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Offbeat Offerings: Credit Union CDs

by Cara Scatizzi

Offbeat Offerings: Credit Union CDs Splash image

A certificate of deposit, or CD, is a savings vehicle that entitles the holder to earn a certain interest rate over a specified time period. A CD can be issued in any denomination with varying maturity dates.

CDs issued by credit unions often offer higher rates than other CD issuers.

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About the author

Cara Scatizzi is a former associate financial analyst at AAII.
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How CDs Work

A CD is a promissory note issued by a bank, thrift institution or credit union. It’s a time deposit, which means that the banking institution keeps your money for a stated time and there is a penalty for accessing the money prior to the maturity date.

This type of investment is less liquid than a cash deposit, such as a checking or money market account. Because the bank expects to keep the deposit for the stated time period, interest rates are usually higher compared to cash deposit rates.

If you must access the money before maturity, you will pay a penalty (typically a loss of interest payment over a certain period), which will reduce your total return. A typical CD can be purchased for any amount and has a number of time period options, typically ranging from one month to five years. Usually, a longer holding period means a higher interest rate. Because of the way credit unions are structured (profit sharing among its members) these institutions can sometimes offer higher rates on all types of deposits including CDs than other CD issuers.

How Credit Unions Work

Credit unions are member-owned not-for-profit financial co-operatives. They are created and operated by their members. Once you deposit funds into a credit union account, you become a partial owner and participate in the profitability.

Credit unions are typically formed by corporations and organizations for their employees and members. Some credit unions allow membership based on where you live; colleges have credit unions for their students; and alumni and companies have credit unions for employees and their families.

Unlike deposits with a bank, deposits with a credit union are not insured by the FDIC, but rather by the National Credit Union Administration (NCUA). The NCUA is an independent federal agency that charters and supervises federal credit unions and is backed by the full faith and credit of the U.S. government. The NCUA operates the National Credit Union Share Insurance Fund (NCUSIF), which insures the savings of account holders in all federal credit unions and most state-chartered credit unions.

The NCUA normally insures deposits up to $100,000 per account holder per credit union. On October 3, 2008, the Emergency Economic Stabilization Act of 2008 was passed and required the NCUA to increase insurance protection to $250,000 on all accounts until December 31, 2009.

How to Invest

To take advantage of the typically higher rates on CDs offered from credit unions, you must first find one that you can join. There are a number of on-line sources that list credit unions by area, then possible membership requirements. The NCUA Web site (www.ncua.gov) allows you to search their database by keyword, city, state and membership type. The site provides the credit union’s address, phone number and Web site.

Investor Suitability

CDs are an option for investors holding cash reserves. Putting your cash reserve in a CD can earn you more interest than using a cash deposit account.

Tax Consequences

For all CDs, you are taxed on any interest earned. The credit union will send information about your interest earnings for tax purposes each year.

The Pros

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Higher Rates

Because you do not have immediate access to the cash, you will typically receive a higher interest rate on CDs than on traditional cash deposits. Additionally, due to the way credit unions are structured, they can normally offer a slightly higher rate than a brick-and-mortar bank. However, there are many on-line banks that offer rates just as high or higher because they do not have the costs associated with operating actual bank branches.

Safe Investments

Credit union CDs are insured by the National Credit Union Administration for, currently, up to $250,000. Normally, insurance covers up to $100,000 per account holder per credit union, but due to the current market situation, this limit has been increased.

The Cons

Membership Limitations

To join a credit union you must meet membership requirements. Sometimes this is based on where you live, where you work or even the college you attended.

Liquidity

CDs do not have liquidity without a penalty. If you withdraw the money before maturity, you will be heavily penalized.

Interest Rate Risk

Because you are locking in an interest rate, you may miss out on higher rates if interest rates rise. The longer the CD term, the higher the risk that your original rate will be lower than the going rate before it reaches maturity.

Additional Information

BankRate.com
www.bankrate.com

BankRate.com offers a wealth of information on all CDs, including those offered by credit unions. The CDs & Investments section includes frequently asked questions, national CD rate comparisons, recent news stories and commentaries about the CD market, calculators and more. All of the data is free and updated regularly.

National Credit Union Administration
www.ncua.gov

The free NCUA Web site offers the latest news affecting credit unions, a search tool for finding credit unions near you, consumer hotline numbers and links to additional resources.

SEC
www.sec.gov/investor/pubs/certific.htm

The SEC offers tips on choosing and researching CDs.

Cara Scatizzi is a former associate financial analyst at AAII.


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