Fixed Deposits: The Pros and the Cons

There is no denying the fact that Fixed Deposits are one of the most loved investment avenues in India. A significant portion of household savings get locked into FDs. Ease of withdrawal and low risk are two main reasons why people prefer parking their money in Fixed Deposits.However, like all other instruments of investments, Fixed Deposits too have both pros and cons. If you’re planning to invest in FDs, knowing these details will help you in the long run.

Current Income

Most investors prefer FDs, as they offer stability. When you invest in stocks, their value can go down and you can end up losing the initial money you invested. With FDs, this is something you don’t have to worry about. You’ll get back the principal amount along with the promised interest, no matter what.

While most banks and NBFCs offer a fixed interest rate on FD , there are a few that have opted for a reduction in interest rates when the market goes down.

You earn income in the form of interest for the amount you deposited, and you get the principal amount back at the time of maturity. Its best to go for the cumulative deposit option, where the interest gets credited to your FD account and you earn additional interest. You can choose to receive the interest on a monthly, quarterly, semiannual, or annual basis.

The average FD interest rate in India revolves around 8 percent.

Risk

Safety of the principal amount is the main reason why FDs are amongst the most popular investment instruments in India. The deposit (upto Rs.10 lakh) is well secured as compared to any other means of investment. FDs are guaranteed under the Deposit Insurance & Credit Guarantee Scheme of India. Every bank, or NBFC, in India is covered under this scheme.

Apart from this guarantee, the fact that the Reserve Bank of India (RBI) closely monitors each financial institutions in India, is another reason why FDs are safe bets.

One of the risks that you face when investing in FDs involves interest rate. When you invest in FDs, you lose out on the opportunity to invest in any other, higher payout method.

Also, you can lose up to 1 percent of your principal amount, if you decide to withdraw prematurely.The effect of inflation is another risk that is faced by FD investors. The real return after adjusting with the current rate of inflation, at times, is very less or can even become negative, in case of Fixed Deposits.

Liquidity

Fixed Deposits come with the option for liquidity. While in some banks and NBFCs, you can close the FD and withdraw the principal amount in few hours, in others this can be done in couple of days.

You also have the option of taking a loan on your FDs. Most banks and NBFCs lend up to 90% of the principal amount you invested in FDs. Interest charged is only 1-2% for the period, making it a lucrative offer.

Tax Benefits

There is none, as the interest you earn is taxed. This makes FDs tax inefficient. However, you can save on TDS if you know how to go about it.

There are 5-year Fixed Deposits, where you enjoy tax benefits under the IT Act, section 80C. However, under this, the other benefits like loan facility, partial closure, or withdrawal are not available. The rate of deposit is also low compared to the other normal bank deposits. These negate the tax benefits that you might get.

Convenience

With these deposits, you enjoy a lot of convenience. The investment can start from an amount as low as Rs.100. There is no limit on the upper side and if you are planning to invest Rs.50,000 or above, all you’ll need is your PAN card.You can choose the recurring deposit option for a regular saving for a period of 2-3 years. Banks and NBFCs usually offer a standalone deposit account or you may be asked to start a linked saving account.

There is a lot of convenience in terms of the deposit period too. You can park your money in an FD for a period of 1 week or one decade. Thus, you can park your funds temporarily in FDs, which can be really helpful when you have to save for buying a car or something else. You can get the overview how much you will get if you invest your money in FD before applying with the help of online FD calculator .

You can also have your FDs linked to your bank saving account and enjoy a higher rate of return. This also adds up to the flexibility in terms of using the money, whenever you require.

To sum up, a Fixed Deposit is the best choice when it comes to preserving capital.

• There is no risk of losing your money and you also end up earning a decent interest. However, it is really important that you don’t consider FD as a very long term investment avenue as inflation negates the value of the amount of interest earned.

• It is also not a tax saver. Banks and NBFCs have to deduct TDS if you earn more than Rs.10,000 in FD interest. You can save on that under 15G or 15H, provided you’re not under the tax bracket.

• Early withdrawals can result in a penalty, which differs from institution to institution. So, avoid withdrawing your money unless absolutely necessary. You, however, can get a loan on your Fixed Deposits.

Banks and NBFCs have come up with additional benefits for FD investors, which vary according to the needs of each investor. It is important to diversify your investment and split the amount amongst different avenues.

Consider splitting the amount you have set aside for an FD, into 3-4 Fixed Deposit accounts in different banks for different tenures. When the 1-year FD matures, reinvest that amount in your 4-year FD. This will help in balancing the highs and lows of lending rates to a great extent.