When you see “CD” you probably think of music…or you used to before mp3s took over. In the world of banking and investing, though, a “CD” is something completely different. Just ask Dave Grohl who, in spite of owning a large home in LA, works hard to live as frugally as possible.
What is a CD?
In the world of finance, a CD is a Certificate of Deposit. They are kind of like savings accounts. The primary difference between these and regular savings accounts, though, is that a CD is insured which means that there is little risk of losing your money if something goes awry with the bank—a real concern given how unstable the banks have proven themselves to be. CDs are usually only available for a fixed amount of time. You deposit your money and it sits in the account for a few months or years (most cap at five years) collecting interest.
Because you agree to keep your money in that account for a fixed amount of time, the bank offers an interest rate that is higher than the interest rate you’d get with a regular savings account.
What If You Need Your Money Sooner?
The biggest problem with a CD is that withdrawing money from the account before your term is up usually comes with a pretty steep penalty fee (sort of like when you borrow against a 401K). This can make using the money that you’re trying to save extra problematic. It’s actually in your better interest to use a credit card (which you can then use your matured CD to help pay off if you want). Just make sure you compare credit cards to ensure you get the best deal!
Major Benefit of CDs
One of the best things about using CDs is that they make you look better to your bank. This opens the door for loans and other financial opportunities you might not have otherwise been trusted with. Using this collateral is a great way to find low interest credit cards to serve as your emergency fund while your CD is living out its term.
How to Use a CD
It might not seem like a practical option—agreeing to put a set amount of money into an account and not touch it for as many as five years. If you play your cards right, though, you can turn these CDs into quite a windfall for yourself.
For one thing, when your term is up, you can take the amount of money you deposited as well as all of the interest it has earned and simply roll it over into a new CD—often with a higher interest rate. It’s a solution fit for Beyonce, who once said in an interview that she invests wisely now so that she’ll be financially set (and free to pursue the things that make her happy) later.
You’ll need to save up a good chunk of change before you can open up your CD so if you’d like to include one of these in your investment and banking portfolio, there’s no time like the present to start saving up! After all, if Eric Clapton still does his own laundry (and he has been spotted at LA laundromats doing just that) surely you can find ways to scrimp and save as well!
- Pros and Cons of Certificates of Deposit (ally.com)