How CDs Work: Interest, Terms and Early Withdrawal Penalties

Published October 11, 2026

Free tool: CD Calculator→

A certificate of deposit, or CD, is a savings account with a deal attached: you leave your money with the bank for a set term, such as 6 months, 1 year or 5 years, and in return you get a fixed interest rate, usually higher than an ordinary savings account. This guide explains how CD interest works, what an early withdrawal costs and how to build a CD ladder, with the free CD Calculator.

How CD interest works

Banks quote CDs by their APY (annual percentage yield), which already includes compounding. The balance at maturity is:

Balance = deposit × (1 + APY)^(months ÷ 12)

Example: $10,000 in a 1-year CD at 4.5% APY grows to $10,450.00: $450 of interest. Over a 2-year term at the same APY, it would grow to $10,920.25.

A 5-year CD at 4.0% APY turns $10,000 into $12,166.53. Longer terms often pay higher rates, but not always; when short-term rates are high, 1-year CDs can pay more than 5-year ones.

Early withdrawal penalties

The catch is access. Take your money out before the term ends and the bank charges a penalty, usually a number of months of interest. In the example, cashing out the $10,000 1-year CD after 6 months with a 3-month interest penalty:

• The balance after 6 months is about $10,222.52.
• The penalty is about $110.05.
• You'd receive about $10,112.48: still more than you put in, but much less interest than waiting.

Penalties vary widely between banks and terms. If a penalty is larger than the interest earned so far, it comes out of your deposit, so check the terms before you open a CD.

Taxes on CD interest

In the US, CD interest is taxed as ordinary income in the year it's earned, even if it stays in the CD until maturity. At a 24% tax rate, the $450 of interest in the first example leaves $342 after tax. CDs held inside an IRA grow tax-deferred instead.

CDs and safety

CDs at FDIC-insured banks and NCUA-insured credit unions are protected up to $250,000 per depositor, per institution, per ownership category. The rate is locked in, so you know exactly what you'll earn. The main risks are inflation rising above your rate and needing the money early.

Building a CD ladder

A CD ladder spreads your money across several CDs with different maturities, for example one-fifth each in 1-, 2-, 3-, 4- and 5-year CDs. Each year one CD matures, so part of your money is always becoming available, and you can reinvest it at the longest term. A ladder balances the higher rates of long CDs with regular access to cash.

How to use the CD Calculator

1. Open the CD Calculator.
2. Enter the deposit and the rate, choosing whether it's quoted as an APY or an APR.
3. Choose the term, and the compounding if you entered an APR.
4. Add your tax rate to see the interest after tax.
5. To check an early withdrawal, tick Check an early withdrawal and enter when you'd withdraw and the penalty in months of interest.
6. Read the results: the value at maturity, the interest earned, the APY and APR, the interest after tax and, if you chose it, what an early withdrawal would leave you with. A chart shows the balance month by month.

Frequently asked questions

How much interest will a $10,000 CD earn?

At 4.5% APY for one year, $450, for a balance of $10,450. Over two years at the same rate, about $920.

Can you lose money in a CD?

Not from market changes: the rate is fixed and insured deposits are protected up to the limits. You can lose some interest, or occasionally a little principal, if an early withdrawal penalty exceeds the interest earned.

Are CDs better than savings accounts?

CDs usually pay more in exchange for locking your money away. Keep your emergency fund in an accessible savings account and use CDs for money you won't need before the term ends; the APY Calculator helps compare the rates.