Fixed Deposits: Meaning, Types, Features, Benefits and Risks

Fixed deposits (FDs) are well known for being one of the most popular choices. It is especially a favourite among conservative investors who want to invest in low-risk investment options. 

What are fixed deposits?

A fixed deposit, commonly known as FD, is a type of deposit in which a particular sum of money is locked in for a fixed time period. It is an investment option with a limited maturity period as well as fixed returns. 

Banks, non-banking financial corporations (NBFC), post office branches and large corporations offer FDs to people. The rate of interest you will receive will be much higher than what you receive in a regular savings account. 

• The rate of interest will be fixed in the beginning and will remain the same throughout. In case of a fixed deposit, you get the opportunity to either receive the interest amount periodically in your savings account or let it accumulate in your deposit till the time the FD matures. 
  In case you decide to accumulate your interest, the principal will increase with every credit. Therefore, you can opt for the benefit of power of compounding this way.
• You can opt for a fixed deposit tenure as per your convenience for as long as you have idle funds for a period which ranges between 7-14 days up to 10 years. This is the reason it is also known as term deposit. 
• Premature withdrawal is not possible. Even if you try to withdraw money prior to maturity you will need to break it which will result in a penalty, and you will receive less interest than you were promised. On the day of maturity, you will receive the principal amount and interest in your account from the bank.

Features of Fixed Deposit

Some of the key features of fixed deposit include flexible tenures to choose from, easy renewal process and so on. If you are planning to invest in an FD, you can go through the features of FD mentioned below and take the final decision as to whether you want to invest or not:

• Hassle-free application
  Nowadays, most of the leading banks and NBFCs are offering the option to open an FD online. The process is quite effortless as the paperwork involved is minimal.
• Fixed rate of interest
  According to the tenure you choose, your rate of interest will differ. However, it is fixed throughout the entire tenure and is not affected by any fluctuation in the markets. 
  The rate of interest however also depends on the financial institution where you are opening your account. Another feature of Fixed Deposit is that it offers higher rate of interest to senior citizens which can be as high as 25 or 50 basis points. Therefore, retired people can take advantage of this and set a regular source of income post-retirement.
• Assured returns
  You will get guaranteed returns on your fixed deposit. The returns that will be promised to you at the time of opening the FD will be delivered to you without fail. Unlike market-linked investments whose interests keep fluctuating, you will receive the same interest rate with FDs that was promised even if the interest rate drops. Therefore, FDs are much more secure in comparison to other investments.
• Affordable minimum deposit
  You can invest in a fixed deposit with as low as ₹5,000 and in some cases, it might be even ₹1000. This explains that you do not require a large sum of money to start investing.
• Flexible tenures
  You get the freedom to choose the tenure starting from a week or two right up to 10 years in case you wish to invest in fixed deposit. 
  Apart from that, you can also opt to make periodic deposits at regular intervals. You can opt for monthly maturity plan which offers the interest that you earn on a monthly basis or a single maturity plan by which you will receive the lump sum of principal and interest earned at once after maturity.
• Loan against fixed deposit
  You can also get a loan against your fixed deposit in case you are in some emergency and need funds urgently. This saves you from the penalty you might have to pay in case you decide to withdraw money from your fixed deposit prematurely.
• Renewal of fixed deposit
  Another feature prevalent nowadays is the option of auto-renewal. This means that after maturity your FD investment will be renewed automatically for a period equal to the original investment tenure. Therefore, you do not need to bear the trouble of withdrawing your funds and reinvesting them.

Eligibility criteria for opening a fixed deposit

Fixed Deposits might be a good investment option for people with low-risk appetite. Retired individuals who want stability of investment can opt for FDs. 

It might be apt for people who have a medium or high-risk appetite to invest a portion of their funds in FD to balance out the risk. Here is a list of entities that are eligible to open an FD account in India:

• Indian resident
• Senior Citizens
• Minors
• NRIs
• Companies
• Partnership Firms
• Societies and Clubs
• Individuals and Joint investors
• Sole Proprietorship

Documents required for fixed deposits

In order to open a fixed deposit account, you need to provide the following list of documents:

• Photocopy of a government-issued identity card, such as a Voter card, PAN card or Passport etc.
• Filled up application form along with your signature and a passport-size photograph.
• Proof of address like Passport, electricity or telephone bill etc.

Other than the photocopies you will also require to present the original documents for verification.

How is the interest on fixed deposit calculated?

When you invest in fixed deposit, the interest payment is done quarterly. On the basis of the mode of payment, the returns will be calculated and paid to you. You can either ask for the payment in your savings account or let it accumulate till maturity.

These formulas are used to calculate the interest on fixed deposits: 

Quarterly Interest Payment= Principal x Interest Rate/4

Compounded Maturity Value= Principal x (1 + ROI/4) ^(Term in Years x 4)

For example, let’s say you invest ₹50,000 in an FD which is offering 7% rate of interest and is for a tenure of 5 years. You can calculate the interest in this process:

Quarterly Interest Payment= 50,000 x 7%/4

                                                                   = ₹875

Therefore, Compounded Maturity Value= 50,000 x (1 + 7%/4) ^ (5 x 4)

                                                                    = ₹70,739 

You will not receive any quarterly interest, but it will be added to the principal which will then be invested again. This way, you can utilise the power of compounding and benefit from it.

How can you start Investing in FD?

As an investor, you can easily open an FD account both online as well as offline. You can open an account in either a bank or a post office or an NBFC. 

Although the process might vary slightly from bank to bank the general procedure that you might have to follow to open an FD account online is as follows:

Step 1: In case you want to open an FD account in a post office, you will need to visit the nearest post office, open a savings account and activate online account access. In case of a bank or NBFC, you can visit their official website.

Step 2: You can log in to your existing account or create a new one. In case of a new account, you need to provide your KYC documents and a passport-size photograph for verification. 

Step 3: Select the option which prompts you to open a FD account. It can either be on the homepage or the Services section of the respective bank’s website. 

Step 4: Enter the FD details like principal amount, tenure, nominee etc.

Step 5: Make payment for the deposit. 

Step 6: Download the fixed deposit certificate.

You can open an FD account with a bank even if you do not have an existing account with them. Here are the steps you can follow if you wish to invest in an FD account offline:

Step 1: Visit the bank and fill up the fixed deposit form. 

Step 2: In case you already have an account, provide the customer code and account details. In case you don’t, provide your proof of identity, proof of address (PAN no. is mandatory) for KYC and a passport-size photograph.

Step 3: Submit the form at the bank, and in case you do not have an account there, either write a cheque or submit an ECS form in order to deposit the amount.

Types of Fixed Deposits

Before you invest in Fixed Deposit, it is better for you to learn about the different types of fixed deposits available in the Indian market:

1. Standard fixed deposit or term deposit
   It is the most popular fixed deposit option opted by people. This type of fixed deposit is available for resident Indian below the age of 60 years. You need to invest an amount for a fixed tenure. This FD interest rate depends on the tenure. The tenure of these FDs may vary between 7 days to 10 years.
2. Senior citizen fixed deposit
   This type of FD is available to people aged above 60 years. The interest rate is usually 25 basis points higher than the interest rate of standard FD. The limit for TDS for interest on this deposit is also different and is ₹50,000.
3. NRI fixed deposit
   This type of FD can be opted by NRE/NRO account holders. NRE fixed deposits are available in foreign currency and offer tax-free interest on deposits. NRO fixed deposits are available in Indian currency and interest is taxable at 30%.
4. Recurring deposit
   This is a great way to save some money over a short tenure. This type of FD lets you save a small sum of money every month. The tenure of recurring deposits usually ranges between 12 months to 60 months.
5. Tax saving deposits
   This type of deposit account in India is specified for tax deduction as per section 80C of the Income Tax Act of 1961. The lock-in period for this type of FD is 5 years and you can neither opt to get the interest pay-out nor withdraw any amount prior to maturity.
6. Flexi deposit
   This type of deposit is linked to your savings account. In this case, there is a decided limit of balance beyond which if you deposit any amount, it will automatically transform into a fixed deposit. If for instance, you withdraw more money from your savings account, the fixed deposit will automatically fill in the balance.
7. Corporate fixed deposit
   These are floated by large corporations and businesses that hold significant real assets. This type of fixed deposit also offers a fixed interest rate. The returns in case of Corporate Fixed Deposits are much higher if you compare it with bank FDs are NBFCs. However, they carry much higher risks.
8. Special fixed deposit
   They are so named because these are offered for a special time period. This is popular choice among stakeholders as the rate of interest offered is much higher. The tenure can range between 290 days to 390 days.
9. Floating fixed deposit
   In case of this type of FD, the rate of interest keeps changing quarterly or yearly. Therefore, people can opt for the benefits of changing interest rates.

Benefits of fixed deposit

Here are some of the top benefits of FDs that you need to be aware of in order to take well-informed decisions:

• Safe investment option
  FDs are fixed-income debt instruments. Although the returns might be lower in comparison to other investment options like stocks, there is safety of capital in case of FDs. Banks, NBFCs and Post Offices use these funds for lending activities and investments. 
  Therefore, the returns you receive on your investment are safer than stocks.
• Tax advantage
  TDS or Tax Deducted at Source on the interest that you earn from FD is deductible if it is lower than ₹40,000. However, in case of senior citizens, it is ₹50,000. 
  In case you invest in Tax Saving Fixed Deposits that have a lock-in period of 5 years, the amount that you invest will be deducted from the total taxable income as per section 80C of Income Tax Act of 1961. In this case, the maximum amount deductible is ₹1.5 lakh.
• Deposit insurance
  The FDs have the backing of Deposit Insurance and Credit Guarantee Corporation (DICGC), a subsidiary of Reserve Bank of India. 
  They offer a cover of up to ₹5 lakh for each fixed deposit so that in case a bank is unable to pay your dues due to bankruptcy, then you will be covered up to this sum.
• Senior citizen benefits
  With FDs, senior citizen will get benefits like a higher rate of interest and a higher limit for TDS deduction. The rate of interest can be around 0.25% to 0.50% more than people below 60 get. 
• Encouragement for savings
  Fixed Deposits help in saving your money in an organised manner and not storing it at home. In case you store your money at home, you do not earn any interest. Fixed Deposits encourage you to save money for your future needs by offering attractive interest rates. 
• Liquidity
  As FDs are highly liquid, you can withdraw them anytime you want before their maturity. Although you will receive lower interest rates, but the process of withdrawing money is easy and you receive the funds within a working day.
• Simple investment tool
  FDs are quite a simple investment tool. How does fixed deposit work is quite simple to understand even for beginners getting started with their personal finances. Therefore, you can take your own decision regarding your financial goals instead of following the herd. 

Risks associated with fixed deposits?

Like every other investment option, FDs also have a few risks, and they are as follows:

• Penalty on withdrawal
  Although you have the freedom to withdraw funds from FDs whenever you want, but that comes with a price. Banks charge penalty if you withdraw funds prematurely. This penalty is in the form of a lower rate of interest than what was promised when you open the FD.
• High taxation
  The interest that you earn is added to your taxable income and is taxed as per your slab. You do not receive any deduction on the interest you earn. If your interest rate is 7%, it will not only get reduced by taxes but the rate of inflation will further diminish it.
• Liquidity risk
  Although FDs are highly liquid, some exceptions are there. For example, FDs have a lock-in period of 5 years before which liquidation is not possible. It might so happen that certain banks might not offer online liquidation and you might have to visit the bank branch and complete the paperwork to liquidate your funds.
• Default risk
  It might so happen that if you invest in FDs of a small cooperative bank, they might default on your payment. Cases like this are not uncommon. In this situation, though the deposit insurance might be helpful, but in case the amount is higher than ₹5 lakh, you will lose the remaining amount.

Do fixed deposits improve one’s financial portfolio?

Here are some of the reasons as to why it might be useful to include FDs in your investment portfolio:

• Offers balance to your portfolio
  When you invest in market-linked instruments like equities and mutual funds, there is a component of risk present, which is not there in case of FDs. 
  This helps in providing balance to your portfolio. There might be fluctuation in returns generated by market-linked instruments; however, the returns will be same as was promised in case of FD. 
• Suitable for mid-term goals
  FDs will work towards fulfilling your mid-term goals and offer safety funds in case of any emergency. 
• Keeps net value of portfolio positive
  In case the markets are underperforming, the returns you generate from FDs will compensate for the losses you face on your investment in market-linked instruments. This helps in maintaining stability and keeping the net value of your portfolio positive.

Conclusions

Having a fixed deposit helps in reaffirming your financial security. It is one of the most convenient and hassle-free investment options available in the market and hence, largely preferred by Indians.

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