Should You Have CDs in Your Retirement Portfolio?

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Ahhh, retirement. Gone are the days where you got up early to sit in traffic and work from a cubicle with fluorescent lighting and bad coffee. But once you exit the workforce, you'll have new problems -- namely, managing your cash flow and ensuring your needs and wants are met without relying on a regular paycheck. To that end, you've certainly got options. Let's take a closer look at why certificates of deposit (CDs) are worth considering if retirement is coming up.

CDs are safe and predictable

If you're looking at a comfortable retirement, odds are you've spent many years saving and investing in a retirement account, like an employer-sponsored 401(k) or an individual retirement account (IRA) you opened yourself (or perhaps both).

Stock market investing is an incredibly effective way to grow your money -- over a long period. Over the last 50 years, the S&P 500 has returned an average of 10% annually. But individual years have seen wild swings in value, making short-term investing a risky game. But short-term gains are where CDs shine, so it's worth considering them when you don't have a long timeline to grow your money.

When you open a CD, you know exactly how much money you'll make on it, provided you can leave your money in place for the duration of the term. And you can't lose money in a CD the way you might lose cash in the stock market -- open a CD with an FDIC-insured bank, and up to $250,000 of your cash ($500,000 for joint accounts) is protected in the event of bank failure.

Now that you're retired, you can't afford to take big financial risks because you're not earning income from a job anymore and you might not have time to wait out market swings. CDs can help you keep earning money on your money, without big risks.

CDs are easy to open

Today's best CDs are overwhelmingly offered by online-only banks, making them easy to open and fund. In fact, you can open one in just a few minutes, without even leaving your home. If you have an existing relationship with an online bank, check its CD offerings first, since it'll be even faster to fund a CD with a bank you already work with.

But even if you opt to open CDs with a different bank, it still won't take long to link an outside account and transfer money to your new CD. You also have the option to open brokered CDs (the rules for these are a little different, so do your research on brokered vs. bank CDs).

Beware of taxes and penalties

There are a few potential issues with making CDs a cornerstone of your retirement portfolio. If the money you're intending to put into CDs could be needed at any time (say, for emergency expenses), you could end up owing penalties if you have to break your CD term early. CD early withdrawal penalties could range from a few months' worth of earned interest to a year or more -- depending on the CD term.

This may not be a huge deal if you manage to almost complete the term and have already earned most of the promised interest. But if you have to break a longer-term CD (say, a 5-year CD) after just a year, you could lose some of your principal balance because you haven't yet earned enough interest to cover the penalty.

It's also important to note that CD interest is taxed like regular income, so the amount you'll pay in taxes is informed by your tax bracket. For this reason, it's a good idea to put some of your earned interest aside (perhaps in a high-yield savings account, where it will earn more interest -- you'll owe some taxes on that too, but will likely still come out ahead) for tax time.

Ultimately, CDs can be a solid way to diversify your retirement cash and stay ahead of inflation. And since rates are up right now, it's a great time to explore your options and lock in a solid rate.

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