Fixed deposits are hugely popular in India with over ₹1,30,00,000 crores locked away in these safe instruments in banks. An FD, as it is popularly called, is a great way to earn on any idle money you have. They are quite flexible and generally tend to match or be a notch higher than inflation rate. In this article, we shall go deeper into fixed deposits by understanding its structure, different types of fixed deposits, interest rates of different banks and much more.
What is a Fixed Deposit?
A fixed deposit is a financial instrument that allows consumers to invest a fixed amount of money on which they receive a fixed interest at a pre-determined rate of interest.
Fixed deposits are a very popular source of investment for the masses. A recent Reserve Bank of India report said that over ₹1,30,00,000 crores of fixed deposits are kept in scheduled commercial banks across India.
How do Fixed Deposits work?
Fixed Deposits are bank deposits for a fixed or specific period of time. These fixed deposits are known by different terms in different countries although the construct is more-or-less the same. These are known as Term Deposits in Australia and Canada, as Certificates of Deposit (or CD) in the United States and Bond in the United Kingdom.
When you deposit your money in a bank, you are effectively lending money to the bank. This comes with a mandate that the bank will return back your money at the end of the term and also give you an interest for the period for which the deposit is kept. This interest is to compensate you for the many different uses you could have applied your money into e.g. into a business, lent it to someone etc.
There are many tenures available for the depositor to choose from – from 7 days to 10 years. The interest rate for each tenure may be different. Generally, lower tenures have lower interest rates although this is not a firm rule which we shall read about later.
In addition to tenure, banks also have different interest rates for different deposit amounts. The standard slab for retail investors like you and me extends upto ₹2,00,00,000 (₹2 crores). The next few slabs with banks generally range from ₹2 crores to ₹5 crores, ₹5 crores to ₹10 crores, ₹10 crores to ₹20 crores etc.
Fixed Deposit Calculator
When you invest in a fixed deposit, the bank will give you a maturity value for your deposit. This maturity value will be greater than the fixed deposit amount.
A Maturity Value means the amount that is payable to the depositor at the end of the term of the fixed deposit. This Maturity Value depends on four factors –
- Original amount deposited
- Interest rate offered
- Compounding frequency of interest rate
Let’s understand this with an example.
The original amount deposited is the principal. This amount can be as low as ₹1,000 and as high as ₹1,000 crores.
The interest rate offered is a percentage. So if a 8% interest rate is offered, it means that on ₹100, an interest of ₹8 shall be payable
Finally, the compounding frequency determines at what intervals will the bank top up your account balance with interest. Compounding frequency can be monthly, quarterly, half-yearly or yearly. Most banks in India do quarterly compounding.
So, let’s put some numbers
- Original amount deposited (P) – ₹10,000
- Interest rate offered (i) – 8%
- Compounding frequency of interest rate – Quarterly (4)
- Tenure (T) – 3 years
The formula for calculating the Maturity Value on the above is :
Maturity Value = [P * (1+ (i/4)%)] ^ (T*4)
= [₹10,000 * (1 + (8/4)%)] ^ (3*4)
Or, [₹10,000 * 1.02] ^ 12
That results in … Maturity Value = ₹12,682
In simple terms, the depositor will receive a maturity value of ₹12,682 at the end of 3 years from his principal deposit of ₹10,000 which was compounded quarterly at 8% p.a.
Let’s understand why fixed deposits are promoted by banks.
Why do banks take fixed deposits?
We discussed earlier that when a bank accepts a fixed deposit, it is effectively taking a loan from you. This is the reason why fixed deposits, savings account balances, recurring deposits etc. are tagged in the bank’s balance sheet as liabilities. They are a liability because money has to be paid back to the lending party.
So what do banks do with this money?
Well, they lend it out ?
Let me explain this better.
Unlike traditional businesses which buy raw material, convert them into a finished product and then sell them at a profit – a bank works differently. The bank is essentially the middleman in the transaction. It takes money from one party at X and lends it to another party (Y) with the expectation of making a profit.
The fixed deposit is a wonderful instrument for a bank because the tenure is fixed for a fixed deposit. Which means, the bank knows how much time it has to make use of the fixed deposit. Additionally, users don’t break fixed deposits (i.e. premature withdrawal) often and this means the bank has good use of the money for a significant amount of time. This money is put to good use by the bank in lending to other individuals & corporates.
What are the Different Types of Fixed Deposits?
There are five different types of FDs (or fixed deposits). These are –
- Regular fixed deposit
- Tax saving fixed deposit
- Special fixed deposit
- Recurring deposit
- Floating fixed deposit
Let’s understand a little more about these
Regular Fixed Deposits are FDs whose tenure is fixed. This tenure can range from 7 days to 10 years and comes with a predetermined interest rate. These are the kind of FDs you see in banks and the most popularly used type of fixed deposit
Tax Saving Fixed Deposits are an FD scheme that attracts users who want to save taxes in addition to investing their idle money. The tax saving happens under Section 80 C of the Income Tax Act. Section 80C allows upto ₹1,50,000 of investments into instruments such as ELSS (equity linked savings scheme), term insurance, life insurance, PPF etc. The amount invested in such tax saving FDs is locked for a period of 5 years i.e. the money cannot be withdrawn before the completion of 5 years.
Special Fixed Deposits are FDs in which a depositor can invest for a special period like 333 or 399 days. The rate of interest in these special fixed deposits is generally higher.
Recurring Deposits is a popular savings option that is used by a number of conservative investors to inculcate a savings habit. Under this scheme, an investor regularly deposits a fixed amount every month. The idea is to keep on growing the corpus by these small but regular additions of money into the account. The tenure of the recurring deposit is fixed and so is the interest rate.
Floating Fixed Deposit is where an investor can opt for a market-based interest rate. Not many people opt for this option as people perceive a fixed interest rate to be far better than a floating one which can go up or down in time. The rate of interest of this scheme is renewed automatically with the change in the base rate.
Which banks offer the highest or best interest rates on a fixed deposit?
This is one of the most common questions asked.
And for good measure. Afterall, everyone wants the biggest bang per buck (and hence the name of our blog “Beginners Buck”). Different banks in India offer different interest rates. These interest rates depend on the MCLR or repo rate. The repo rate is fixed by India’s Central Bank i.e. the Reserve Bank of India. In other words, if the repo rate goes down, the interest of new fixed deposits go down.
I regularly check the fixed deposit interest rates of 41 Indian banks so that you can see many options in one single view.
Banks offering the Highest FD rates
The following banks are currently offering the highest interest rates on fixed deposit.
- DCB Bank
- IDFC First Bank
- Lakshmi Vilas Bank
- DCB Bank
Yes Bank(pulled out from list due to current issues related to solvency)
- RBL Bank
- AU Small Finance Bank
- Jana Small Finance Bank
- Ujjivan Small Finance Bank
|Bank Name||6 months||1 year||3 years||5 years|
|IDFC First Bank||6.75||7.25||7.25||7.25|
|Lakshmi Vilas Bank||7.00||7.50||7.50||7.25|
|AU Small Finance Bank||6.50||7.00||7.77||7.50|
|Jana Small Finance Bank||7.00||8.00||8.40||8.25|
|Ujjivan Small Finance Bank||7.00||8.00||7.50||7.00|
Updated information on the interest rates including the terms and conditions is available in websites of different Indian banks from where you can access the information. In the blog post, you can find additional information such as interest rates for deposits over ₹2 crores, premature withdrawal penalty etc.
Recommended article: How to choose a suitable bank for investing in a fixed deposit?
A useful information.
Long tenures have a higher interest rate as compared to short tenures. However, it is observed in India that the longest tenures i.e. over 5 years, may have a lower interest rate as compared to medium tenures like 3 years.
What are the benefits of fixed deposits?
Fixed deposits offer many advantages and benefits to investors. In addition to assured savings, fixed deposits are feature-rich and an attractive investment option.
Here are some of the major benefits of fixed deposits –
- Attractive Interest Rates that are better than savings accounts
- Low Deposit Amount with investment starting from as low as ₹500
- Multiple Tenures ranging from 7 days to 10 years
- Flexible Interest Withdrawal where investors can receive interest every month, every quarter, annually or be invested until maturity
- Easy Investing via Net Banking and Branches for greater convenience
- Premature Withdrawal of fixed deposit is permitted
- Nomination Facility is available
- Overdraft Facility (or Loan Against Fixed Deposit) is available
Many Indians use fixed deposits to meet their short, medium and long-term goals.
Should I invest in a Fixed Deposit or Debt Fund?
I am asked this question quite often. Is it better to invest in a fixed deposit or a debt mutual fund?
This question could not have come at a more important time when a number of debt funds are going through massive re-rating in the wake of scams, frauds, defaults and the impact of the Coronavirus pandemic.
The differences between debt mutual funds and fixed deposits are as below –
|Comparison||Debt Mutual Fund||Bank Fixed Deposit|
|Safety of Capital||Relatively safe but prone to credit risk and interest rate risk||Safe. Centre guarantees safety of upto ₹1,00,000|
|Tenure||1 day to no time limit||7 days to 10 years|
|Return||Depends on type of instrument chosen; ability to offer inflation-beating high returns||Fixed as per locked-in interest rate|
|Liquidity||Very liquid||Liquid if the fixed deposit chosen has premature withdrawal option|
|Expense Ratio||0.3 to 1.0%||None|
|Risk||Low to Medium||Almost None|
|Premature Withdrawal||Exit load of upto 1% applicable on units redeemed before 1 year||Possible but with premature withdrawal penalty|
|Taxation||Applicable at current tax slab if redeemed within 3 years; post 3 years indexation benefits apply||Applicable at current tax slab|
|Tax Deducted at Source||No||Applicable if interest income exceeds ₹10,000 in a financial year|
My personal preference is to invest in debt mutual funds especially if I dont have a fixed timeframe of when I might need the money.
I chose those debt fund types that mimic the structure of fixed deposits. In other words, I invest in debt funds which are safe (i.e. invest in AAA instruments only), have low volatility and have years of historical performance to examine. These types of debt funds include ultra short duration funds and low duration funds.
Let’s look at what I have received when investing in ultra short duration funds
- Between 7.7% to 8.6% annual returns over a 1 year to 7 year tenure
- Flexibility to invest and withdraw at any time
- Tax advantage with indexation benefits
Go for only those fund schemes where 95% of invested assets are in AAA rated securities. AAA rated papers are far more secure than AA or lower papers.
When investing in fixed deposits or debt funds, your primary focus has to be capital preservation. Returns is a secondary objective.
What is the procedure to open a fixed deposit account?
If you are a new customer to a bank, then visit the bank’s home branch with your PAN (permanent account number) and Aadhaar Card. Carry your original documents and additionally take with you 2 copies.
Remember, you cannot open a fixed deposit account in isolation. You need to open a savings account also. Generally, banks will give you one customer ID (called cust ID) which will hold the savings account and the fixed deposit account.
If you are an existing customer of a bank, then you can book a fixed deposit using any of the following modes –
- Visit the bank branch and make a fixed deposit request (you’ll fill a small form)
- Call up their call-centre and ask for creating a fixed deposit (keep your telephone PIN handy; if you don’t have one the customer service representative will create one for you on a real-time basis)
- Use Internet Banking or the bank’s mobile application to create a fixed deposit (most convenient method)
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