CDs vs. High-Yield Savings: Which One Is a Better Option?

Article Summary:

Certificates of deposit (CDs) allow you to lock in an interest rate for a set period of time at the cost of immediate access to your money. High-yield savings accounts, on the other hand, provide easy access to your money, but interest rates will vary over time. Issued by U.S. banks, both products are insured and protected by the FDIC, so which option is better for you depends on whether you prefer a predictable interest rate or the ability to withdraw your money at any time.

If you’re the type to play it safe and never gamble, certificates of deposit (CDs) and high-yield savings accounts are two banking products designed for you. Which one you should choose, however, depends on your priorities.

Imagine you go to the grocery store to buy bananas. If you buy green (unripe) bananas, you’re probably willing to wait until they ripen at home so you can enjoy them at peak sweetness. On the other hand, if you buy yellow (ripe) bananas, you likely intend to enjoy them as soon as possible, even if you risk eating them when they aren’t as sweet as they could be.

The same principle applies to banking products. CDs are likegreen bananas: you won’t get to access your funds until they mature, but you’ll know exactly what you’re getting at the end of the wait. High-yield savings accounts are like the yellow bananas: the interest rates can be unpredictable, but you can access your money whenever you want.

Of course, maybe you don’t eat bananas and this metaphor doesn’t resonate with you. To figure out which option is better for you, let’s first take a look at how a CD and a high-yield savings account work and the pros and cons of each. 

Why you should save your money

There are two ways to get your money to work for you:

  • Save. When you save money, you put those funds into financial institutions, like banks or credit unions, with the intention of taking them back at a later time. While your money is in their hands, the bank or credit union pays you interest on the total amount you’re saving. The primary banking products you can use to save money are certificates of deposit and savings accounts.
  • Invest. Investing generally involves putting money into the stock market. While this does offer the possibility of higher returns, it also comes with a higher degree of risk. A depositor who puts their money in a bank knows when they will get it back and how much they will earn, but an investor does not know for sure if they will gain or lose money when they sell their stock.

In short, if you want fewer risks, the certainty of knowing how much you will earn, and the peace of mind of knowing where your money is and when you’ll get it back, you should save your money in a savings account or a certificate of deposit.

Certificate of deposit (CD)

Back in the ’60s and ’70s, when people still used dial telephones, banks had a savings vehicle called a passbook savings account. It paid interest in the low single digits. Then inflation soared, and suddenly depositors wanted an alternative. Six-month U.S. Treasury Bills were offering much higher interest rates, hitting 13.78% in 1981.

Banks started offering certificates of deposit to attract depositors seeking to take advantage of higher yields. Today, there are several types of CDs, but in the interest of simplicity, let’s focus on the traditional CD.

A CD is essentially a timed deposit. The money is tied up for a set period of time, usually as short as a few months or as long as five years. Interest is then credited at six-month intervals, and depositors can choose to withdraw or reinvest their interest. At the end of the term, the depositor can withdraw their money and collect their interest or choose to reinvest it. Buying another CD to replace the one that has matured is called a rollover.

Because CDs lock in your interest rate, they are funded with a lump-sum deposit. CDs may also have minimum deposit requirements. Decades ago, the minimum was $10,000. Today, the starting point may be as little as $500 or $1,000. This amount will vary depending on the bank that offers your CD.

If you need to access your money before the maturity date, you must pay a penalty for early withdrawal. This penalty varies between institutions and certificates. For example, the penalty for early withdrawal on a one-year CD might be three months of interest, while the penalty on a five-year CD might be six months’ interest or more.

Pro Tip

If you do not need access to your money anytime soon, consider building a CD ladder composed of several maturity dates. Regardless of the length of your CD, you should read the fine print to understand the withdrawal penalties attached.

High-yield savings account

When interest rates were high, financial service firms stepped in to offer consumers an alternative to traditional savings accounts, which were called passbooks. Thus, money market funds were born. These funds were invested in short-term loans, like commercial paper. They were uninsured but offered higher rates of interest compared to the passbook savings accounts at banks. Customers could access their money any time they wanted, often by using a checkbook.

Later, the banks got into this business by offering the money market account, then the high-yield savings account. These are similar to money market accounts and can be accessed whenever the depositor wishes, but there is a catch: there is a limit of six “free” withdrawals per month, after which the bank charges a fee for each subsequent withdrawal.

Although it may come with an attractive introductory rate, the interest rate on a high-yield savings account is variable and is usually credited to the account at fixed intervals. The frequency of compounding can vary by institution. On the plus side, unlike money market funds, a high-yield savings account is covered by FDIC insurance. This makes it a good option to save money for immediate access, like emergency funds, since you can withdraw the money at any time (but no more than six times per month).

Note that this is not the same as a checking account, although some savings accounts can come with a checkbook. Generally speaking, checking accounts at banks do not pay interest.

Pro Tip

Before depositing your money, check to make sure the product you are being offered is issued by a U.S. bank and insured by the Federal Deposit Insurance Corporation (FDIC).

CDs vs high-yield savings accounts

The main similarity between certificates of deposit and high-yield savings accounts is that they both allow you to take advantage of high interest rates. Also, if they are issued by U.S. banks, both are insured by the FDIC.

That said, a high-yield savings account will allow you access to your money at any time you choose. Interest rates vary over time, so you will earn whatever the current interest rate is, but this interest credits fairly frequently.

On the other hand, a certificate of deposit locks in a single interest rate for a set term. Access to the principal is restricted until the maturity date (unless you pay an early withdrawal penalty), and CDs generally credit interest on a monthly or semi-annual basis.

How to choose between a CD and a high-yield savings account

Both high-yield savings accounts and certificates of deposit are products designed for savers. If your tolerance for risk is low, you’re much better off investing in one of these products than in the stock market. When deciding which option is better for you, ask yourself the following questions:

How soon do I need my money back?

Maybe you need an escrow account for the purchase or sale of real estate. Or maybe your child’s school tuition is due in the next several weeks. If you need your money back sooner than later, a high-yield savings account is the better choice because it gives you easy access to your money. It is also the ideal option for an emergency fund, as you never know exactly when you might need those funds.

Am I saving for a long-term goal?

If you are in your 30s and still have many working years ahead, you don’t need to constantly access money saved for retirement. A certificate of deposit is a good choice for a long-term goal because you’ll know exactly how much you’re making and you likely won’t need to touch the money before the maturity date.

Do I need predictable income?

Imagine you’ve won the lottery. You decide to take an annuity payout and live off the income for the foreseeable future, knowing exactly how much money you will be getting every year.

While it won’t net you nearly as much as a Mega Millions win, investing in a series of CDs would provide you with the same kind of predictability of income. If that security sounds appealing to you, a certificate of deposit may be the way to go.

Are interest rates going up or down?

If interest rates will likely be higher six months or one year from now, it makes sense to keep your money in a high-yield savings account. Your earnings will increase with your interest rates, and if rates rise substantially, you’ll be able to withdraw the money and buy CDs any time you want.

However, if you think interest rates will be lower in six months or one year, it may be better to lock in higher rates now by investing in CDs.

What if I have no idea what interest rates will do?

You can take a middle-of-the-road approach, either by dividing your money between CDs and a high-yield savings account or by buying a series of CDs with different maturities, a strategy known as a CD ladder.

For example, you could buy five CDs, with the shortest maturing in a year and the longest maturing in five years. In one year, if rates rise, you can reinvest the money from the CD with the shortest term. If rates fall, however, you can keep the higher interest rates you’ve locked in.


Is a CD better than a high-yield savings account?

It depends. A CD is a better choice if you do not need immediate access to the money and you have reason to think interest rates will be going down.

Is high-yield savings the same as a CD?

Both are FDIC-insured banking products for saving money, but a CD has a set interest rate while a high-yield savings account has a variable interest rate.

Are high-yield CDs worth the investment?

High-yield CDs are worth the investment if you prioritize predictability, and they are a safe choice if you believe interest rates will be going down in the near future.

Is it better to invest in CDs or stocks?

Stocks have traditionally provided a higher return over the long term, but they are very volatile over the short term. Thus, investing in stocks comes with a higher degree of risk. If you have a lower tolerance for risk, a CD may be a better investment for you.

How much will a $10,000 CD make in a year?

That depends on the interest rate. Imagine you invest $10,000 in a 12-month CD at an annual percentage yield (APY) of 3.5%. After one year, the CD will have earned $350 in interest, so you will withdraw a total amount of $10,350.

Will CDs be worth it over the next few years?

It depends on your situation. If you have enough money to invest and you do not need immediate access to the funds, it may be worth locking in higher interest rates in a CD ladder.

Key Takeaways

  • Certificates of deposit (CDs) and high-yield savings accounts are both banking products designed to help you save money. They both come with high interest rates and are insured by the FDIC when offered by U.S. banks.
  • A certificate of deposit locks in a single interest rate for a set period of time. You cannot access the money until the maturity date (unless you pay early withdrawal penalties), but you’ll know exactly how much you’ll earn at the end of the term.
  • A high-yield savings account has a variable interest rate, but you can withdraw money from the account at any time (up to six times a month).
  • CDs are the better option for long-term goals and predictable interest earnings, while high-yield savings accounts are the better option for emergency funds and savings that need to be accessed in the short term.
View Article Sources
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