Financial institutions, especially banks and credit unions, often allow a customer to purchase a certificate of deposit within a retirement account. An IRA certificate of deposits has some notable differences compared to a typical CD, and these differences yield some specific benefits.
This article breaks down three benefits of an IRA CD.
Tax-Deferred Interest
For tax purposes, you get a certificate of deposit that operates the same way that an IRA brokerage account or mutual fund does. This means the capital gains from the interest are tax-deferred until you withdraw the money. If you follow the rules of a typical IRA, that means you can push the tax event to a post-retirement period when you'll have a lower income and incur a lower tax rate on the profit.
As with an IRA, there is the risk of penalties for early withdrawals. However, the bank may be able to waive the penalty if you experience adverse circumstances, such as a physical or mental disability. Some financial situations also qualify for the penalty waiver.
Term
An IRA CD is available with a wide range of terms at most institutions. If you want one for half a year, that's usually an option. You can also go with a longer term of many years. If you're confident you won't need the money for a long time, you might agree to a long term to lock in a good interest rate whenever rates are favorable.
Risk Reduction
While you can't purchase a certificate of deposit with zero risk, the reality is that it's as close to a risk-free investment as is available. The bank holds your money, and the CD returns interest. There is no risk of the rate of return turning negative as happens sometimes with investments such as real estate or stocks.
As long as you stay within the federal deposit insurance limit of $250,000 per account type per depositor at any given bank, your money is protected even if the bank declares bankruptcy. Notable, the per-account-type structure also means if you have $250,000 in an IRA CD and another $250,000 in a savings account at the same bank, both accounts are insured.
Many people like the diversification factor in terms of risk reduction, too. If you recently sold several stocks for a tidy profit, for example, you might put some of the proceeds into an IRA CD to take some risk off the table.
Share3 February 2023
Dealing with money is a fact of life, and although it's something most of us deal with every single day, it can be complicated and confusing. In particular, it can be hard to figure out how much to save, when to invest, when to borrow, and how to maximize your earnings. My goal with these posts is to demystify common confusions about money and finance. If you want to take charge of your financial situation, I invite you to explore this blog. I am going to write about everything from spending to saving, and we're going to explore why both of these elements are important. Enjoy!
