What are Fixed Deposits?
Fixed Deposits (FDs) are savings instruments offered by banks where you deposit a lump sum for a fixed period at a predetermined interest rate. FDs are one of the safest investment options, with principal guaranteed by the bank (up to ₹5 lakhs under DICGC insurance).
How FDs Work
You deposit money with a bank for a fixed tenure (ranging from 7 days to 10 years). The bank pays you interest at a fixed rate, which is usually higher than regular savings accounts. At maturity, you get back your principal plus accumulated interest.
Types of Fixed Deposits
1. Regular FD: Standard fixed deposit with fixed interest rate
2. Tax-Saving FD: 5-year FD eligible for tax deduction under Section 80C (up to ₹1.5 lakhs)
3. Senior Citizen FD: Higher interest rates (usually 0.5-0.75% more) for investors above 60 years
4. Cumulative FD: Interest is compounded and paid at maturity
5. Non-Cumulative FD: Interest is paid monthly, quarterly, or annually
Why Invest in FDs?
- Safety: Principal is guaranteed (insured up to ₹5 lakhs)
- Predictable Returns: Fixed interest rate, no market volatility
- Liquidity: Can be broken before maturity (with penalty)
- Flexibility: Choose tenure from 7 days to 10 years
- Easy to Open: Simple process, minimal documentation
Tax Implications
Interest Income: Fully taxable as per your income tax slab. No indexation benefits.
TDS: Banks deduct TDS (Tax Deducted at Source) at 10% if interest exceeds ₹40,000 per year (₹50,000 for senior citizens).
Unlike bonds, FDs don't offer indexation benefits. The entire interest is taxed as per your income tax slab, which can significantly reduce post-tax returns, especially for higher tax brackets.
Key Considerations
- Inflation Risk: Returns may not beat inflation, reducing real purchasing power
- Tax Impact: High tax on interest reduces effective returns
- Premature Withdrawal: Penalty charges if you break FD before maturity
- Interest Rate Risk: Locked into a rate even if market rates rise
- Opportunity Cost: May miss higher returns from other investments
Who Should Invest in FDs?
FDs are ideal for risk-averse investors, emergency funds, short-term goals (1-3 years), or as part of a conservative portfolio. They provide capital safety and predictable returns but may not be the best option for long-term wealth creation due to tax implications and inflation.