Updated on: 24 Jan 2024 | 10 mins read
Fixed Deposits (FDs) are a natural choice for investors exploring investment options that involve minimal risk and offer assured returns. If you have a lump sum surplus to invest, depositing it to an FD account instead of a savings account would be wise because the returns offered by FDs are higher than those offered by a savings account.
You can open an FD account with a bank, a deposit-taking Non-Banking Financial Company (NBFC) or at a post office. While the minimum investment amount varies across financial institutions, there is no limit on the maximum investment.
But have you wondered how a fixed deposit works? How do banks benefit from your FD account? In this article, we decode these underlying concepts while introducing you to the different types of FDs.
Fixed Deposit (FD) is an investment scheme in which you can invest a lump sum amount for a specific tenure for a fixed interest rate. Banks, Non-Banking Financial Companies (NBFCs), and post offices offer FD schemes. The interest rate remains unchanged throughout the tenure, giving you assured returns. The interest rate depends upon the investment amount and tenure, varying from bank to bank.
Moreover, senior citizens are offered higher interest rates on their investments in an FD scheme. Also, FDs placed with a bank are insured by DICGC up to INR 5,00,000. Unlike mutual funds, investments in an FD scheme fall under the almost-zero risk category as they offer assured returns with negligible risk upto INR 5 lacs per bank.
You can open multiple FD accounts in banks and NBFCs. You can also close an FD account if you need funds in a financial emergency. Many FD schemes allow you to withdraw your investment before the maturity date; however, you will have to pay a penalty.
Some FD schemes (with a tenure of five years) also offer tax deductions on investments up to Rs. 1,50,000 as per Section 80C of the Income Tax Act, 1961. Furthermore, you can avail of loans by keeping your FD as collateral and enjoy a lower interest rate.
The features of a fixed deposit are as follows:
Fixed Deposits (FDs) are deposits for a predetermined period chosen by the investor at a fixed interest rate. When you invest in FDs, your money gets locked for the selected investment tenure, which can range between seven days and ten years. Now, let us look at how a fixed deposit account works.
Suppose you chose a two-year tenure for a bank deposit of Rs. 50,000. With the assurance that your investment is locked for the specified period, banks will utilise it for lending to borrowers – individuals or corporates. Banks function under an asset-liability management system. Your deposits are liabilities for banks, and the loans provided are assets. So, in opening an FD account, you are building liabilities for the bank.
The interest rates offered on FD vary across institutions and are based on your investment tenure and amount. Each financial institution fixes its interest rates depending on the repo rate changes, as announced by the Reserve Bank of India (RBI), from time to time. The vital point to note is that during your FD tenure, even if interest rates fluctuate, you will be entitled to the rates promised when opening the account.
However, the scenario changes when you withdraw prematurely. In this instance, you need to pay a penalty or withdraw at a lower interest rate than the predetermined rate.
So, banks utilise your funds for a fixed tenure, and in return, they pay you a predetermined interest on the deposit.
Now, let’s look at the various types of FDs.
After making an initial deposit in an FD account, you set the balance limit for your savings account. Flexi deposits have access to the auto sweep feature; if the balance in the savings account exceeds the limit, the excess amount can be transferred to the FD account automatically.
You can invest in fixed deposits both online and offline. The process is as follows:
Online
Offline
FD is one of the safest investment instruments you will come across. However, you need to know more than how a fixed deposit works to help you decide; you should also consider parameters like interest rate, tenure, maturity amount, and terms and conditions related to premature withdrawal before investing in a scheme.
Do banks provide a facility to open an FD account online?
Yes, you can open an FD account online with most banks. This facility can be availed through the bank’s internet banking portal or application. India Post also offers online account opening facilities for FDs via its internet banking service.
Can I change the tenure for my FD investment?
The investment tenure for an FD account remains fixed. You cannot change it once you open an account. However, you may be allowed to withdraw prematurely after paying the penalty.
Who can open an FD account?
The following individuals and organisations are eligible to open an FD account:
Can I save tax by investing in an FD scheme?
Yes, you can invest in tax-saving FD schemes. This scheme allows you to avail tax deductions on investments up to Rs. 1,50,000 per year, as per Section 80C of the IT Act. Generally, these FD schemes come with a lock-in period of five years.
Can I link my FD account with my savings account?
Yes, you can link your FD account with a savings account. For Flexi FD and sweep-in FD, you can set a limit on the balance in your savings account. The excess amount can be transferred to your FD account if your balance exceeds the limit.
You can open an FD for an amount as low as Rs. 100.
If you face an emergency, like a medical crisis, a loss of job, or any other financial obligation, you can avail of a loan against FD and get the funds you need.
FD investment in India is secured. No market fluctuation can affect it. The interest rate for an FD scheme also remains fixed during a given period until it reaches its maturity.