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Difference Between IRA CD and CD

The biggest difference between an IRA CD and non-IRA CD is the tax consequences. IRAs (Individual Retirement Accounts) can contain a variety of investments, such as mutual funds, bonds, realestate, and of course CDs.

Without going into lots of detail about IRAs themselves, they basically are an investment account that grows tax free. You aren’t taxed until you take funds out. Traditional IRAs are made from pre-tax contributions and you can’t access those funds until you are 59 1/2 or older without paying penalties. There are some exceptions, but I don’t want to spend too much time on that. Roth IRA contributions are made after-tax. The account grows tax free, but you can also being to withdraw fund prior to 59 1/2 without penalty. If you wait until after 59 1/2 you aren’t taxed.

So back to the difference when it comes to CDs. An IRA CD won’t have any tax consequences until you begin to make withdrawals. With a non-IRA CD, you pay regular income taxes on the interest that is earned, regardless of whether you receive it.

For example, let’s say you open a $100,000 IRA CD for 3-years and a non-IRA CD at 5.00% APY. Over 3-years both CDs will grow to about $115,762.00. However, you will only have to pay taxes on the non-IRA CD. If you are over 59 1/2, at the end of 3-years you can take $5000 out and only owe taxes on that amount. The remaining funds can be left in the CD for another term. With the non-IRA CD you pay taxes on the full $15,762.00 (and generally you pay taxes when the interest is earned, so you would pay taxes on about $5250 per year).

An important note, IRAs have yearly contribution limits. You can’t just one day decide to create a $100,000 IRA CD. Those funds would have to have been accumulating over the years. SEP and SIMPLE IRAs (used by self-employeed and small business owners) have a fairly high yearly contribution limit. Traditional and Roth IRAs were $5000 for 2008.

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