After taking an accommodative stance for many months now,  the Reserve Bank of India decided to withdraw its accommodation and increase the repo rates. Recently, the central bank’s Monetary Policy Committee (MPC) voted to boost the repo rates by 50 basis points, taking it from 4.40 per cent to 4.90 per cent.

 

What does this mean for you? Well, the long and short of it is that you can now earn a higher rate of interest on your fixed deposits. Let’s take a closer look at how this works.

 

The impact of repo rates on FD rates

The repo rate is the rate at which commercial banks borrow money from the central bank of the country. Now, banks may typically borrow money from the RBI to meet their daily cash flow requirements or cash balance limits. But if the repo rate rises, borrowing becomes costlier for banks in India.

 

So, by increasing the rates on fixed deposits, banks attract more customers and give them an incentive to book FDs. This way, they can maintain the cash flow needed without borrowing money at increased rates. Simple, right?

 

And now that the RBI has increased its repo rate, we are seeing the effect of this on the FD interest rates across India. Many leading banks in the public and the private sector have already increased the rate of interest they pay out to fixed deposit holders.

 

Given this economic scenario, the time may just be right for conservative investors to take full advantage of rising FD rates to save money effectively. Risk takers can also benefit from FDs, which bring down the overall risk in their portfolio.

 

The benefits of saving money with a fixed deposit

Irrespective of whether you are a conservative investor or a risk taker, a fixed deposit can be advantageous to your portfolio in many ways. Check out the top benefits of saving money with a fixed deposit.

 

1. Assured returns

The first benefit of opening a fixed deposit is that you earn assured returns on the amount you save. The rate of interest is conveyed to you upfront, and you can use an online FD calculator to check exactly how much interest you will earn over the course of your deposit tenure.

 

This is in sharp contrast with market-linked savings and investments, where the returns are not guaranteed in any manner. So, if you are looking for a safe place to park your money and also earn assured returns in the process, a fixed deposit may be a good choice in the current economic scenario.

 

2. High liquidity

Fixed deposits do come with a fixed investment tenure. However, that doesn’t mean your funds remain locked up during that entire period. In case of an unavoidable emergency, if you really need to access your funds, it is fairly easy to liquidate your fixed deposit. You can even do this online, via internet banking.

 

Alternatively, there are also many schemes like flexi FDs and sweep in FDs, which allow you to enjoy higher liquidity coupled with higher rates of interest too. So, you can also enjoy a fair bit of liquidity with this savings option.

 

3. Compounding of returns

At the time of booking your fixed deposit, you can choose to either reinvest your interest or have it paid out to you on a regular basis. If you choose to reinvest your FD interest, you get the benefit of compounding. This means you earn interest on your interest, leading to exponential rather than linear growth to your capital.

 

For example, say you invest Rs. 10 lakhs in a fixed deposit for a tenure of 5 years. And the rate of interest on this FD is 6.5% per annum. In case of simple interest, you will only earn Rs. 3,25,000 as interest. However, due to compounding, your interest earnings will be higher, amounting to Rs. 3,70,087.

 

4. Regular income payouts

If you want to set up a steady source of alternate income, you can use the non-cumulative option in your FD. This means the interest earned on your deposit will not be reinvested into the account. Rather, it will be paid out to you at regular intervals, as per your convenience. You can choose to receive your interest on a monthly, quarterly, semi annual or yearly basis.

 

This option serves as an excellent advantage for anyone who wants a steady source of extra income. For instance, if you want some guaranteed income to pay your monthly rent, or if you want to replace your primary income after you retire, this is a good option to consider.

 

5. Option to avail a loan

Fixed deposits can also help you meet your emergency cash requirements in other ways. Most banks and financial institutions allow you to avail a loan against your FD. Typically, the maximum amount of loan you can borrow is specified as a percentage of your deposit amount.

 

For example, say you have deposited Rs. 10 lakhs in your FD, and your bank allows you to avail a loan up to 75% of your principal amount. In that case, you can borrow up to Rs. 7.5 lakhs against your FD.

 

6.  Tax benefits

If you want to reduce your tax liability while simultaneously saving money for your future, FDs can help you out with this financial goal too. There are special fixed deposits known as tax saver FDs, which give you tax benefits under section 80C of the Income Tax Act, 1961. These FDs have a lock-in period of 5 years.

 

The amount you deposit in these FDs is deductible from your total taxable income up to Rs. 1.5 lakhs. This brings down your taxable income and thereby helps you reduce your tax liability during a given financial year.

 

7.  Protection against default risk

Fixed deposits are typically low risk financial products. The interest rate is locked in, the returns are assured, and you know exactly how much you will earn. That said, they do come with a small bit of default risk. In case the bank defaults, you may not receive your funds partially or completely.

 

Fortunately, you can rely on deposit insurance from the Deposit Insurance Credit Guarantee Corporation (DICGC) to protect you against this risk. Deposits to the tune of Rs. 5 lakhs are covered by this insurance automatically, so you need not worry about the default risk.

 

Conclusion

Who knew fixed deposits have so much to offer, right? See how one product can give you so many benefits? So, if you want to take advantage of the rising FD interest rates in the market now, this may be the right time to increase your deposits and earn some guaranteed interest on your savings.

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Disclaimer: This Article is for information purposes only. The views expressed in this Article do not necessarily constitute the views of Kotak Mahindra Bank Ltd. (“Bank”) or its employees. The Bank makes no warranty of any kind with respect to the completeness or accuracy of the material and articles contained in this Article. The information contained in this Article is sourced from empaneled external experts for the benefit of the customers and it does not constitute legal advice from the Bank. The Bank, its directors, employees and the contributors shall not be responsible or liable for any damage or loss resulting from or arising due to reliance on or use of any information contained herein. Tax laws are subject to amendment from time to time. The above information is for general understanding and reference. This is not legal advice or tax advice, and users are advised to consult their tax advisors before making any decision or taking any action.