8 Things Financial Advisors Wish All Retirees Knew About CDs

Certificates of deposit (CDs) are gaining in popularity among savers. A combination of market uncertainty and relatively high interest rates has some retirees flocking to these "safe" investments.

While tucking money into a CD might be the right fit for many savers, it's important to weigh all the details before using this tool to build your wealth. We explore what financial advisors wish retirees knew before they opened a CD.

"Read the fine print," says Shalini Dharna, CPA at Dharna CPA.

While some CDs offer a higher initial rate, they might be teaser rates, which can drop off sharply after the initial term. By reading the fine print, you can avoid getting pulled into a low-paying CD after your first term.

If you realize you'll get a lower rate after the initial term, consider a different CD or making a note to switch to another financial institution after the CD matures the first time around.

When you open a CD, you agree to part with your funds for the entire term. If you need to access the funds before the maturity date, expect to pay an early withdrawal penalty.

"Understand the cost of early withdrawal and the intent of the funds before locking them in (i.e., a CD should not be your emergency fund)," says Dharna.

While putting your emergency savings into a CD is tempting, it's better to only put funds into one that you won't need during the term. Keep your emergency savings in a separate high-yield savings account to avoid dealing with an early withdrawal fee.

While CDs offer a way to preserve your savings, they aren't a great option if you want to grow your funds over the long term. Generally, CDs represent a portion of a larger retirement plan, not the entire picture.

If you are looking to grow your funds for the long term, you might need to invest. For some, this means building a stock portfolio. For others, it could mean buying real estate. Still, others might have a different investment opportunity in mind.

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"Shop around - different institutions offer different rates, terms, and penalties," says Dharna.

While opening a CD at your local branch might be tempting, shopping around can help you find the best possible rates. Generally, smaller banks and credit unions can offer higher rates than big-name institutions.

Taking the time to shop around could be well worth the effort and help you get ahead financially. 

As your funds grow through a CD, it's easy to forget about taxes. But like other types of income, your CD's growth is taxable.

"Interest earned from a CD is taxed in the year it is earned, not the year it is withdrawn. Knowing this and planning ahead before tax time can help save you some headache," says Steve Sexton, CEO of Sexton Advisory Group.

When a CD matures, you'll receive your principal and interest back. Luckily, you don't have to pay taxes on the principal returned to you because you've already paid taxes on those funds at some point.

"However, some retirees mistakenly believe that when a CD matures and they withdraw principal, it triggers additional taxes. That is not the case. Principal values are not taxed," says Dana Anspach, CFP, RMA, and founder of Sensible Money LLC.

A CD ladder involves opening multiple CDs of various term lengths. When using a CD in this way, you can maintain liquidity without giving up access to the higher yields that usually come with longer terms.

"CD laddering also allows retirees to invest in a series of CDs with different maturity dates, allowing the account holder to access funds at various points in time," says Sexton.

Sexton continues, "You're also able to withdraw funds from a CD early, but doing so may incur penalties and fees. That said, there are some banks that offer no-penalty CDs."

While you might lock in a great CD rate, if inflation outpaces that rate, you'll lose purchasing power throughout your CD. Before opening a CD, look closely at the rates offered and the current inflation rate.

If inflation is higher than the CD rate, it might not be worth taking the chance of losing purchasing power.

Building CDs into your retirement plan isn't a bad idea. But it's important to weigh the risks and benefits before taking the plunge.

As you navigate paying for your golden years, take advantage of every opportunity to stretch your retirement dollars further.