Investors loan money to the bank or credit union when they purchase time deposits like certificates of deposit (CDs). Buyers typically buy CDs to lock in current interest rates over a period of time. Unlike a checking or savings account from which funds may be withdrawn at any time, the investor pays an early withdrawal penalty to access money invested in CDs before maturity. Amortization tables may be used to demonstrate how the borrower will repay interest and principal of the CD over the life of the loan.
CD Maturities
CDs, like bonds, are debt instruments. They may mature in less than a month or five years in the future. Investors who believe that rates will go lower in the future select longer-term maturities. However, those who believe that interest rates will rise tend to select shorter CD maturities. Longer-term maturities tend to offer a better interest rate and yield-to-maturity than shorter-term maturities. Use a CD calculator to analyze possible rates of return on CDs before investing.
The type of amortization period will vary by the CD maturity. CD maturities typically include three weeks (21 days), one month, three months, six months, nine months, or one to ten years. Of course, amortization tables for short loans include less interest to the lender and faster repayment of principal. A CD borrower, such as a bank or credit union, should provide relevant disclosures before you invest.
Effects of Amortization
Longer term CD maturities require the borrower to lengthen the period of amortization. This decision can result in a more manageable repayment structure for the borrower, but accompanying total costs of interest will be greater. The borrower will pay a higher cost for the money over the life of the loan.
Amortization tables show the progression of the loan. Although amortization tables are frequently associated with mortgage and car loans, they are also used to help consumers who lend money to banks and others to know how the borrower will pay down loan principal and accrued interest.
Because CD investors are lenders to CD issuers, it is important to consider several factors, such as current interest rates and the financial condition of the borrower. Not all CDs are issued by FDIC banks or financial institutions. It is important for the lender to understand the borrower’s debt ratio and existing debt levels. Not all businesses with bank-like names are FDIC-insured banks.
While most banks offer CDs and other deposit products in a transparent manner, it is always best to do your homework when extending a loan to any borrower.
CD Rates
Be wary about buying CDs from an organization whose rates are too good to be true. Ideally, choose a CD from a financial institution with whom you are already doing business. Read CD disclosure statements and variable rate contracts. Some may be tied to stock market or foreign currency index performance. In some cases, CDs tied to market performance may accrue interest only at maturity instead of daily or monthly interest accrual. Check the amortization tables before investing in any certificate of deposit.
Although market-linked CDs can offer attractive rates of return in some cases, using them to insure “safe money” can be a bad idea. Some international banking institutions make certificates of deposit available to foreign investors. Investing in these deposit products can be risky.
FDIC Insurance
Not all certificates of deposit are issued by federally-insured borrower institutions. Check with the FDIC to find your bank.
In some instances, CDs can be brokered by a third party and not sold directly by the borrowing institution. In this case, lenders to the borrowing bank, credit union, or other institution do not offer the FDIC umbrella of protection. FDIC does not sanction third-party brokerage of deposit products.
Take the time to read disclosures before lending or borrowing money. Amortization tables are frequently used with mortgage and auto loans, but their use makes good financial sense before making a decision to purchase CDs.
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