What is Fixed Deposit?
Fixed Deposit (FD) is a very common and safe investment product offered in the financial markets. With assured returns, it gives a feeling of financial security to investors, particularly risk-averse investors. A detailed explanation of Fixed Deposits in points is given below to make you familiar with this investment option.
1. What is a Fixed Deposit?
A Fixed Deposit (FD) is a savings product offered by banks, credit unions, and other financial institutions in which money can be deposited as a lump sum amount for a specified time duration.
The amount deposited earns a constant rate of interest over the investment period. The principal amount and the interest earned are repaid to the investor upon maturity.
2. Low Risk Investment
FDs are viewed as a low-risk investment vehicle since they offer fixed returns and are not sensitive to market fluctuations.
This makes them a perfect option for risk-averse investors who desire to keep their capital intact and receive regular interest payments.
3. Guaranteed Returns
Fixed Deposits offer guaranteed returns, which implies that the rate of interest is fixed and does not alter over the tenor of the investment.
This enables investors to budget their finances without concern for market fluctuations.
4. Interest Rates
Interest rates on Fixed Deposits are determined by the deposit tenure and the financial institution. As a general rule, the longer the deposit tenure, the higher the interest rate.
Banks and financial institutions periodically review and revise interest rates, which apply to new FDs but not to outstanding ones.
5. Types of Fixed Deposits
- Traditional Fixed Deposits: The most popular form of FD where you put money for a fixed term and receive interest at periodic intervals.
- Tax-Saving Fixed Deposits: Such FDs have tax deductions under Section 80C of the Income Tax Act with at least a lock-in period of 5 years.
- Senior Citizen Fixed Deposits: Senior citizens are given higher rates of interest than normal FDs as an incentive for age.
- Monthly/Quarterly/Yearly Interest Option: Investors have the option of whether they wish to receive interest monthly, quarterly, or yearly, as per their financial requirements.
6. FD Tenure
The duration of a Fixed Deposit can be as low as 7 days or as high as 10 years.
Investors can select the duration as per their financial objectives. Short-term FDs are liquid, whereas long-term FDs give higher interest.
7. Taxation on Fixed Deposits
The interest earned on FDs is taxable under the Income Tax Act. The tax rate depends on the investor’s income tax bracket.
TDS (Tax Deducted at Source) is applicable if the interest income exceeds ₹40,000 (for individuals below 60 years) or ₹50,000 (for senior citizens) in a financial year.
However, the tax liability is calculated at the time of maturity, so investors must plan accordingly.
8. Liquidity and Premature Withdrawal
Fixed Deposits have a lock-in period, i.e., the amount cannot be withdrawn prematurely without penalty.
But most banks permit premature withdrawal with a minimal penalty. This penalty is normally in the form of a deduction in the interest rate, i.e., you will get lower interest if you withdraw your FD prematurely.
Plan the FD term based on your cash flow requirements to prevent penalties for premature withdrawal.
9. Compounding Interest
One of the key advantages of Fixed Deposits is the compounding power. Investors have the option to have interest compounded quarterly, half-yearly, or yearly.
Compounding interest aids in increasing the investment at a faster rate since the interest gained is reinvested along with the principal, and subsequent interest is computed on this new principal.
10. Safety and Security
Fixed Deposits are one of the safest types of investments because they are exempt from market risk.
FDs in India are insured by the Deposit Insurance and Credit Guarantee Corporation (DICGC) up to ₹5 lakh per depositor per bank.
This insurance ensures extra protection to investors, thereby making FD a low-risk vehicle for saving funds.
11. Eligibility for FD
Fixed Deposits can be opened by individuals, Hindu Undivided Families (HUFs), and organizations such as companies, trusts, and firms in partnership.
There is no requirement of minimum income, making it open to everyone from all walks of financial life.
12. FDs for Emergency Funds
Fixed Deposits are not extremely liquid in nature, but they can act as a safety net for emergency funds.
Because of the low risk, people can utilize FDs as a safeguard against unexpected situations such as medical emergencies, loss of job, or other money crises.
13. Selecting the Proper FD
One should compare the interest rates, tenor, and taxation before committing to a Fixed Deposit.
You should also confirm the financial stability of the institution providing the FD, as it will impact the security of money.
Numerous online comparison websites can assist you in identifying the best FD rates prevailing in the market.
14. Benefits of Fixed Deposits
- Fixed Returns: FD returns are fixed and do not change based on market conditions.
- Safety: FDs are among the safest investments and are insured up to ₹5 lakh by the DICGC.
- Flexibility: Investors have the flexibility to select the tenure and interest payment options based on their requirements.
- Tax Benefits: Tax-saving FDs enable tax savings through deductions under Section 80C of the Income Tax Act.
- Easy to Open: Fixed Deposits are simple to open with little documentation.
15. Drawbacks of Fixed Deposits
- Lower Returns: With respect to other investments such as equities or mutual funds, the returns on Fixed Deposits are less.
- Inflation Risk: The return may not always keep up with inflation, leading to a decrease in the real value of your money.
- Penalty for Early Withdrawal: Withdrawing your FD prior to maturity is usually accompanied by a penalty, which cuts into the interest accrued.
Conclusion:
Fixed Deposits continue to be a preferred option for those seeking secure and risk-free investment avenues. With assured returns, tax advantages, and the freedom to choose tenure and interest payment, they provide a feeling of security to investors. But investors must evaluate their financial objectives, compare FD rates, and consider inflation before making an investment.