A certificate of deposit guarantees specific earnings, but this is a two-way agreement. It usually requires you to deposit and keep a given amount of money in the account for a specific period. If you withdraw your money before the account matures, you typically have to pay an early withdrawal penalty.
A traditional CD pays an agreed-upon interest rate and is assessed an early withdrawal penalty if you take your money out before it matures. This is usually several months of interest, but your principal, or original investment, remains intact. New investment options include CDs that allow you to take cash out as needed without incurring fees. However, you shouldn't expect to receive the same return as if you had left your investment untouched until the end of the original contract. Within this nontraditional option, you'll also find CDs that offer variable rates, allow you to withdraw the interest without penalty as long as your invested capital stays intact, or pay earnings based on the performance of a market index such as the Dow Jones.
Some CD contracts provide for the certificate to renew automatically if you do not withdraw the money when the account matures. If you miss your original agreement's deadline to take your cash out, you may find yourself paying a withdrawal penalty or waiting for another investment cycle to end before you can access your money penalty-free.
You may be able to protect your CD against early withdrawal losses by using a method called "laddering," according to the Federal Deposit Insurance Corp. Using this strategy, you divide your total investment into CDs that mature over different lengths of time. For example, instead of putting $15,000 in one CD, you might buy three $5,000 CDs, with one maturing in three months, the second in six months and the third in 12 months. The interest earned by the shorter-term CD may be lower, but its principal and earnings will become available to you sooner.
Plan for the unexpected when you choose a CD if you are concerned about losing money. Reduce your potential loss by comparing CDs to identify the one that offers an acceptable rate of return while assessing the lowest fee for early withdrawals. Before you sign the agreement, verify the terms you discussed verbally with the bank's agent are the same stated in writing. The FDIC also alerts CD buyers that financial institutions may promote high interest rates in their advertisements but fail to disclose these only apply to low investments. For example, the fine print for a $5,000 contract may say only the first $1,000 you invest accrues 5 percent interest, while the remaining $4,000 earns 2 percent.