Should You Open a CD With a Lower APY Than Your Savings Account?

If you have spare cash at your disposal, right now's a good time to put that money into the bank. Savings account rates are high these days on the heels of the Federal Reserve's multiple interest rate hikes that took place in 2022 and 2023. And CD rates are competitive as well for the same reason.

Generally speaking, when you open a CD, you'll snag a higher interest rate on your money than with a savings account. The reason is that you're committing to keeping your money in the bank for a predetermined period. In exchange, banks typically reward savers with a higher rate on their money.

But getting a higher rate of interest in a CD isn't always a given. And it could make sense to open a CD even when a savings account is paying more interest.

There's a benefit to locking in a guaranteed rate

The interest rate a savings account pays you is subject to change at any time. By contrast, when you sign up for a CD, the rate you lock in is the rate you're guaranteed throughout your CD's entire term.

You may end up in a position where you're looking at a lower interest rate on a CD than a savings account. But if you lock in a competitive interest rate on a longer-term CD, it could benefit you in the long run.

Right now, a Capital One 360 Performance Savings account has a 4.35% APY. A Capital One 360 CD with a 60-month term, by contrast, has a 4.10% APY.

You might think it would make no sense to open a 5-year CD at a lower APY than a savings account. But remember, that 4.35% is not set in stone, whereas that 4.10% is.

Now, let's say you have $1,000 you're looking to put in the bank for the next five years. With the savings account, you might enjoy a 4.35% APY your first year. But what if after a year, your rate falls to 2% and stays that way?

In that scenario, your first year, you'd earn $217.50. Your second, third, fourth, and fifth year, you'd earn $100. So that's $617.50 in total.

Let's say you go with the 60-month CD instead. With a 4.10% APY, a $5,000 deposit today will earn $1,113 in interest over five years. That's a lot more than $617.50.

There's a benefit to making a commitment

A CD is something you have to commit to, since cashing one out early could result in costly penalties. With a savings account, you get much more flexibility with your money, and penalties on withdrawals don't come into play. But the financial benefit of opening a CD is getting a locked-in rate that can't fall.

At some point in 2024, the Federal Reserve may opt to cut rates as inflation cools. That could lead to a scenario where banks start to pay savers less. So now's actually a good time to lock in a longer-term CD if you're comfortable parting with your money for a while -- even if it's possible to snag a higher interest rate in a regular savings account.