Recurring deposits (RDs), like fixed deposits (FDs), are one of the safest investment avenues available in India, and there are many similarities between the two. In fact, both these products are fixed income products, provide almost similar returns, come with similar taxability and are offered by all major banks and financial institutions. They are so similar in nature that sometimes many investors get confused about which one to choose for investing.
The comparison of a bank fixed deposit versus a recurring deposit, therefore, is based more on convenience and practical needs than on the comparative returns. The attraction for both these instruments is the fixed return with the safety of money invested. It is, therefore, practical considerations that define the RD versus FD debate.
Fixed Deposit or Recurring Deposit –What to choose?
Individuals who do not have money to invest in a fixed deposit but can afford a small portion of investment amount from income every month can opt for a recurring deposit instead of a fixed deposit. However, “if you have a lump sum amount to invest at one go, fixed deposit is the right investment option for you. Both fixed deposit and recurring deposit are risk-free investments. Fixed deposits will earn you more than a recurring deposit, but some individuals also prefer recurring deposits over fixed deposits as they do not have enough money to invest at one go,” says Vaibhav Agrawal, Head of Research and ARQ, Angel Broking.
How FD and RD are similar?
Both FDs and RDs issued by banks are guaranteed for the principal and interest component. Hence the risk of default is almost zero in both the cases. In both RD and FD, the rate of interest is approximately the same, although you can get higher yields as you increase the tenure. “Even in terms of taxation, both the RD and the FD are the same. The interest on RD and FD is taxable in the hands of the investor at the applicable peak rate of taxation beyond the normal threshold of Rs 10,000 interest earned per financial year,” says Agrawal.
Comparing a 1-year FD with a 1-year RD
The best way to understand the relative performance of an RD versus an FD is to take the illustration of 2 investors. The first investor has a lump sum of Rs 60,000 which he puts in an FD giving 7% annual returns. The returns are compounded monthly. In the second case, the investor opts for an recurring deposit of Rs 5000 per month at the same rate of 7% per annum compounded monthly.
As is clear, the total interest earned on the fixed deposit is Rs 4,331 while the interest earned on the recurring deposit for the full year is Rs 2,311. The FD earns more interest and that is because the entire Rs 60,000 is locked in for the full tenure of 12 months whereas in the case of RD, the interest is calculated on the progressive monthly investments.
Three things to remember when doing the FD versus RD comparison
Prima facie, an FD appears to have an edge when it comes to the returns and an RD has an advantage in instilling a regular saving discipline. However, there are 3 points to remember in this comparison.
1. Unlike an equity SIP, the RD does not give you any benefit of rupee cost averaging (RCA). What makes an SIP advantageous over lump sum investment in mutual funds is this RCA. Since there is no question of market price here, there is no added benefit in a recurring deposit over fixed deposit.
2. Both RDs and FDs are not efficient in tax terms. Even as the returns are lower than other asset classes, the tax treatment is unfavourable compared to debt funds and equity funds. That needs to be kept in mind.
3. Lastly, “if you are really looking at long-term investing, then fixed deposits and recurring deposits cannot really help you create wealth. In these cases, it is products like equities, equity funds and ELSS funds that can really generate wealth. That is a perspective you need to keep in mind when comparing FDs versus RDs,” advisers Agrawal.