1-Year vs. 5-Year CD: Which Is Better?

With interest rates currently so high, a CD (certificate of deposit) can be a great place to keep your savings. However, banks offer a lot of different CD options, and it can be hard to choose the right one for you.

The main decision you'll need to make is on the length of the CD, or how long it takes to mature. There are pros and cons to both short-term CDs and longer-term CDs. Here's how to choose between a 1-year CD and a 5-year CD.

Shorter CDs tend to have higher rates

In general, you'll get the best APY (annual percentage yield) from a short-term CD. That includes both 6-month CDs and 12-month CDs. The main reasoning is that short-term CDs allow the bank more flexibility. If rates go down, the bank can drop its rates, too.

Now, that's not to say that every short-term CD will have a good rate. Indeed, plenty of CDs of all lengths have terrible rates. The national average rate for 6-month CDs is just 1.49%.

Similarly, not every long-term CD will have a low rate. While the national average is slightly lower -- 1.40% -- I've seen 5-year CDs with very competitive rates. That said, it's definitely a lot more rare to find high-yield long-term CDs than high-yield short-term CDs. (The only ones I can think of off the top of my head are from credit unions.)

Access vs. locked-in rates

Supposing you find both a 1-year CD and a 5-year CD that offer the same high rates, what then? At this point, you have to consider two factors:

• When are you going to need that money?
• Do you think rates will go up or down over the next few years?

Let's take a look at both questions to see how the answer will impact which CD you choose.

When you need the money

CDs have very steep early withdrawal penalties. I'm talking up-to-half-of-your-interest-income steep. The only way to avoid these penalties is to wait until the CD matures and withdraw your money during the grace period.

If there is any possibility you're going to need your money within the next five years, go with a shorter CD. You can always choose to roll over the money into a new CD after the first one matures if you won't need the money that year.

If you want constant access to your money, consider a high-yield savings account instead of a CD. The best savings accounts have comparable rates and no penalties for withdrawing your money. (There are some no-penalty CDs out there, but they tend to have lower rates.)

How rates will change

The downside to a long-term CD is that your money is locked in for the full term. The upside is that your rate is also locked in for the full term.

If you think that rates will go down over the next few years, then it could pay to lock in the current high interest rates. However, if you think that rates will increase over the next few years, then you may be better off opening a shorter CD now so you can take advantage of higher rates later.

It's down to personal needs

As with pretty much anything in finance, the best option will depend entirely on what you need out of your CD. If you want a good rate and flexibility, a 1-year CD is better than a 5-year CD. If you want to lock in your rate and can spare the money for the full term, a 5-year CD could be worthwhile. It's entirely up to you.