For those investors looking to lock funds in bank fixed deposits, this could be the right time before the rates come tumbling down.
This could be an opportune time for the fixed income investors to lock their funds in long-duration deposits. With growth lagging behind but a stable government in place, the RBI is expected to reduce its benchmark policy rate by cutting the repo rate in its forthcoming monetary policy meeting on June 6, 2019. For those investors looking to lock funds in bank fixed deposits, this could be the right time before the rates come tumbling down.
Bank fixed deposit (FD) is perhaps the simplest of all investment options available to Indian investors. In banking parlance, they are known as Term Deposits or Time Deposits. Even though investors across age groups and risk profile invest in bank FDs, they are often called a retirees best friend.
Anyone investing in a bank fixed deposit needs to be aware of a few important things. Here are 10 such points that one needs to take note of before locking funds in a bank FD.
1. Fixed deposit rate of interest
Bank FD carries a fixed rate of interest for a fixed tenure. There are different interest rate options such as monthly, quarterly, half-yearly or cumulative that one may choose depending on the need. The tenure can be as short as 7 days to as long as ten years. Depending on one’s need, the FD can be opened for 1, 2, 5 or 10 years. At times, banks have a special tenure of say 444 days or 650 days as well. Once invested, the rate of interest remains fixed for the entire tenure. Importantly, all banks offer an additional rate of 0.5 per cent to the senior citizens on all tenures.
Bank fixed deposits are considered to be a safe investment avenue. The bank deposits are insured under the Deposit Insurance and Credit Guarantee Corporation (DICGC) scheme under which each depositor in a bank is insured up to a maximum of Rs 1 lakh for both principal and interest amount held in the same capacity and same right. For calculating the insured amount, the deposits across different branches of the same bank is taken into account. In spite of a cap on the insured amount, irrespective of the amount of deposit, they carry an implicit guarantee that the government will not allow the banks to fail and not pay the depositors on the maturity date or earlier on premature encashment.
The interest earned on bank FD is subject to tax as per one’s income tax slab. The amount of interest income gets added to the ‘Income from other sources’ and then taxed. Illustratively, on a bank fixed deposit of 7.5 per cent per annum, the after-tax return for taxpayers in the 5 per cent, 20 per cent and 30 per cent tax brackets works out to be 7 per cent, 5.94 per cent and 5.16 per cent, respectively.
Before paying interest to the depositor, the bank is supposed to deduct tax at source i.e. TDS of ten per cent but only if the interest income exceeds Rs 40,000 in the financial year. In order to avoid deduction of TDS, one may submit Form 15G/ Form 15H to the banker.
Further, there are specified 5-year tax saving bank FD in all banks. The investment in such qualifies for tax benefit under section 80C. Remember, that unlike regular deposits, no premature exit is allowed in them as the lock-in period in them is five years.
4. Online FD
As a bank account holder, one would have already done the KYC and submitted PAN. For those having access to internet banking of a bank, investment in bank FD may be done entirely online. The investment amount can be directly transferred from the self account and the FD advice, a certificate showing the proof of investments gets generated immediately. On maturity, the redemption proceeds will go directly into the same account only.
5. Premature cancellation
If required, one may ask the banker for premature cancellation of the deposit before the original maturity date. In doing so, there will be a penalty of 1 per cent of the invested amount. Also, the interest rate payable would be contractual rate minus 1 per cent or the rate under the scheme on the contractual date applicable for the tenor for which the deposit has actually run minus 1 per cent, whichever is lower. Some banks do not levy a penalty provided the cancellation is being done to invest in the same bank’s another term deposit for a longer term than that of the original deposit.
6. Types of FD
In a regular bank FD, the investment is a one-time lump sum payment. However, there are several other types of FD that can be opened in a bank. Under Recurring deposits (RD), the amount and the tenure are fixed but instead of a one-time lump sum investment, the deposit holder has to compulsory invest on a regular frequency. The RD can be monthly or quarterly and every investment will carry the interest rate as it was on the date of opening the RD account. Similarly, there are flexible deposits which are called by different names by different banks and are similar to a recurring deposit but instead of a single fixed installment every month, one can decide to vary the installment amount and even the number of monthly deposits. SBI Flexi Deposit and ICICI iWish are two such examples.
7. Small Finance Banks FD
In addition to the mainline commercial banks, the RBI regulated Small Finance Banks also offer bank FDs. In contrast to the front line banks, these banks such as Ujjivan Small Finance Bank, Au Small Finance Bank and Utkarsh Small Finance Bank amongst others offer a higher rate of interest. Regarding the safety of Small Finance banks, this is what the RBI has to say in its guidelines – “The small finance bank will be subject to all prudential norms and regulations of RBI as applicable to existing commercial banks including requirement of maintenance of Cash Reserve Ratio (CRR) and Statutory Liquidity Ratio (SLR).”
Even though bank FD is a term deposit and funds are locked till maturity, one may exit mid-way or better take a loan against the deposit. In doing so, the deposit continues to earn the original rate of interest. The loan can be availed up to 90 per cent of the invested amount for which interest rate will have to be paid to the bank. Such loans come with zero processing charges and with no prepayment penalties.
Predicting the movement of interest rates more so over a long term is highly impossible. Investors especially retirees look for regular income and invest a portion of their savings in FDs. In order to mitigate the reinvestment risk and to ensure liquidity, they should use the ‘laddering’ approach to invest in FDs. When the shortest tenure FD matures, reinvest again for the longest tenure based on one’s need.
Investment in bank FDs should ideally be for the purpose of capital preservation. Saving through FDs for a long term goal is financially damaging. Post the impact of tax and inflation, the real return in bank FD is almost negligible. They may suit those who are in lower tax slabs and those who look for assured and a fixed regular income such as retirees. Also, if your goal is within 1-2 years, use bank FDs to park your accumulated funds in order to avoid any volatility.