Fixed Deposit (FD)–Liquid Investment 

Fixed deposit (FD) is one of the most popular investment options opted by majority of Indians.  Fixed deposit with banks is the safest, simplest, flexible and most liquid investment option available. Bank is not the lone player offering fixed deposit.  Post office, private companies, financial institutions and public sector companies offer deposit schemes similar to fixed deposits offered by banks.  At present many innovative variants of fixed deposits are offered by banks.  Fixed deposits can be opened by individuals, HUF, trusts, partnership firms, limited liability partnerships, companies etc too.  For many banks, fixed deposit is the major resource for lending.

What is a fixed deposit (term deposit)? 

Fixed deposit is the investment option that allows you to deposit a sum of money in bank for a fixed period at a fixed rate of interest for the entire period.  It is also called term deposit as you are depositing the amount for a term (period). FD is often used to represent the fixed deposit.  

The amount of investment is called the principal amount. At the end of the period, the investor receives back the principal along with interest. This amount is called maturity amount.  In a term deposit, the interest rate fixed at the time of deposit remains constant for the entire period irrespective of the interest rate changes in the market. However, many banks have started offering fixed deposits with interest rate linked to external rates like repo rate. In these kind of deposits, the interest rate changes as the external rate undergoes change. 

What are cumulative fixed deposits? 

FDs can be opened for periods between 7 days and 10 years.  Some of the customers may prefer to get interest at periodical intervals say monthly to meet their expenses.  But many customers would prefer to get the interest along with the Principal amount at the time of maturity.  When the depositor receives accrued interest along with the principal at the time of maturity, such fixed deposits are known as cumulative fixed deposits.  The biggest advantage of cumulative fixed deposits offer  is the compounding effect on interest.  

What is the process to open a term deposit? 

Term deposit can be opened with scheduled commercial banks, small banks, co-operative banks, rural and urban banks etc. 

Basic requirement for opening a term deposit account is Know Your Customer (KYC) compliance.  For opening accounts, the depositor will have to submit KYC documents. For individuals, such documents include Voters ID, Aadhhaar Card, Driving License, Passport, Photo graph etc.  Documents for identity proof and address proof will have to be submitted.  If depositor does not have Permanent Account Number (PAN), Form 60 must be submitted. For companies, firms partnership deed, registration certificate etc  as the case  may be to establish identity of entity should also be submitted.   Depositor, who is already a customer in a bank can open account without submission of any KYC document. 

Banks offer online facility for existing customers for opening of fixed deposits and hence can open account without even visiting a branch. Thus FDs can be opened through digital banking mode also. 

What are the factors to be considered before opening  FD? 

1.    Compare interest rate offered by different banks.  The interest rate offered even for same tenure varies among banks. Normally, Small banks offer better rates compared to other banks.  Among scheduled commercial banks, private sector banks usually offer better rates than their public sector counter parts. However, this can vary, if a bank is facing fund shortage for  a particular period.

2.    Ascertain the penalty to be paid in case of premature withdrawal. Normally, FD can be encashed at any time by the depositor, even if FD is for a longer period.  For such premature withdrawals, certain banks charge penalty. In such cases, the interest paid can be less by 1 or 2% less from the interest applicable for the period for which the deposit is maintained.  Compare the penalty charged by different banks.  If your bank is charging penalty, it is better to break the deposit to smaller amounts.  If at all any FD is to be broken,  other fixed deposits will continue to earn interest. 

3.    Impact of tax on interest should be ascertained and if depositor is not a tax payee, 15 G/15 H should be submitted to avoid TDS. 

4.    Banks have freedom to offer higher interest if the deposit amount is above certain threshold say Rs. 15.00 L. If the amount of deposit is higher, depositor should always ascertain special rate for higher amounts. The penalty, lock in period etc associated with deposits of higher amount also shall be ensured.  

5.    Convenience of operation like proximity to home, online facility for opening  and closure of FD etc are factors to be considered before opening FD. 

6.    A depositor should always opt the facility of nomination. 

Advantages associated with fixed deposits

1.    Safe and reliable way to grow wealth.
2.    Interest rates are normally in the range of inflation rate.
3.    High liquidity. Even long tenure deposits can be broken with minimum hassles. Maximum loss is limited to the penal interest levied by banks for premature withdrawals. 
4.    In almost all banks Interest is compounded quarterly if interest is not opted to be withdrawn. (Banks have freedom to offer interest rate in any manner, even to compound at a lesser frequency. Said information shall be shared to depositor at the time of accepting deposit. )  
5.    Senior citizens  gets additional interest  of 0.25% to 1% over and above the normal interest rate 
6.    You can get a loan against your FD (except for tax saving FDs).  The loan can be availed at 1% – 2% over the interest rate of deposit. 

Disadvantages associated with fixed deposits

1.     FDs receive interest at the contracted rate for the entire tenure. In a rising inflation scenario, value of your fixed deposit investment goes down.   For example, you opened a fixed deposit at the interest rate of 5 % when the inflation rate was 4%. At the time of opening the term deposit, the interest rate was favorable for the investor.  If the inflation increases to 6%, then the interest rate of 5% becomes unfavorable.  
2.    There are other investment options that offer better return than fixed deposits if the investor is ready to take more risks.  
3.    Interest earned above Rs. 10,000 is taxable at source (TDS). (Now proposed to  raise to Rs. 40,000/-  from FY 2019-20. A senior citizen can get exemption from TDS by filling Form 15H and others by submitting Form 15 G.  Even if TDS is not effected, interest is liable to income tax. 
4.    Banks may levy penalty on premature withdrawals (usually around 1-2 %).   Term Deposit (Fixed Deposit) & Interest