Spend, Save and Invest Smartly

Why invest in a fixed deposit?





The term "fixed" in Fixed Deposits denotes the period of maturity or tenor. Fixed Deposit, therefore, pre plans a length of time for which the depositor decides to keep the money with the Bank and the rate of interest payable to the depositor is decided by this tenure. Rate of interest differs from Bank to Bank. Normally, the rate is highest for deposits for 3-5 years. This, however, does not mean that the depositor loses all his rights over the money for the duration of the tenor decided. Deposits can be withdrawn before the period is over. However, the amount of interest payable to the depositor, in such cases goes down. Every Banks offer fixed deposits schemes with a wide range of tenures for periods from 7 days to 10 years. Therefore, the depositors are supposed to continue such Fixed Deposits for the duration of time for which the depositor decides to keep the money with the bank. However, in case of need, the depositor can ask for closing the fixed deposit in advance by paying a penalty. Soon some banks have even introduced variable interest fixed deposits. The rate of interest in such deposits will keep on varying with the prevalent market rates i.e. it will go up if market interest rate goes and it will come down if the market rates fall.

The rate of interest for Fixed Deposits (FD) differs from bank to bank. When the interest rates were regulated by RBI all banks used to have the same interest rate structure. The present trends indicate that private sector and foreign banks offer higher rate of interest.

Investing in Fixed Deposits

A fixed deposit account allows you to deposit your money for a set period of time, thereby earning you a higher rate of interest in return. At the end of maturity period the depositor gets its principal amount plus interest earned over the maturity period. Fixed deposits also give you a higher rate of interest than a savings bank account. It is one of the oldest and most popular forms of investment across India.

Tax deduction

Banks should deduct tax at source on interest paid in excess of Rs. 5000 per annum to any depositor. This is not per deposit but per individual. Therefore if an individual has 5 deposits and the aggregate interest earned on these is Rs. 7000 though in each individual deposit, interest should not exceed Rs. 2000, tax must be deducted at source.

Operation

While opening a fixed deposit account, the bank must issue a fixed deposit that should state the following things on its face :
Date of issue

  • Due date
  • Amount
  • Rate of interest
  • Period of deposit
  • Amount at maturity

Features of Fixed Deposit Account

  • The main purpose of fixed deposit account is to enable the individuals to earn a higher rate of interest on their surplus funds (extra money).
  • The amount can be deposited only once. For further such deposits, separate accounts need to be opened.
  • The period of fixed deposits range between 15 days to 10 years.
  • A high interest rate is paid on fixed deposits. The rate of interest may vary as per amount, period and from bank to bank.
  • Withdrawals are not allowed. However, in case of emergency, banks allow to close the fixed account prior to maturity date. In such cases, the bank deducts 1% (deduction percentage many vary) from the interest payable as on that date.
  • The depositor is given a fixed deposit receipt, which depositor has to produce at the time of maturity. The deposit can be renewed for a further period.

Early withdrawal

Sometimes a customer may want to withdraw his deposit before maturity. In such case, the customer would have to request the bank to do so. Banks are permitted, at their discretion, to allow early withdrawal and they can charge a penal interest for early encashment. The Reserve Bank states that penal interest must not be charged if the deposit is reinvested in a fresh deposit immediately. The rate of interest that will be paid is the rate for the period the deposit has been with the bank. Banks may prohibit premature withdrawal of large deposits held by entities other than individuals and HUFs if such depositors have been so advised at the time the account was opened.

Maturity

The deposit matures at the end of the period for which it has been placed. On maturity, the depositor can instruct the bank to renew the deposit. The bank cannot do so without the customer’s instruction. If the depositor does not want to renew the deposit, he can ask for it to be paid to him either by a cheque/ draft or credited to an account he has.

Normally this instruction would be in the account opening instructions. If the depositor does not renew or claim the deposit on its maturity, the deposit will be designated as an overdue deposit in the books of the bank. The bank cannot close and repay the deposit if the depositor does not make a demand. If the deposit matures on a Sunday/ holiday/ any nonworking days, the bank should pay interest at the originally contracted rate on the deposit amount for the Sunday/ holiday/ non business day. The deposit would be paid back on the succeeding working day.

Comparative chart of Fixed Deposits

Bank Interest Rate Minmum Balance(Rs)
ICICI 6.25% 10,000
HDFC 6.5% 10,000
Yes Bank 6.25% 10,000
IDBI 6.6% 10,000
SBI 6.25% 5,000
IndusInd 6.75% 10,000
Indian Overseas Bank 6.5% 1,000

Advantages of Fixed Deposit Account

  • Fixed deposit encourages savings habit for a longer period of time.
  • Fixed deposit account enables the depositor to earn a high interest rate.
  • The depositor can get loan facility from the bank.
  • On maturity the amount can be used to make purchases of assets.
  • The bank can get the funds for a longer period of time.
  • The bank can lend such funds for short term loans to businessmen.

Disadvantages of Fixed Deposit Account

  • Note that company FDs isn't as safe as bank FDs because if the company goes bankrupt you may lose your money. Make sure you check the credit rating of a company before investing in its FDs. You should be especially wary of companies which offer interest rates significantly higher than the average to attract your money.
  • A fixed deposit won't give you the same returns that you may get in the stock markets. For instance a stock-portfolio may rise 20-30 per cent in a good year whereas a fixed deposit typically earns only 7-10 per cent.

Tips to remember while going for a Fixed deposit

  • Decide in advance, the period for which he is ready to invest.
  • Shop around for the best rate of interest available.
  • Avoid Banks which do not have a long history
  • If you need a part of the money before your deposit matures, seek your banker's advice whether taking an overdraft will be beneficial.
  • You need to be very careful while entrusting your money to finance companies which promise high rates of interest.
Deposits and Bank Accounts
Fixed deposits