Short-term CDs vs. long-term CDs: Which is best for you?

Short-term CDs currently pay more, but longer-term maturities give you a guarantee of relatively high yields even if rates come down in the near term. Consider a plan, then, that takes advantage of various CD maturities, or pick one particular term that matches up with a specific spending need. 

What is a CD term and how do CDs work?

A CD term is the amount of time that your funds stay in a CD. With few exceptions, the money you deposit is off-limits to you until time is up, lest you pay an early withdrawal penalty. In exchange, you’ll typically receive a higher yield than you would from even a high-yield savings account.

Whatever term length you choose, however, up to $250,000 of your funds are covered by deposit insurance at each insured institution. The Federal Deposit Insurance Corp. (FDIC) guarantees deposits held at banks while the National Credit Union Administration does the same for credit unions. 

What is a short-term CD?

While there is no hard-and-fast delineation between short- and long-term CDs, it’s commonly accepted that short-term certificates mature within 12 months. You can often find them offered in increments of three-month terms:

• Best one-month CD rates.
• Best six-month CD rates.
• Best nine-month CD rates.
• Best one-year CD rates.

Traditionally, short-term CDs have lower rates than their long-term brothers; the idea being that if you make a shorter commitment, you earn less. That isn’t the case right now, though. The Federal Reserve jacked up short-term rates (causing banks to follow suit) in a bid to quash inflation, while market participants believe economic growth will slow from current levels, thereby putting pressure on long-term rates.

Though this dynamic is likely to revert, you can still take advantage for the time being. 

What is a long-term CD?

Generally, a long-term CD has a maturity lasting longer than a year, but take note that there’s no one industry definition. You may see some sources calling CD terms from 11 to 23 months as “medium-term CDs,” labeling only those that last two years or more as long term.

However you define it, opting for a lengthier term allows you to secure a rate for a longer period of time. These are some of the top long-term CDs to consider:

• Best 18-month CD rates.
• Best two-year CD rates.
• Best three-year CD rates.
• Best five-year CD rates.
• Best 10-year CD rates.

Pros and cons of short term CDs

Investing in CDs can help you generate high returns, but they aren’t for everyone. These are their pros and cons.

Pros

• Access your money sooner: It’s generally good to maintain some amount of liquidity. Having access to your funds sooner rather than later gives you the flexibility to take advantage of other high-yielding opportunities that may pop up.
• Gain top-notch rates: Short-term CDs currently have the highest CD rates available.
• Be less likely to incur a penalty fee: Since you don’t have to store your money for as long, it’s less likely that something will spark a need for you to make an early withdrawal and trigger a penalty fee.

Cons

• Receive less interest in total: Even with today’s higher rates, keeping your money in a CD for only a short time means you’ll earn less interest in total on a short-term CD compared to a long-term one.  
• Deal with fluctuating rates: Interest rates fluctuate and can go down considerably if the Federal Reserve decides to embrace a dovish stance. Long-term CDs let you lock in a rate for more time, which offers a better guarantee.
• Do more work to stay on top of your CDs: Short-term CDs mature sooner, which means you have to reconsider rates and your options every few months.

Pros and cons of long-term CDs

Just like their short-term counterparts, long-term CDs also have some pros and cons to consider.

Pros

• Earn more interest over time: A longer term can mean a greater total yield at the end of the CD’s term.  
• Lock in a rate for predictable income: You don’t have to keep an eye on market rates and bother with research and reinvesting your CD. Even if rates fall substantially during the CD’s term, you’ve already locked in the yield.  
• Enjoy a hands-off approach: Some CDs mature in five years. If you open one of these accounts, you won’t have to worry about your funds or getting a better rate for a long time.

Cons

• Deal with less liquidity: You should carefully consider whether you’ll be comfortable depositing your funds for multiple years. If a financial need pops up, you may have to juggle funds, take out a loan or let an early withdrawal penalty take a bite out of your CD. 
• Face potentially large early withdrawal fees: The longer the term, the larger the penalty for making a principal withdrawal before the CD’s maturity date. The early withdrawal penalties for CDs typically expressed as a certain amount of months’ worth of interest.  
• Abide with lower rates for now: Currently, long-term CDs have lower interest rates than short-term ones so you get less juice for the squeeze — less yield per the time committed. 

How to choose the right CD term for you

When choosing the right CD, the term is perhaps the most vital factor.

“It’s crucial to match the CD’s maturity date with your financial goals,” said Dominic James Murray, founder and advisor at Cameron James, a financial planning firm based in London. 

Locking up your cash for several years can leave you vulnerable to an early withdrawal penalty, which is one reason you should always have a healthy rainy-day fund stored in a liquid, high-yield savings or money market account.

If you want to take out long-term CDs but have short-term financial obligations, consider a CD ladder, wherein you open multiple CDs with staggering maturity dates over time. 

For instance, you could open CDs with terms of six, 12, 18, and 24 months. As each CD matures, you opt for another 24-month CD, thereby repeating the cycle. 

This strategy allows you to access some of your cash on a consistent basis, while still capturing high yields. 

How to choose a CD term? 

Short-term CDs are best for a particular purchase. For instance, you might stash vacation money into a nine-month CD so you’re not tempted to dip into it early, while also earning additional interest. 

With short-term interest rates so high, you can have the best of both worlds: Meeting your financial obligation while also earning the best possible yields. 

However, by not locking a long-term CD, you run the risk of enduring lower yields should the current market environment shift. 

If, say, inflation starts cooling closer to the Fed’s 2% and then the economy begins to slow, you may not be able to find a 2-year CD with a 5% yield.

“Now is a great time to lock in a CD rate before the Fed begins to cut rates, presumably some time next year in 2024,” said Christopher Naghibi, chief operating officer at First Foundation Bank.

Long-term CDs may be especially tempting to risk-averse investors. You could essentially ‘park it and forget it,’ allowing your money to earn interest without having to actively pay attention to it.

“People with a low tolerance for market fluctuation would enjoy these CDs,” said Christopher R. Manske, founder of Manske Wealth Management. 

Alternatives to CDs

CDs allow you to earn a low-risk return on your principal. However, it’s best to stay open and consider some alternatives. These are some of the other places you can put your money:

TYPE OF INVESTMENT	TYPE OF RETURN	PROS	CONS
Savings and money market accounts	Variable rate	Liquidity; FDIC coverage	Higher yields may be available elsewhere
Stocks	Varies	Potentially high yields	Principal may lose value; no guaranteed yield
Bonds	Fixed-rate	Guaranteed interest; potential tax benefits	Higher yields may be available elsewhere

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When comparing CDs with other choices, you should use a CD calculator to see how much you can earn. Knowing how much you can earn with each type of investment can help you make a better decision.

Frequently asked questions (FAQs)