What are share certificates? A credit union’s version of a certificate of deposit

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Share certificates work like certificates of deposit (CDs). They provide a secure and predictable way to save money and earn interest with a credit union instead of a bank.

These accounts offer the best of both worlds—the ability to earn above-average returns and access the perks of a credit union membership. 

Before you open a share certificate, it’s important to understand how they work and how they differ from other savings accounts. Here’s what you need to know.

What is a share certificate? 

A share certificate is a type of savings account offered by credit unions.

When you open a share certificate, you agree to deposit a fixed amount for a set term, typically ranging from a few months to several years. In exchange, the credit union offers a higher rate than you would earn with a traditional savings account.

But there’s a catch. If you withdraw the funds before the certificate matures, you'll likely incur an early withdrawal penalty. 

Key features of share certificates include:

1. Fixed interest rates: The interest rate remains the same for the entire term, offering a predictable return on your investment.
2. Variety of term lengths: Share certificates have various term lengths, allowing you to choose one that best aligns with your goals and timeline.
3. Minimum deposit requirements: Each credit union has its minimum deposit requirements, which can vary based on the term length and type of certificate.

Share certificate vs. certificate of deposit 

Share certificates are similar to CDs but with slightly different terminology due to the structure of credit unions. CDs are deposit accounts offered by for-profit banks that pay interest on your money. 

Share certificates are only available through member-owned credit unions. Your money goes into a share account that pays dividends. Earnings on both share certificates and CDs are expressed as an annual percentage yield (APY). 

How share certificates work 

Choosing a term aand deposit amount 

When opening a share certificate, you must choose a term length and deposit amount. Share certificates come in term lengths ranging from three months to five years or more. Generally, longer terms offer higher interest rates. 

You’ll also need to deposit to fund the share certificate. The minimum deposit amounts vary by credit union and term length. 

Some credit unions may offer share certificates with minimum deposits as low as $0. Others may require $1,000 or more. Jumbo share certificates, which typically require a minimum deposit of $100,000 or more, may offer even higher interest rates.

Earning interest 

One of the main benefits of share certificates is the ability to earn a fixed interest rate. This means you'll know exactly how much interest you'll earn over the course of the term.

Interest compounds daily, monthly, or quarterly, depending on the credit union. Compounding frequency can impact your earnings, with more frequent compounding leading to higher returns.

When your share certificate matures, you can withdraw your earned interest, reinvest it in the certificate, or transfer it to another account.

Early withdrawal penalties 

If you need to withdraw your funds before the end of the term, you'll often face an early withdrawal penalty.

Early withdrawal penalties vary by credit union and term length but often involve forfeiting a portion of the earned interest. Some credit unions may even deduct a portion of your principal if you withdraw your funds early.

It is important to choose a term length that aligns with your financial goals and liquidity needs to avoid early withdrawal penalties.

Types of share certificates 

There are a few different types of share certificates, including:

• Regular share certificates are the most common type, offering fixed terms and fixed interest rates. These certificates come in various term lengths, typically three months to five years, with minimum deposit requirements set by the credit union.
• Jumbo share certificates require a higher minimum deposit, usually $100,000 or more. In exchange, jumbo certificates offer higher interest rates than regular share certificates.
• IRA share certificates are designed for retirement savings and can be held within a traditional or Roth IRA. Depending on the type of IRA, these certificates often have longer terms and may offer unique tax advantages.
• Liquid share certificates offer more flexibility for early withdrawals. While they may have slightly lower interest rates, they can be a good option for those who want the benefits of a share certificate but may need access to their funds before the end of the term.

Benefits of investing in share certificates 

Guaranteed returns

One of the primary advantages of share certificates is the guaranteed returns. By locking in a fixed interest rate for the entire term, you can calculate your earnings and plan for the future.

This predictability can be especially valuable for conservative investors or those nearing specific financial goals, such as saving for a down payment on a home or funding a child's education.

Higher interest rates than traditional savings accounts

Share certificates typically offer higher interest rates compared to regular savings accounts. This is because you are committing your money for a set term, allowing the credit union to use your funds for longer-term investments.

The relationship between term length and interest rates is generally positive, meaning longer terms often provide higher yields. 

Low-risk investment options 

Share certificates are insured by the National Credit Union Administration (NCUA) for up to $250,000 per person per account. This ensures your principal is safe even if the credit union faces financial difficulties.

Share certificates are also not subject to market fluctuations that can impact other saving and investment options, like high-yield savings accounts or mutual funds. This stability makes them a solid choice for risk-averse savers or those looking to diversify their investment portfolios.

Downsides to investing in share certificates

Lack of liquidity

One of the main drawbacks of share certificates is their lack of liquidity. When you invest in a share certificate, you commit your funds for the entire term. If you need to withdraw your money before the certificate matures, you'll likely face early withdrawal penalties.

These penalties can eat into your earnings and, in some cases, even impact your principal. It's important to consider your liquidity needs carefully before investing in a share certificate and choose a term length that aligns with your financial goals.

Inflation risk

Another potential downside to share certificates is inflation risk. While share certificates offer guaranteed returns, inflation could outpace interest earnings over the certificate's term.

For example, suppose you invest in a 5-year share certificate with a 2% APY, but inflation averages 3% per year during that period. In that case, your purchasing power will effectively decrease, even though you earned interest on your investment.

To mitigate inflation risk, it's essential to consider your long-term financial goals and diversify your investments across different asset classes.

When to consider a share certificate 

So, when does it make sense to use a share certificate as part of your savings strategy? Here are a few scenarios where these accounts can be useful:

• You have a specific savings goal with a clear timeline. If you're saving for a major expense a few years away, a share certificate can help you grow your money faster while keeping it safe and secure.
• You want to earn more on your emergency fund. If you have a robust emergency fund, you might consider putting part of it into a short-term share certificate to boost your returns. Just make sure you still have enough liquid savings to cover unexpected costs.
• You're looking to diversify your savings portfolio. If you already have money in stocks, bonds, and other investments, adding share certificates to the mix can provide stable returns to balance out market volatility.
• You want a low-risk, guaranteed return. Share certificates can be a good choice for savers who want safety and stability over the potential for high returns. 

Laddering strategy

One strategy to maximize the benefits of share certificates is known as laddering. It involves dividing your savings among multiple certificates with staggered maturity dates so you have funds available at regular intervals.

For example, instead of putting $10,000 into a single 12-month certificate, you might spread it out like this:

• $2,500 in a 6-month certificate
• $2,500 in a 12-month certificate
• $2,500 in an 18-month certificate
• $2,500 in a 24-month certificate

As each certificate matures, you can either reinvest the funds into a new certificate to keep the ladder going or use the money for expenses. This approach allows you to take advantage of higher rates on longer-term certificates while maintaining some liquidity.

The bottom line 

When picking the best option for you, consider your liquidity needs, compare rates across credit unions, and choose terms that match your savings goals when considering a share certificate. Doing so allows you to use share certificates to grow your savings and achieve your financial goals.

However, it's essential to understand the potential trade-offs before investing your money. Share certificates generally require sacrificing some liquidity in exchange for higher yields, so they may not be the best fit for funds you need to access quickly. 

Editorial disclosure: Opinions expressed are author's alone, not those of any bank, credit card issuer, or other entity. This content has not been reviewed, approved, or otherwise endorsed by any of the entities included in the post.