How to choose the right CD at the right time

Looking at savings rates online and thinking even the best savings accounts won't do?  A certificate of deposit (CD) may be the right investment vehicle for you, but there's more to selecting one than simply opting for the best rate. Before deciding on a CD, examine closely all the terms and conditions and know what to expect in the way of interest gained, but also what withdrawal and closure fees will be assessed if you don't let it mature.

What is a CD?

According to the U.S. Securities and Exchange Commission, a CD is a special type of deposit account with a bank or thrift institution that typically offers a higher rate of interest than a regular savings account or even an online savings account. CDs are insured by the Federal Deposit Insurance Corporation (FDIC) up to $250,000 per depositor, so you are never in danger of losing your investment.

With a CD you invest a fixed sum of money for a certain time period--3 months, 6 months, a year, or longer. The issuer then pays you interest at certain intervals and when you redeem your CD, you are guaranteed to receive the amount of your original investment plus the accrued interest. In general, the longer the time period you select, the higher the interest rate you will receive.

To make it a little more complicated, there are several types of CDs, including fixed-rate, variable-rate, long-term, bump-up and others.

The right CD for you

Which kind, what rate and the length of time before the CD matures should all be chosen bearing in mind when you will need the money. Don't be lured by a high yield on a 5-year CD if you'll need the money in 2 years.

Several different types of CDs exist, so make sure you're getting the one you want. Ask questions about anything you don't understand. Long-term, high-yield CDs may have "call" features, which means the bank can terminate it after a fixed period of time. Banks might do this if the interest rate falls. You don't have the same option to "call" the CD.

Another main type is the variable-rate CD and included in that category is the bump-up CD. A variable-rate CD means just that--the interest rate can change during its lifespan. Make sure you understand how and when the rate can change before investing. Some variable-rate CDs pay interest rates according to the performance of a specific market index like the S & P 500 or the Dow Jones Industrial Average.

With a bump-up CD, you can request a one-time rate increase before maturity. An example would be if you bought a 1-year CD at a certain rate and three months into the term you notice the bank is offering a higher rate than you've gotten. You tell the bank that you want that higher rate for the remainder of your term.

The best CD rates

Believe it or not, the highest CD rate available may not be the best one for your circumstances.

You should compare CD rates offered at a few different banks or credit unions as a first step. Then you might want to check on the financial condition of those banks offering the most favorable rates. Publicly-traded banks release financial statements and you can also check for recent news articles to see how those banks are doing. Verify that the bank is FDIC-insured at FDIC Bank Find.

Find out when the interest payments are calculated on the CD you're considering. The more frequently the interest is calculated, the greater your yield. When the calculations begin is another feature to consider. Some financial institutions begin calculations on the same day as your deposit, while others start on the first of the month or even the first of the quarter following the deposit. The end date for calculations can vary just as much.

Length of the CD term

In order to derive the maximum benefits of a CD, the money needs to stay off-limits to you until it matures. So consider how long you can comfortably be without access to that chunk of money. Could you leave it alone for 3 months, a year, 5 years or somewhere in between? You can redeem a CD early, but you'll usually pay a hefty penalty, and that kind of cancels out what you're trying to do, which is invest through savings.

One approach is to create a CD ladder, which is a group of several CDs with varying maturity dates so that your money becomes available to you on a regular basis should you need it./

Other questions to ask:

• Does the bank make you open other accounts when opening a CD?
• Can you contribute more to the CD during its term?
• Does the CD permit partial withdrawals?

In their simplest form, CDs are a secure and predictable way of protecting and growing your savings. Compare CD rates to find the best rate for the term that best fits your financial plans.

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