Rising interest rates mean banks are finally offering decent returns on deposits again. If you want to make the most of your cash, checking out certificates of deposit, or CDs, is a smart move.
CDs are federally insured, just like you’re checking and savings accounts, but they usually come with much better interest rates. In 2023, some CD rates hit 6% or more. The catch? Unlike other bank accounts, CDs require you to lock up your money for a set period, which can range from a month to five years or more.
That’s where a CD ladder comes in handy. This strategy involves splitting your savings into several CDs that mature at different times. This way, you can earn the most interest possible while still having access to some of your money.
The ladder is a very simple tool that gives you the maximum amount of flexibility.
How to Find the Best CD Ladder Rates
CDs usually pay higher interest rates than checking and savings accounts because they require you to lock up your money for a specific period. For example, in October, the average savings account paid 0.46%, while average CD rates ranged from 0.22% to 1.50%. Online banks and credit unions often offer even better rates.
Rates vary based on the length of the CD and how much you deposit. Typically, the more money you’re able to invest and the longer the term, the better the rate you’re going to get.
While some big national banks have started offering competitive CD rates, it’s also worth checking out online banks, local community banks, and credit unions. CDs are available in various terms, from a few months to five years or more. Some institutions even offer CDs with terms as short as 30 days, but those usually don’t have great returns.
Banks often have promotional CD rates, too. These rates might look appealing but aren’t always ideal for laddering because they often come in odd terms, like 11 months instead of a full year.
How to Set Up a CD Ladder
A CD ladder is a savings strategy that offers the higher yield of a CD with the flexibility of a savings account.
You create a CD ladder by dividing the amount you want to save into smaller portions and putting those into individual CDs with staggered maturity dates. When a CD matures, you roll those funds into a new CD, potentially at a higher interest rate.
Here’s a simple example: Let’s say you have $15,000 to invest in CDs. Instead of putting it all into one CD, you could create a ladder with three different CDs:
- $5,000 in a 3-month CD
- $5,000 in a 6-month CD
- $5,000 in a 1-year CD
When the 3-month CD matures, you roll it into a 6-month CD. This way, at any point, you’ll have access to $5,000 every three months, giving you a nice balance of earning interest and keeping your money accessible.
How Much Money Do You Need for a CD Ladder?
While some banks have minimum deposits of $1,000 or more for CDs, many set the bar lower, or have no minimum at all. This means you can build a CD ladder even with a modest amount of money. If you aim for a five-year ladder and use CDs with a $500 minimum deposit, you could start with as little as $2,500.
How Long Should a CD Ladder Be?
A three-year or a five-year ladder are oftentimes best, because longer-duration CDs generally offer higher returns than shorter-term ones. If you think you’ll need the funds in less than three years, a high-yield savings account might be a better option, offering similar interest rates without the limitations of a CD.
Most CDs have penalties if you withdraw funds before maturity, ranging from 30 days to a full year’s worth of interest, depending on the term. If you don’t want to risk it, look for a no-penalty CD, but note that they usually have lower interest rates than traditional CDs.
What Are the Benefits of CD Laddering?
The main benefit of laddering is that you always have access to some portion of your savings within a relatively short time frame. While not a substitute for an emergency fund, a CD ladder can effectively augment one. If the first CD in your ladder matures in three months, you can keep enough money in a regular savings account to cover expenses during those three months and invest the rest in a ladder of CDs with higher interest rates.
In a rising interest rate environment, laddering CDs helps you capture potential rate increases. If you had locked $10,000 into a three-year CD in 2021 or 2020, you’d probably regret it now. But if you split that total into $2,000 blocks with staggered maturity dates, you would have the chance to reinvest part of your savings at higher rates as the Fed raises interest rates to combat inflation.
Laddering also allows you to benefit from the higher yields offered by longer-term CDs. Once you have a ladder with regular maturity dates, each new CD you buy will have a term corresponding to the farthest date of your ladder, letting you earn extra interest while keeping some of your money accessible.
How Many CDs Can You Have at One Bank?
There’s no limit to how many CD accounts you can have at one bank, but FDIC insurance typically covers only up to $250,000 in deposits at a single institution. If you plan to have more than that in CDs, spread your accounts across several banks to ensure your funds are fully protected.
What Are Some Alternatives to a CD Ladder Strategy?
Experts suggest that you can use the laddering technique for other types of financial products as well. Any low-risk, fixed-income instrument works well in a ladder. It could be a CD, a Treasury, an investment-grade corporate, or municipal bond.
Short-Term Treasurys
Like CDs, short-term Treasurys are sensitive to Fed rate changes and offer marginally more favorable tax treatment. Earnings are taxed federally at ordinary income rates, but interest on deposit accounts (including CDs) and corporate bond yields are also taxed at the state and local levels.
No-Penalty CDs
One of the biggest drawbacks of CDs is the penalty for early withdrawal. Some banks offer non-penalty CDs, but these typically have lower rates of return.
Brokered CDs
Brokered CDs, bought through brokerage accounts, offer higher returns than conventional CDs without risking your principal. They allow you to hold CDs with multiple banks and credit unions at once, helping to ensure FDIC insurance coverage (since the limit is $250,000 per institution).
Brokered CDs can also be sold before maturity without early withdrawal penalties, but they are callable, meaning the bank can terminate the CD at any time.
Savings Accounts
If you prefer not to lock away your money or don’t want to manage CD rollover dates, consider high-yield savings accounts. While CDs offer higher APYs, many online and some traditional banks offer savings accounts with returns of 4% or higher.
For those with the time and funds, a CD ladder is a risk-free strategy that can earn higher returns over time. The nice part about laddering CDs is you’re getting a higher rate for your savings, but you’re still able to maintain that liquidity.
