Back in the days, when they earned money and decided to save from it, the most favorable avenue of saving would be a Fixed Deposit.The reason – Simple , Easy, Secure & Guaranteed Return and a Friendly Neighbourhood Bank.
Move to Now !! 2022 and come to think of it, are Fixed Deposits a favorable Instrument to invest in? Sure enough they are Secure and Guaranteed even now,but given the ease of access to information about the various tools of investment available in the industry and the Gazillion options to choose from, are Fixed Deposits among the best ones going around in the industry at the moment? Let’s Find Out !!
What are Fixed Deposits and How do Banks use Fixed Deposits
A fixed Deposit is a Financial Instrument offered by Banks and NBFC’s wherein one can invest a sum of Money in Return for a Interest Rate the Bank or NBFC will pay on the investment in return. Fixed Deposits vary from a Timeline from 7 Days to 10 Years and are flexible in nature. Money from a Fixed Deposit can be withdrawn anytime, However a penalty would have to be paid in case the money is withdrawn before maturity.
The bank then uses this money to fund their lending to Consumers or Business in the form of Home Loans, Personal Loans, Education Loans,Auto Loans,Working Capital Loans Etc.
Fixed Deposit Over the Years
A close look at FD Interest Rates from various Indian banks over the years and we observe that the Interest Rates have decreased rather rapidly. Here is a quick view on the interest rates over the last 20 years.
The rates have come down from close to 10% in FY 2000-01 to a little more than 5% at present. The reasons for these vary every financial year, some of the reasons include.
→ Increased Liquidity
The banks at times high a high inflow of cash , for example during Demonitization, the banks received an inflow of more that Rs 5 Trillion, which means that they were high on cash in Savings accounts and had to pay an interest of 4% on all the money parked in these Savings Accounts. Hence at this point of time the banks did not require too much inflow of cash into their system and hence cut down FD Rates to make the instrument less attractive to the retail investor and force him/her to look out for other investment avenues, thereby cutting excessive inflow.
→ Rate Cuts by Reserve Bank of India (RBI)
At times, the Reserve Bank of India (RBI) in order to improve liquidity lowers the rates at which it lends money to the Banks in the system. Hence the banks prefer to borrow money at lower interest rates from RBI rather than lure retail investors at higher interest rates.
→ To Check the pressure on Net Interest Margin(NIM)
Net Interest Margin is defined as “A measurement comparing the net interest income a Bank generates from its products like loans and mortgages, with the outgoing interest it pays holders of savings accounts and certificates of deposit (CDs). Expressed as a percentage, the NIM is a profitability indicator that approximates the likelihood of a bank or investment to sustain over the long haul”
Hence to keep the NIM low at all times so that the difference between Income from its Products and the Interest it pays for the deposits it holds is positive, the banks decrease the interest rates thereby making the instrument less attractive to the investor.
Taxation on Fixed Deposits
All fixed deposits have TDS cut before the proceeds are given to the investor on Maturity and TDS typically depends on the Tax Slab the investor would be in. The TDS effect on Fixed Deposits at various levels various are as below –
| Fixed Deposit Rate % | Interest Earned Post Tax | |||
| 30% | 20% | 10% | 5% | |
| 5 | 3.50 | 2.80 | 2.52 | 2.39 |
| 5.25 | 3.675 | 4.2 | 4.7 | 3.5 |
| 6 | 4.2 | 4.8 | 5.4 | 4.0 |
| 6.5 | 4.55 | 5.2 | 5.9 | 4.3 |
| 6.75 | 4.725 | 5.4 | 6.1 | 4.5 |
| 7 | 4.9 | 5.6 | 6.3 | 4.7 |
As visible from the table above, if a retail investor at 30% Income Tax Slab, invests in an FD at 5% , the final return that the investor gets after TDS is only 3.5%, which means that 1.5% is foregone as Tax paid on the profits earned in the Fixed Deposit on Maturity.
Similarly various rates at various tax slabs and the effects the TDS has on the Maturity Return can be seen in the table above.
Conclusion
Fixed deposits is one of the most trusted forms of investment to park money, however that’s how it should be used.Given the huge Gamut of safe and reliable options available for investment now, A fixed deposit should not be looked at as a means of investment to grow wealth and should be only looked at as an instrument when you can park emergency funds that you can have ease of access to at all points of time.
