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CD Loan: What Is It & How Does It Work?

CD Loan: What Is It & How Does It Work?
Lauren Ward

Lauren Ward

Updated May 12, 2022
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Editor’s note: Lantern by SoFi seeks to provide content that is objective, independent and accurate. Writers are separate from our business operation and do not receive direct compensation from advertisers or partners. Read more about our Editorial Guidelines and How We Make Money.
A certificate of deposit, or CD, loan, is a type of secured personal loan that uses your certificate of deposit as collateral. If you default on a CD-secured loan, the bank can take the money in your CD.CD loans are not as common as other types of personal loans, but if you already have money in a CD, they can be handy for emergencies or as a way to build your credit. Read on to learn how these work, how they compare to other types of personal loans, pros and cons of CD loans, as well as alternatives to CD-secured loans.

What is a CD Secured Loan?

A CD loan is a loan for personal use that utilizes the savings in your certificate of deposit account, or CD, as collateral. Should you default on your loan payments, the lender can seize the funds in your CD account to repay the outstanding balance. It’s similar to other collateral-based loans such as a mortgage (secured by a house) or an auto loan (secured by a vehicle).  Banks and credit unions often offer attractive interest rates for CD loans because, even if you default, they can recoup their losses by taking the money out of the CD. However, there’s risk involved on your part — if you become unable to repay the loan, you could lose the money in the CD.

How Does a CD Loan Work?

A certificate of deposit, or CD, is a type of savings account that earns interest on a fixed amount of money you agree to leave untouched for a specific period of time, such as six months, a year, or longer. The interest you earn on a CD can be higher than what you’d earn with a standard savings account, but should you take your money out early (before the CD matures), you typically have to pay a penalty, which can be anywhere from two to 12 months’ worth of interest.While CDs are mostly used as a savings vehicle, some banks and credit unions will let you borrow against the money in an existing CD by using it as collateral. Depending on the lender, you may be able to borrow up to the full amount of your CD account, or you may be capped at a certain percentage of the amount. A lender may also require the loan to be shorter than the CD’s remaining term. Like other personal loans, CD-secured loans can be used for almost any type of expense, whether it's to consolidate high interest debt, pay for emergency expenses, or cover a large purchase.When you take out a CD loan, you end up with two active accounts — the CD itself and the CD loan, which you pay back over time with interest. After you receive the loan, your CD funds are put on hold until the end of the loan, though the money will continue to earn interest until the CD matures.

Features of a CD Loan

CD loans are similar to other types of personal loans. However, they do have some features that set them apart.

Interest Rates

Because CD loans are low risk, they often come with low fixed interest rates. Banks often base the CD loan’s interest rate on the annual percentage yield (APY) on the CD. In many cases, they will add a minimum of two to three percentage points to your APY; exactly how much will depend on your credit. 

Approval Rate

Because these loans are backed by the money in the CD, they are usually easier to qualify for than other types of loans. Since the size of the loan corresponds to the amount of money in the CD, there isn’t much risk involved for the lender. Recommended: Personal Loan Tips That Can Help You Get Approved 

Access to Funds

Because CD-secured loans are low risk for the lender, approval for a CD loan can often come in less than one business day, and sometimes within just a few hours. Access to funds can happen as quickly as one or two days after approval.

CD Loans: Common Reasons to Get One

While CD loans aren't as common as other types of personal loans, there are two key reasons why you might want to seek one out.

Establish Credit

One of the most common reasons for getting a CD loan is to build or repair credit. Because CD loans are low-risk for a lender, even borrowers with no credit or poor credit can often qualify. Getting — and responsibly paying off — a CD loan can then help you build (or rebuild) your credit profile, making it easier to get other forms of financing in the future.

Emergency Fund

It may seem counterintuitive to take out a loan to cover an emergency expense when you have money sitting in a CD. But, depending on your CD’s early withdrawal fee, it might be more cost-effective to pay interest on a CD loan rather than remove the funds from the CD before it matures. You’ll want to run the numbers, however, before choosing the best way to go.

CD Loans Pros and Cons

CD loans can be a good idea for some people, but they aren’t right for everyone. Here’s a look at their benefits and drawbacks.

CD Loans Pros

Below are some of the main advantages of getting a CD-secured loan.

Interest

Compared to unsecured personal loans or credit cards, CD loans typically come with low interest rates. And unlike credit cards, which often have a variable interest rate, CD loan borrowers get a fixed interest rate. That means your payments stay the same each month instead of fluctuating as market rates rise and fall. 

Credit Score Requirements

Since you don’t need excellent credit to qualify for a CD loan, they can be ideal for people who either don’t have any credit established yet or who have a low credit score. The primary factor in getting approved is the funds in your CD account. Your credit score might impact your interest rate, but typically not your approval. Getting — and responsibly repaying — a CD loan can also help you build your credit profile.

CD Loans Cons

Here are some of the biggest drawbacks to CD-secured loans.

Need a CD

You need to have a CD in order to get a CD loan, so this type of financing isn’t an option for everyone. What’s more, you typically need to get a CD loan from the same bank where you have your CD. And, not all banks that offer CDs offer CD loans.  

Fees

In addition to charging interest, some lenders also charge origination fees for CD loans, which increases the cost of borrowing and reduces the amount of the loan. You may also get hit with late fees if you don’t make your payments on time.

CD Funds Frozen

Though CDs are somewhat restrictive, you can generally withdraw the funds in the event of an emergency and simply pay an early withdrawal penalty.  But when a CD becomes collateral for a loan, the funds are frozen. The only way you can access them is to fully pay off the loan.

Lose Money

As with any secured loan, it’s possible to lose money when you take out a CD loan. If you default on your loan payments, the lender can use your CD to pay off the remaining debt. Defaulting on the CD loan could also hurt your credit.Recommended: What Are the Pros and Cons of Personal Loans?  

Alternatives to a CD Loan

If you need cash to cover a large expense or handle an emergency, but don’t have a CD (or your bank does not offer CD-secured loans), here are some other financing options to consider. 

Personal Loan

There are many types of personal loans, both secured and unsecured, available through banks, as well as private lenders. To get a sense of your options and compare personal loan rates, you can simply use an online loan comparison site. With unsecured personal loans, you don’t have to put up any collateral, but interest rates are typically higher. 

Credit Card

If you’re looking to build or improve your credit, you may want to consider getting a secured credit card, which requires putting down a security deposit to serve as collateral. This type of credit card will have a credit limit that is equal to a cash deposit you make. Like a CD loan, if you fail to repay your debt, the bank can seize your cash deposit. If you already have good or excellent credit, you may want to look into getting a 0% APR credit card. These cards often offer no-interest financing for up to 21 months. 

Cash

If you need money to cover an unexpected expense, you may want to see how much cash you can come up with before you turn to financing. While you may not want to give up your financial cushion, using cash can cost considerably less than borrowing. Plus, you won’t have to worry about hard or soft credit inquiries hurting your credit score.

The Takeaway

CD loans can be easy to qualify for if you already have a certificate of deposit with your bank. They also offer attractive interest rates and can help you build (or rebuild) your credit. However, CD-secured loans aren’t easy to find and, depending on rates and added fees, you may find it more cost-effective to pay the early withdrawal penalty on your CD. If you’re interested in comparing all the types of personal financing available to you, Lantern by SoFi can help. With one online application, you can access personal loan offers from multiple lenders. And, checking your rates won’t affect your credit score.*
Photo credit: iStock/Ridofranz
The tips provided on this website are of a general nature and do not take into account your specific objectives, financial situation, and needs. You should always consider their appropriateness given your own circumstances.Disclaimer: Many factors affect your credit scores and the interest rates you may receive. SoFi is not a Credit Repair Organization as defined under federal or state law, including the Credit Repair Organizations Act. SoFi does not provide “credit repair” services or advice or assistance regarding “rebuilding” or “improving” your credit record, credit history, or credit rating. For details, see the FTC’s website on credit (https://www.consumer.ftc.gov/topics/credit-and-loans)SOLC0222009

Frequently Asked Questions

Will a CD secured loan help my credit score?
How does a CD loan work?
What is a CD loan?

About the Author

Lauren Ward

Lauren Ward

Lauren Ward is a personal finance expert with nearly a decade of experience writing online content. Her work has appeared on websites such as MSN, Time, and Bankrate. Lauren writes on a variety of personal finance topics for SoFi, including credit and banking.
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