A CD loan is a secured personal loan with lower interest rates than a traditional personal loan. As a secured loan, it uses a person’s certificate of deposit as collateral, so if you default on the loan, the bank can take the money in your CD. For those that have money in a CD and need a quick influx of cash or even for someone looking to build a credit history, a CD loan may be a good choice
How a CD loan works
A CD, or certificate of deposit, is a type of savings account based around a predetermined period (three months, six months, one year, etc.) where you can earn interest on a fixed amount of money. You choose the term of your CD account and deposit funds, and the issuing bank agrees to pay you a certain interest rate for the term of the account, known as the annual percentage yield (APY).
The benefit of a CD account over a traditional savings account is that the interest earned is typically higher for a CD. Once your CD reaches its maturity date, you can withdraw the money and interest earned without penalty. If you withdraw the money before the maturity date, you face a penalty ranging from two to 12 months worth of interest, depending on how long you’ve held the account.
CD loans are different than regular CDs because they represent money borrowed against the money in your existing CD. Similar to other personal loans, the CD loan includes a set loan amount and terms that include the length of the loan and a fixed interest rate and payments.
CD loans can be used very similarly to other personal loans, including emergency expenses, home repairs, or other personal needs. Banks vary in how they facilitate CD loans, but you can generally borrow up to the entire amount of your CD account or a portion of it.
CD loans are also easier to qualify for than other unsecured personal loans because the bank is able to recover those funds by seizing the funds in your CD account if you default. This reduces the risk for the lender and allows them to offer lower interest rates and easier terms for qualifying.
Considerations of a CD loan
Just as with any other type of loan, there are benefits and drawbacks to taking out a CD loan. On one hand, they offer significantly lower rates than you might receive via another borrowing option because they are backed by money you already have. It also offers an avenue to build credit for those who don’t have a lengthy credit history or who are new borrowers. The only thing a person needs is a CD account or the ability to open one.
On the other hand, CD loans may come with fees. Banks charge interest on CD loans, but sometimes they also charge an origination fee. In that case, it could be less expensive to cash in your CD account and pay the early withdrawal fee.
Weighing both the pros and cons of taking a CD loan can help you determine if it is the right instrument for you.