw the money and open a CD at a different bank if their rate is higher. You have a grace period—usually 7 to 10 days—to make this decision. If you do nothing, most banks automatically renew your CD at their current rate.

Is the interest on a CD taxable?

Yes. The interest you earn on a CD is taxable income in the year it's credited to your account, even if you don't withdraw it. The bank will send you a 1099-INT form at tax time showing how much interest you earned. You report this on your tax return.

What's the difference between a CD and a bond?

A CD is issued by a bank and insured by the FDIC. A bond is issued by a government or company and not insured. Bonds can be sold before maturity, but their value fluctuates with interest rates. CDs have fixed rates and are protected by insurance, but you can't sell them—you can only withdraw with a penalty.