What Are Step-Up CDs?
A step-up certificate of deposit (CD) is a savings vehicle for your personal finances offered by banks and credit unions. Similar to a traditional CD, a step-up CD is a deposit account that locks your savings in for a set term in exchange for a fixed interest rate. But in a step-up CD, that interest rate increases at scheduled intervals until it matures.
You will pay a penalty if you withdraw any part of the amount before the deposit term ends. The CDs are also covered by FDIC insurance when purchased through a reputable financial institution.
How Do Step-Up CDs Work?
When you purchase a step-up CD, you agree to leave your money locked into a deposit account for a fixed period at an interest rate set by the financial institution. During the account’s term, that interest rate will rise at regular intervals, meaning you have the chance to grow your savings more than you would in a traditional CD.
For example, if the terms of your step-up CD are two years with a 0.5% interest rate that increases 0.1% every six months, the annual percentage yield (APY) would look like the following.
Example of Annual Percentage Yields
- First six months: 0.5%
- Next six months: 0.6%
- Third six months: 0.7%
- Final six months: 0.8%
Pros and Cons of Step-Up CDs
Step-up CDs are a secure way to earn interest on your savings. But like any other savings vehicle, they have advantages and disadvantages.
Step-Up CDs Pros and Cons
Pros
- A guaranteed rate of return
- Scheduled interest rates to increase savings growth
- Security and peace of mind with reduced risk
Cons
- Your money is locked away for a whole term
- You pay heavy penalties for any withdrawals before the CD matures
- Interest rates may be lower than with other investment options
If you’re unsure whether a step-up CD is right for you, consider weighing your options with a financial advisor to determine which type of CD is best suited for your needs.
Alternatives to Step-Up CDs
A step-up CD might not be the right choice in every situation, or it may not even be available at your bank or credit union. If that’s the case, then you might consider one the following.
- Other Specialty CDs
- Some financial institutions offer CDs with variable rates that mature in shorter terms or allow to you to add to your balance.
- Build a CD Ladder
- Dividing your savings into multiple CDs with different maturity dates gives you the chance to access higher interest rates without tying up all your money.
- Bump-Up CDs
- With a bump-up CD, you can request a rate increase once or more during the term of your CD. With a step-up CD, the bank decides how much the interest rate increases and when, whereas with a bump-up CD, you time the increase to your best advantage.
- Other Alternatives
- If you’re looking for secure savings, but don’t want to worry about withdrawal penalties, you might also consider a high interest savings account or a money market account.
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Frequently Asked Questions About Step-Up CDs
You can generally purchase step-up CDs from your financial institution, although not all banks and credit unions offer every type of CD. You can also acquire step-up CDs through a broker.
When your step-up CD comes to term, you can access your original deposit, as well as the earned interest. At that point, you can re-invest or move your money. If you withdraw anything from the account before your step-up CD matures, you will have to pay a penalty. That penalty could be a significant portion of the interest, or in some extreme cases, a portion of the principal.
Step-up CDs provide a guaranteed rate of return, which can make them an attractive addition to your investment portfolio. A step-up CD might be a good choice if you’re looking to reduce your investment risk or if you have extra funds that you will not need to access during a fixed period.
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