Should I Put My Emergency Fund in a CD?

Should I Put My Emergency Fund in a CD?

When an unexpected expense arises, you'll need to access your emergency fund quickly. CDs may not be the best choice for this purpose because they usually require "locking in" your money for an extended period before you're able to withdraw it.

When you deposit money in a CD, you agree to leave it there until the CD reaches maturity—usually in three months to five years, although you can find shorter and longer terms. A CD earns interest until maturity, at which point you can either withdraw your initial deposit plus accrued interest or roll the money into a new CD.

Most CDs charge a penalty for withdrawing money before maturity. For example, you might have to pay 90 days' worth of any interest you've earned. In contrast, you can take money out of a savings account without paying a penalty or giving up any interest you've accumulated.

Unlike traditional CDs, a no-penalty CD (or liquid CD) allows you to withdraw money before maturity without paying a penalty. However, no-penalty CDs have some important limitations:

• You must wait at least seven days after opening your account to withdraw funds.
• You're usually required to withdraw the entire balance (including interest).
• No-penalty CDs tend to have far lower annual percentage yields (APYs) than standard CDs, high-yield CDs or other savings options, such as high-yield savings accounts or money market accounts.

Getting money out of a CD can also be a more involved process than making a withdrawal from your savings account. That could be a problem when you need money fast.

Pros and Cons of Using CDs for an Emergency Fund

Before putting your emergency fund in a CD, carefully weigh the pros and cons.

Pros:

• Your money earns interest at a guaranteed rate. Unlike savings accounts, which have variable interest rates, most CDs have fixed interest rates. Locking in a high APY can benefit you if rates drop after you open a CD. As of July 17, 2023, the average APY on a 12-month CD is 1.72%, according to the Federal Deposit Insurance Corp. (FDIC), but you can currently find high-yield 12-month CDs offering APYs of 5.25% or more.
• CD laddering can help you stay liquid. You can get CDs with variable term lengths—for example, a three-month CD, six-month CD and 12-month CD—to maximize your earnings while giving you easier access to your cash.
• Your money is safe if federally insured. CDs at banks insured by the Federal Deposit Insurance Corp. (FDIC) or credit unions insured by the National Credit Union Administration (NCUA) are protected up to $250,000 per account holder, per account, in case of a bank or credit union failure.

Cons:

• You'll risk early withdrawal penalties. Unless emergency strikes right as your CD matures, you'll typically face penalties that can cost you a chunk of your interest—or even some of your principal. A six-month CD might charge a penalty of 90 days of interest; if you've only had the CD for 45 days, the other 45 days' worth of interest might be deducted from your principal.
• No-penalty CDs may require withdrawing your entire balance. You can take money out of a no-penalty CD starting seven days after opening the account without paying a penalty. In most cases, however, you can't make a partial withdrawal—you'll have to empty your account.
• Withdrawing money from a CD may take time. Getting money out of a savings account is simple. Just use the bank's website, app or ATM or visit the teller window to transfer money to your checking account. If both accounts are at the same bank, transfers usually happen instantly. Early withdrawal from a CD can be more complicated. Some banks or credit unions require calling or visiting in person to request a withdrawal. After paying any penalties, you may receive your money as cash or a direct deposit—but you might also have to wait for a check to arrive in the mail.
• You may not meet the minimum deposit requirement. Many CDs require a minimum initial deposit of $500 to $2,500 and up. Savings accounts can often be opened with no initial deposit or a very small deposit, such as $25. If you're just beginning to build your emergency fund, you might not have enough to open a CD yet.

Other Places to Keep Your Emergency Fund

There are plenty of other safe places to stash your emergency cash. All of the options below are federally insured up to $250,000 per person, per account, if opened at FDIC- and NCUA-insured banks or credit unions.

• Traditional savings accounts have variable APYs, fluctuating based on the Federal Reserve's benchmark interest rate. The downside to savings accounts is their relatively low APY: As of July 17, 2023, the average APY on a traditional savings account is 0.42%, according to the FDIC.
• High-yield savings accounts also have variable interest rates and limitations on withdrawals, but offer significantly higher APYs. As of July 31, 2023, you can find high-yield savings accounts with APYs of 4% and up. Many high-yield savings accounts are with online-only banks, so you won't have a physical branch to visit. However, it's generally easy to withdraw money from a participating ATM or transfer it to a checking account.
• Money market accounts, available at most banks and credit unions, are a hybrid between checking and savings accounts and usually boast higher APYs than traditional savings accounts. As of July 17, 2023, the FDIC reports the average APY on a money market account was 0.63%, but money market accounts are currently available with APYs of 5% and above. Money market accounts let you write a limited number of checks, so when an emergency strikes, you don't have to transfer money from your savings account to your checking account. As with savings accounts, interest rates vary with Fed benchmarks.

Whether you're opening a savings account, money market account or CD, be sure you understand the account's terms, including any fees, minimum deposit or minimum balance requirements and penalties.

The Bottom Line

Without an emergency fund, you might end up paying unexpected expenses with credit cards, a bad habit that can lead to high-interest debt. Automating your savings can help build your emergency fund, providing peace of mind that you can handle whatever life brings. Another smart financial move: Sign up for free credit monitoring through Experian. This will allow you to keep tabs on your credit report and get alerted to potential problems so you can take action immediately.