Investing in a fixed deposit (FD) is an ideal option if you prefer safe, stable, and guaranteed returns. For the uninitiated, an FD is a financial instrument offered by banks and other financial institutions where you can park a lump sum for a fixed period and earn interest on it. The interest you earn on the FD amount depends on several factors, a major one of which is the tenure of the deposit.
How exactly does the FD tenure affect its interest rate? To get to the answer, we must first understand how FD tenures work.
Understanding FD Tenures
- A fixed deposit is a product where you park a fixed amount of money for a set tenure. The minimum tenure for an FD can be 7 days. You can withdraw the FD funds (and the accumulated interest) after it has matured.
- The maximum tenure for an FD is usually 10 years, wherein your funds stay (and earn interest) in the deposit account for a decade. You can reap the benefits of this long-term investing once the FD has matured.
- You can choose a tenure that suits your goals. The flexibility of the fixed deposit tenure makes FDs a suitable option for both, short-term as well as long-term goals. The tenure you opt for also depends on what kind of FD you are opting for or the institution with whom you are opening an FD.
For instance, a tax-saving fixed deposit comes with a 5-year lock-in period. Hence, you cannot choose a lower tenure than five years. Similarly, post office FDs come with limited tenure options of 1, 2, 3, and 5 years.
- In most cases, a longer FD tenure leads to a higher interest rate until a limit is reached. Let’s see how this works.
How Does the FD Tenure Affect Interest Rates?
A longer FD tenure will usually lead to a higher interest rate. In a way, you can consider it as a reward for parking the funds for a longer period with the bank.
However, there is usually a cap/limit for the interest rate set by the bank. The interest rate will not go higher than this limit even if the tenure of the FD increases substantially.
Hence, it is not necessary that you get the highest interest rate if you opt for the maximum tenure in an FD.
Usually, an FD tenure of around 1 to 3 years tends to give competitive interest rates compared to long-term options like 7 to 10 years. However, this should not stop you from opting for a longer tenure, because FD returns are compounded on a regular basis. The principal is reinvested along with the previously earned returns at regular intervals during the tenure.
An FD calculator can give you estimates of the returns from different tenures. With this information, you can choose an FD tenure that helps you get closer to your goals.
Other Factors Affecting FD Interest Rates
Along with the FD tenure, several micro and macro factors affect the interest rate.
RBI Policies
The FD interest rate is impacted by the Reserve Bank of India’s policies. For instance, if the RBI changes the repo rate, which is the rate it charges commercial banks for lending them money, it will impact the banks’ interest rate. If the repo rate rises, the FD interest rates will also rise and vice versa.
The Depositor’s Age
Banks, generally, offer higher interest rates to individuals who are above the age of 60 years.
The Type of Institution
Non-Banking Financial Companies (NBFCs) tend to give higher rates than banks. However, they also come with higher risks. Similarly, the post office fixed interest rates can also differ, as they are set and regulated by the government.
Economic Conditions
The overall condition of the economy also affects the interest rate. For instance, rising inflation may lead to higher rates and vice versa.
In addition, the returns you earn are also affected by whether you opt for a cumulative FD (where the returns are compounded regularly) or a non-cumulative FD (where the returns are paid out at regular intervals).
As the interest rate can vary between banks, it is best to use an online FD calculator to get clear estimates of the returns.
How to Ensure Higher FD Returns?
Here’s how you can maximise your FD returns:
Step 1. Choose the Right Tenure
Opt for a tenure that meets your goals while also allowing you to get the optimal interest rate.
Step 2. Consider Cumulative FDs
You are likely to earn higher returns when the funds are compounded on a regular basis.
Step 3. Avoid Withdrawal Before Maturity
Making a partial withdrawal of your FD can lead to lower returns and even penalties in some cases.
Step 4. Submit Form 15G and 15H**
If your income is below the taxable limit, you can submit Form 15G and 15H to the bank to avoid Tax Deducted at Source or TDS on your fixed deposits.
Step 5. Go for Auto-Renewal
Opting for auto-renewal allows your FD to renew at the prevailing interest rates, which may be higher than when you originally opened the FD account.
The tenure of your FD plays an important role in the interest rate you receive. While a longer tenure is usually preferable, you do not have to opt for the maximum tenure in the FD to get higher returns. Ensure you understand these factors that affect the FD interest rates and implement the right strategies to maximise your returns.
With the right FD, you can enjoy a safe, low-risk, and stable investment journey.
** Tax exemptions are as per applicable tax laws from time to time.
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