Investing in Fixed Deposits? Three Things you can’t Avoid

A fixed deposit is one of the most popular traditional savings product and is considered as one of the best savings options for the salaried person. But while you assess whether it is good to invest in fixed deposits, it is prudent not just to consider factors such as interest rate and tenure, but also other crucial factors like the penalty you will have to cough up in case of premature withdrawal of fixed deposit and some other key factors that will impact your returns.

Introduction:

Investing is a great idea. But it is possible only if you can create a saving every month. To make meaningful investments to secure your future, you need to first start saving. A fixed deposit is highly recommended to those willing to cultivate the habit of saving. You have the flexibility to invest any amount in a fixed deposit for a tenure ranging from a week to 10 years. It is your first step towards financial planning. But, just like any other financial product, you need to make an informed decision while investing in fixed deposits. Here are three things you cannot avoid considering while assessing FDs as an investment option.

1. Premature Closure of FD

When you break your Fixed Deposit before the completion of its stipulated tenure, it is called an FD premature withdrawal. When there is a premature closure of FD, banks and financial institutions levy an FD premature withdrawal penalty in the range of 0.5-1% that can diminish your returns substantially. The bank or financial institution uses a penalty calculator to calculate the interest on the deposit for the tenure the money has remained in the FD at the rate applicable to this time, as opposed to the actual rate of interest applicable to the FD had you remained invested for the whole tenure.

Let us understand this with an example. Say you invested in an FD for a period of 390 days where the rate applicable on the FD was 7.5%. Now if you choose a premature closure of FD after 180 days and the rate applicable then is 7%, then the interest you receive will be calculated on 7% instead of 7.5%. Additionally, a penalty of 0.5-1% will be applicable on 7%, diminishing your returns even further.

 Thus, it is prudent to evaluate other ways of accessing finance before you go ahead with the decision of FD premature withdrawal. For instance, during emergencies, you can opt for the loan against fixed deposits rather than liquidating it.

2. Loan/ Overdraft Facilities against an FD

During times of a financial emergency, all you need is an easy financing option. Most people resort to FDs during such times as it seems like the easiest way to tide over the crisis at hand. But instead of premature closure of FD, you can easily avail of a loan against the fixed deposit. Most banks and other financiers provide a loan facility up to the remaining tenure of your FD on a renewable basis. The applicable rate of interest on such a loan is usually 1-2% higher than the applicable rate on your FD, and you can get up to a maximum of 90% of your FD value depending on the financier.

There are many advantages of availing such as quick loan against an FD. Firstly, there is no processing charge on a loan like this. Secondly, interest on this loan is charged only for the amount you utilise and the tenure of utilisation and thirdly, there is no penalty levied for the prepayment of a loan against an FD. Thus, it is evident that availing of a loan against an FD during a financial emergency can work out to be a convenient option during times of crisis.

3. Tax Incidence on FDs

While FDs remains one of the most popular investment vehicles, some confusion still prevails regarding the taxation aspect of FDs. Many times, interest earned from fixed deposits get missed out while filing tax returns, that can lead to hassles at a later stage. To avoid intimations from IT Department thus, you need to classify FDs under the head of “Income from other sources”. When you invest a large amount in a fixed deposit tax deduction is incurred at sources (TDS) and the interest you earn on your fixed deposit is taxed at the same of tax applicable on your gross income which can be 0-30%. However, if interest does not exceed Rs 10,000 you need not pay tax on interest earned on FDs. Additionally, senior citizens can seek a tax exemption up to Rs 50,000 on FDs.

Thus, as you can see, FDs are the safest form of investment as compared to any other investment vehicle because of the assured returns they offer and minimal risks. And as illustrated above, they can come in handy at the time of a financial crisis where you can opt for a quick loan facility against an FD instead of opting for FD premature withdrawal. To enjoy the full benefits of savings, you should, therefore, remain invested in your FD till it attains maturity.

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