I’ve got to be honest with you. When I first saw that CDs were paying 5.00% and higher APYs, my initial thought was to open one ASAP.
The reality is that today’s CD rates aren’t going to stick around forever. Once the Federal Reserve starts cutting interest rates, which it’s likely to do at some point this year, CDs are going to start paying less. So at first, I thought throwing some money into a CD was the smartest thing for me to do.
Then I realized I was wrong.
A CD could be a smart move for you right now with APYs of 5.00% still available. But if these situations apply to you, then you absolutely shouldn’t open a CD.
1. You don’t have a complete emergency fund
A good 63% of Americans can’t cover an unplanned $500 expense from their savings, according to SecureSave. That’s kind of scary.
If your emergency fund needs work, you should take any extra cash you have and put it into a regular savings account. That way, it’s accessible to you at all times, and you won’t have to risk an early withdrawal penalty, which you’ll generally get hit with if you cash out a CD before it comes due.
Also, let’s be real. Many savings accounts today are paying APYs of 4.00%, and some are even right up there at 5.00% or higher with CDs.
Granted, those rates aren’t guaranteed the way CD rates get locked in. But still, if you’re short on funds for emergency situations, why commit to a CD and risk a penalty for 5.00% when you could earn close to that amount but maintain a lot more flexibility with your money?
2. You’re carrying high-interest debt
A $1,000, 12-month CD paying 5.00% APY could put $50 in your pocket after a year. And hey, that’s not a bad payday, so I can see why you’d want to chase it. But if you’re carrying a credit card balance, one thing you should know is that the amount of money you lose in interest over the next year could well exceed the interest you earn from a 5.00% CD.
Let’s imagine you owe $1,000 on a credit card with a 20% APY. If it takes you a year to pay that balance off, you’ll spend $112 on interest. So which would you rather do — earn $50 or lose $112?
3. You’re saving for a far-off goal, like retirement
The reason I opted out of a CD wasn’t due to a lack of emergency savings or a credit card balance. Rather, I held off on a CD because I realized I wanted to use the money as retirement savings. And while a 5% return is pretty decent, it pales in comparison to the 10% average annual return the stock market has delivered over the past 50 years.
In general, when you’re saving for a far-off goal, whether it’s retirement or college, it’s best to invest your money, because the return you’ll see in a stock portfolio will generally well outpace the amount of interest you’ll earn in a bank account.
Let’s say you’ve got $1,000 and are somehow able to score 5.00% on that money from your bank over the next 25 years. If so, you’re looking at getting to about $3,400, or a gain of $2,400.
And sure, that’s not terrible. But with a stock portfolio giving you a yearly 10% return during that time, investing your $1,000 leaves you with around $10,800 in 25 years. In this scenario, you’re gaining $9,800.
Look, I totally get why a CD might appeal to you today. And maybe it makes sense given your situation. All I’m saying is think things through before committing to a CD. And consider holding off if any of these points apply.
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