# CDs vs. Savings accounts

If I’m going to put money, we’ll say 2500 dollars in a 3-month CD, am I going to get a noticably higher return on my money? Also, is there a calculator somewhere online where I can do this sort of math?

Granted, I’m no expert, and I’ve done a bare minimum of research on the matter, but here’s what I’ve found out.

I had a little money to invest, so I went to a couple banks and looked at the rates I could get on savings accounts and on CDs.

In my savings accounts, I’m lucky to get about 1% annually. This means that every month, my \$2500 account gets about \$0.80 added to it. Yippee.

I could get a 3-month CD for about that same 1% annual interest. The long-term CDs, 3 years and such, weren’t much better. Perhaps 2-3%.

Saving money this way appears to be a joke, once you factor in inflation.

Depressed the heck outta me, lemme tell you.

The good news: CD’s do pay more interest than savings accounts. The longer the term of the CD the higher the interest rate.

The bad news: Interest rates in general are so low that to have a noticable difference your going to have to use a microscope to review your bank statement.

According to www.bankrate.com, a 1 month CD is paying .89% and a 6 month CD is paying 1.35%. We’ll assume that your 3 month CD pays halfway between, or 1.12%. Remember that rates are quoted on an annualized basis - that is if you left your money in for a full year you would have 1.12% more than you started with.

The math breaks down like this: ((Beginning deposit X interest rate%) / days in the year) X days funds are on deposit. In your case this would be ((2500 X 1.12%)/365)x90. You would earn \$6.90 on your CD investment in 3 months time.

Also according to bankrate.com, passbook savings accounts are averaging about 1.10% interest or \$6.78 over 3 months on a \$2500 deposit. Is 12 cents noticable?

To get any real appreciable difference you’d have to move up to a 2 year CD at 2.18% interest. It’s still not a big return but you’d make \$13.62 per quarter (\$109.00 after the full 2 years) as opposed to >\$7.00 per quarter.

If you must stick with the 3 month term I’d suggest you go ahead and invest \$2.5 million instead and get a return of \$6904.10. Now we’re talking pocket change!

I knew the formula, but not the interest rates. Thanks, though. That makes me sad, though, that I have to tell that to my dad. He’s harping on me to get a CD instead of leaving it in my savings account so it will be there if i need it, w/o penalty. It’s never fun to have to tell him that he’s wrong.

If you’re looking for some kind of short-term savings investment (or somewhere to stash an emergency fund for a long term) you have a lot more options then CD’s and savings accounts. You should also consider a money market, a money market mutual fund, or a short-term bond fund.

Money markets are administered by banks and are FDIC insured. In practice they are similiar to a savings account. You’ll earn a slightly higher interest rate, and you typically have to make a substantial minimum investment. You’re usually able to write checks directly on it, although this is usually limited to either a certain number of checks a month or a minimum amount of money the checks can be for. This option probably isn’t that great an idea for you.

Money market mutual funds are administered by mutual fund companies and are not FDIC insured, although they are considered a very safe investment. They’re like any other mutual fund in that you buy and sell shares in them; however, the mutual fund company goes to great lengths to insure that the share price is always \$1. This means that (in practice if not theory) you never have to worry about losing any of your principal. They typically have a much higher interest rate then bank money markets–Vanguard’s Prime Money Market (VMMXX) has averaged %4.33 annual returns over the past 10 years (keep in mind that returns have been low the last couple years because of the extremely low interest rates). There are also tax-exempt money market funds to look at if you have a high tax bracket. Often you can write checks on money market mutual funds, with restrictions similiar to those for bank money markets (e.g., Vanguard requires the checks be for more then \$200). These usually have a minimum investment amount required to open an account.

The last option to consider would be a short-term bond fund. This would be an ideal candidate if you plan on saving that money indefinately for a rainy day, and can tolerate minor price fluctations–it’s possible that you’ll lose prinicipal over the short term, so only consider this if you’re reasonably sure you won’t need the money for a year or more, or you have enough that you can afford to lose a bit over the short term. The returns are usually higher then a money market fund. There are a variety of tax-exempt funds to choose from. I use Vanguard’s Limited-Term Tax-Exempt fund for my own rainy-day fund. 10-year average return is %4.72, exempt from federal taxes. You can often write checks on these (subject to amount limitations), and there is usually a minimal investment amount required.

The First National Mattress Bank is paying 0% on three-month CDs. Your money may not be as secure, but access is better. They’re open 24/7.

How about opening an account with a web bank? Last time I checked, ING was paying 3% – and that’s without tying up your money for a set period. (I think it takes a day or two to transfer funds back to your bank.)