Here's What Happens When You Keep Your Emergency Fund in a CD

A Pew Trust survey found that 60% of Americans reported they experienced an unexpected financial emergency over the course of a 12-month period. So it's very clear that having an emergency fund is really important.

Most experts recommend you have three to six months of living expenses saved for unexpected expenses. But it's not enough to just have this money set aside for surprise costs -- it needs to be in the right bank account, too.

In some cases, it may seem like a smart idea to put your emergency money in a certificate of deposit, especially considering today's rates. But is this really a good idea? To help you decide, consider what could happen if you put your emergency fund into a CD.

You could earn a higher rate of return on your emergency money

There's a big benefit of putting your emergency money into a CD. The best CD accounts can pay a higher rate than savings accounts do, and your money is protected (when choosing a CD from an FDIC- or NCUA-insured institution) so you won't risk losing the cash you need for emergencies.

The national average savings account rate is 0.46%, while the national average rate of return on a 3-month CD is 1.69%. Of course, it's possible to get a much higher return on investment (ROI) using either a high-yield savings account or by shopping around for a more competitive CD rate. But on the whole, as these national averages show, CDs do offer higher ROIs in general.

Plus, the rate of return is guaranteed for the life of the CD, while high-yield savings accounts have variable rates. So you could end up earning less if and when rates go down (we're currently in a market with unusually high rates, but they are expected to fall).

Average monthly household expenses come in at $5,577 in the U.S., so an emergency fund with even three months of expenses could have over $15,000 in it. With such a large amount of money, getting the highest rate possible seems to make sense -- and a CD would be the best way to make that happen without taking on a lot of risk.

You could end up incurring penalties -- or going into debt

While the higher rate you could earn due to having your emergency fund in a CD is attractive, there's a huge downside to putting your emergency money into a certificate of deposit.

CDs require you to commit to keeping your money invested for the entire CD term (which could be three months to five years, as these are the most common CD lengths). If an emergency happens when you still have months (or years) left in your CD term, you could be forced to incur a penalty if you take your funds out to cover the surprise expense.

If you don't want to cash in your CD early, you could instead find yourself borrowing money to cover the bill -- which was the exact thing you likely wanted to avoid by starting an emergency fund in the first place. And since credit cards have an average interest rate of 21.47%, this would make no sense. Your borrowing costs would be far higher than the returns you could earn on even the most competitive CD.

The bottom line is, the downsides of potential penalties or possible debt outweigh the upside of getting a slightly higher return on investment. Your goal with this money isn't to get the biggest ROI, since it's not that kind of investment. Instead, emergency funds give you peace of mind -- you'll know a pot of money is there when you need it. A savings account allows you access to that pot of cash without consequences, and that is where your emergency fund should be.