A certificate at a bank, usually called a certificate of deposit or CD, is a savings account where you agree to leave a set amount of money with the bank for a fixed period in return for a guaranteed interest rate. Federal rules classify CDs as “time deposits,” which means the bank can restrict withdrawals for the full term and must charge a penalty if you take the money out early.1eCFR. 12 CFR 204.2 – Definitions In exchange for locking up your cash, you generally get a higher, more predictable return than a regular savings account, along with federal deposit insurance up to $250,000.
How the Account Works
You open a certificate by depositing a lump sum and choosing a term. Terms commonly run from one month to five years or longer. Whatever rate the bank quotes when you open the account is the rate you keep for the entire term, regardless of what happens to interest rates in the broader economy.
That rate is expressed as an Annual Percentage Yield (APY), a standardized figure required by the Truth in Savings Act that reflects the total interest earned in one year after compounding.2eCFR. 12 CFR Part 1030 – Truth in Savings (Regulation DD) APY lets you compare offers between banks on the same footing, even when they compound interest on different schedules.
Under Federal Reserve Regulation D, a time deposit has to have a minimum term of at least seven days, and the bank must impose an early withdrawal penalty of at least seven days’ simple interest on any amount pulled out early. If a bank fails to enforce that penalty, the account legally stops qualifying as a time deposit.1eCFR. 12 CFR 204.2 – Definitions That penalty structure is the whole reason banks can afford to pay more on CDs than on savings accounts: they know how long they’ll have your deposit.
Federal Insurance Protection
Certificates at FDIC-insured banks are protected up to $250,000 per depositor, per ownership category. The FDIC explicitly lists CDs among the account types its insurance covers.3FDIC. Deposit Insurance If you hold your certificate at a credit union, the National Credit Union Administration provides the same $250,000 coverage per member-owner in each ownership category.4NCUA. Share Insurance Coverage
Because the limit applies per ownership category, one person can hold an individual CD, a joint CD, and a revocable trust CD at the same bank and have well over $250,000 insured in total. Even if the bank fails, your principal and accrued interest are covered up to those limits.
Early Withdrawal Penaltiesh2>
The main catch is what happens if you need the money before the term is up. Federal law sets seven days’ simple interest as the minimum penalty, but most banks charge considerably more.1eCFR. 12 CFR 204.2 – Definitions Typical structures run 90 days of interest on shorter CDs and anywhere from 150 to 365 days of interest on longer terms. The penalty calculation must be disclosed to you before you open the account.5eCFR. 12 CFR 1030.4 – Account Disclosures
Here is the part that surprises people. If you break the CD before it has earned enough interest to cover the penalty, the bank takes the difference out of your principal. You can walk away with less than you deposited. That risk is largest when you cash out a multi-year CD in its first few months, so read the penalty schedule carefully on longer terms.
Types of Bank Certificates
The plain fixed-rate CD is the most common product, but banks and brokerages offer several variations meant to soften the lock-up.
- A no-penalty CD lets you withdraw the full balance before maturity without giving up any interest. The rate is usually lower than a standard CD of the same term.
- A bump-up CD lets you request a one-time rate increase during the term if the bank’s rates rise after you open the account. Most bump-up CDs allow only a single adjustment, and the starting rate is typically lower to compensate for the option.
- A step-up CD raises the rate automatically on a preset schedule, regardless of what happens in the broader rate market.
- A jumbo CD requires a large minimum deposit, traditionally $100,000, though some banks set the floor at $50,000. Rates on jumbos are sometimes higher, but the gap has narrowed.
- A brokered CD is bought through a brokerage rather than directly from the issuing bank. You can sell it on the secondary market before maturity instead of paying an early withdrawal penalty, but the sale price moves with current interest rates, so you might receive more or less than you put in.
What You Need to Open One
Opening a certificate takes the same identity verification as any other bank account. Federal anti-money-laundering rules require the bank to collect at minimum your name, date of birth, address, and a taxpayer identification number such as a Social Security Number or ITIN.6eCFR. 31 CFR 1020.220 – Customer Identification Program Requirements for Banks You will also need a government-issued photo ID.
Beyond ID, you pick the term length, the deposit amount, and how the interest gets handled: paid out on a schedule, or compounded back into the CD until maturity. Minimum deposits commonly run from $500 to $1,000 on standard products and $50,000 to $100,000 on jumbo products. You can apply online or in a branch.
Naming a beneficiary at opening is worth doing. A payable-on-death designation sends the funds directly to the person you name if you die, without going through probate. The ownership structure you choose also affects your insurance coverage, so it’s useful to think through before you sign.7FDIC. Trust Accounts
What Happens at Maturity
When the term ends, you get a short window to decide what to do. Federal rules set a grace period of at least five calendar days during which you can withdraw or make changes without penalty.8eCFR. 12 CFR 1030.5 – Subsequent Disclosures Some banks give you longer, but five days is the floor.
If you do nothing, the bank automatically rolls the CD into a new term of the same length at whatever rate is current, which might be higher or lower than the rate you had. During the grace period you can also take the full balance out, change the term, add money, or move to a different product. For CDs longer than one month that renew automatically, the bank must send a maturity notice at least 30 days before the term ends, or at least 20 days before the grace period ends.8eCFR. 12 CFR 1030.5 – Subsequent Disclosures Mark the date. Miss the grace window and your money is locked up for another full term.
How the Interest Is Taxed
Interest on a CD is taxable income. The IRS treats it like any other interest, and it is taxed in the year the bank credits it to your account, not the year you actually take it out.9Internal Revenue Service. Topic No. 403, Interest Received On a multi-year CD that compounds annually, you owe tax on each year’s interest even though the money is still locked in the account.
The bank must report interest payments of $10 or more to the IRS on Form 1099-INT and send you a copy each January.10United States Code. 26 USC 6049 – Returns Regarding Payments of Interest Interest below $10 is still taxable; the bank just isn’t required to file the form. Most states with an income tax also tax CD interest, which is worth knowing if you’re comparing CDs against Treasury securities, whose interest is exempt from state and local tax.
Laddering as a Strategy
A CD ladder addresses the central tension of certificates: you want the higher rates on longer terms without locking up all your money for years. Instead of putting $10,000 into a single five-year CD, you split it across CDs maturing in one, two, three, four, and five years.
Each year one CD matures, giving you access to a slice of the money. If you don’t need it, you roll that slice into a new five-year CD at the long end of the ladder. Over time, every dollar earns the long-term rate, but you still have something maturing every year for liquidity.