CDs Are Among the Safest Investments for your IRA

A Low Risk/Return Option

Piggy in the Vault
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A CD IRA is a combination of two things: a certificate of deposit (CD) and an individual retirement account (IRA). Those two things can be used together, or you can use either one of them separately. For example, you can have an IRA that doesn’t use CDs as an investment, or you can use CDs in other types of non-retirement accounts.

Certificates of Deposit

CDs are extremely safe investments available from banks and credit unions.

They pay interest on your cash, and they often pay more than you can earn in a standard savings account. In order to earn the higher rate, you need to leave your money untouched in that account for a certain amount of time (such as 18 months or two years).

In exchange for that commitment, your bank pays more interest. But what if you need your money sooner? CDs often allow you to withdraw your funds before the term ends, but you’ll generally be charged an early withdrawal penalty. However, some CDs are liquid CDs, allowing you to pull some or all of your money out early without any penalty. Keep in mind that there might not be any penalty from the bank, but you might have to pay taxes or penalties to the IRS if you remove funds from an IRA.

CDs are a simple investment: you pick a timeframe that you’re comfortable with and you know exactly how much you’ll earn. You can also get more advanced and use strategies like CD ladders to manage changes in interest rates and the potential need for cash.

Individual Retirement Accounts

IRAs are a type of account designed for retirement savings. They offer certain tax benefits (that come with tradeoffs, of course), which can hopefully help you build up more for retirement:

  • Contributions might be tax deductible (depending on your income and the type of IRA you use)
  • Interest earned inside of the account may be shielded from current taxes (or tax-free, again depending on the type of IRA you use)

There are two basic types of IRAs: Traditional and Roth. With traditional IRAs, you have the opportunity to (potentially) deduct your contribution – check with your tax preparer to find out if you can deduct. Later in retirement, you’ll have to pay income tax on those withdrawals. With a Roth IRA, your contributions are not deductible. However, you have the opportunity to (potentially) withdraw your money without any further tax liability – assuming you follow all of the IRS rules and get approval from your tax preparer.

In exchange for offering certain tax benefits, there are also strings attached to IRAs. In some cases, if you pull your funds out early, you may have to pay additional tax penalties. Make sure you understand the rules before you put money into an IRA.

For more details, read a comparison of Traditional vs. Roth IRAs.

Using CDs Inside of an IRA

An IRA is a type of account that allows you to use many different types of investments – CDs are just one option. Likewise, you can own CDs outside of your retirement accounts: you can own them individually, or jointly with a spouse, for example.

A CD IRA is a retirement account that is entirely invested in CDs. This is a strategy you might use if you’re a conservative investor who wants to make sure you don’t lose money in the stock markets. Assuming your bank (and your funds) are FDIC insured, you’ve got a government guarantee that you won’t lose money in that account.

With your IRA invested in CDs, you can expect to earn slightly more than you’d get from a savings account. That little bit is helpful, but it might not be enough to help you outpace inflation over the long-term. Depending on your needs and goals, it might be worth looking at other types of investments. Talk with a local, licensed financial planner to find out what’s best for you.

Using CDs (or not) in an IRA isn’t a black-or-white thing. You can own CDs and other types of investments.

Important: tax laws are complicated, and the rules change from time to time. Speak with a local competent tax advisor before you make any decisions about what to do (or not) with your money.