What Are Small and Medium-Savings CDs?

Small and medium-savings certificates of deposit (CDs) are short-term certificates of deposit of amounts less than $100,000. Amounts over $100,000 are called negotiable CDs.

CDs have two advantages: you know how much will be earned on them, and you know when the money will be available to you.

When you deposit money into a CD, you must leave it there for a specific number of days, usually for a stated interest rate. Generally, the more money you deposit into the CD and the longer it stays there, the higher the rate you receive. Any interest earned is taxable, unless the CD is included in a tax-qualified retirement account. You will receive both principal and interest at maturity. CDs have two advantages: you know how much will be earned on them, and you know when the money will be available to you.

Because your money is expected to stay on deposit until maturity, the bank may assess a penalty if you withdraw your money early. Usually, the penalty is three to six months' interest.

CDs quote both annual interest rate and annualized percentage yield. It is important to remember that these two terms are different. The annual interest rate is the yearly interest paid on the deposit. If the CD is for a term less than one year, or if the interest is compounded more frequently than annually, the annualized percentage yield represents the compounded return on the deposit if held at that annual interest rate for one year. Compounding means that interest is paid on both the principal and interest earned. For example, if the annual rate on a 6 month CD is 6 percent, the annualized percentage yield would be 6.09 percent. However, if the deposit were withdrawn at maturity in 6 months, it would only have earned that annualized 6 percent for half a year. CDs may compound annual interest daily, monthly, quarterly, or semi-annually. If the 6-month CD above were renewed for another 6 months at 6 percent, the amount deposited plus interest would earn 6.09 percent after one year.

CDs may be covered by the Federal Deposit Insurance Corporation (FDIC), the National Credit Union Share Insurance Fund (NCUSIF), or other federal deposit insurers, depending upon which type of financial institution you use. The federal deposit insurers insure each individual's savings deposits for $250,000 ($250,000 for retirement plan accounts) through December 31, 2009, after which the amount will revert to $100,000. If your CD and your other deposits don't exceed these limits, the federal insurance will cover your CD.