What you should look into before investing in FDs?   Jun 16, 2012

Investing in any investment avenue requires at least some basic know-how on the part of investors. Just going by what your distributors / relationship managers / agents say can do more harm than good to your hard earned money. That is why it is imperative for you to exercise a certain degree of self-learning and being responsible for your investments. This should be exercise even if you are investing in the most common investment instrument like a bank’s fixed deposit or commonly known as ‘FD’. Surely, you must have heard a lot about this fixed income instrument from your family, friends, neighbours, etc. To make it easy for you to invest in a bank’s FD, banks provide the facility of directly debiting your savings account for a pre-determined amount and transferring it to a FD linked with that savings account.

However, you may also find it very easy to determine as to which FD to invest in, as ultimately only the interest rate on the FD matters. But in its entirety, this is not true. Here are some of the pointers you should check before signing that cheque to invest in a bank’s fixed deposit.

  • Credit profile


The FD’s credit profile is an indicator of the degree of risk associated with it in terms of timely repayment of the principal and interest payment. For example, an ‘AAA/FAAA’ rating is indicative of the highest level of safety. Typically, an FD with a higher rating would offer a little lower returns vis-à-vis an FD with a lower rating. The additional return in a lower rated FD is in effect a compensation for the higher risk borne. Thus you need to determine your risk taking ability before getting lured by a FD offering a higher rate than other FDs.


  • Post tax rate of return


Well you may know the interest rate offered by the FD but it is imperative at this point for you to know that the interest received on your FD is subject to marginal rate of taxation (i.e., according to your personal income tax slabs). Also, at any point in time, it is not uncommon to find various entities like banks, small savings schemes and corporates offering differential returns on similar rated FDs. You should check out various options and select the FD that offers you the best post tax return according to your risk appetite.


  • Interest pay-out options


FDs generally provide various interest pay-out options like monthly, quarterly, annually or on maturity. Ideally, your need for liquidity will determine which interest pay-out option is should be chosen. However, selecting the interest pay-out ‘on maturity’ option can help you benefit from the compounding effect and clock a higher return.


  • Tenure


The FD’s tenure is the period over which you will stay invested in the instrument. By and large, a longer tenure translates into a higher rate of return. However, you need to match your needs/objectives with the investment tenure. For example, if you have an expense to meet 3 years hence, you may ideally invest an appropriate amount in a 3-Yr FD to ensure that the maturity proceeds match your future obligation. On the same lines, if the investment tenure is 5 years, then investments can be considered in tax-saving FDs; this will help you simultaneously benefit from tax sops under Section 80C (interest earned in such FDs is subject to tax).


  • Premature withdrawal


An often-ignored aspect of FD investing is the premature withdrawal clause. Opting for a premature withdrawal can be penalised by either a lower rate of return or zero interest depending on the terms and conditions of the FD. Thus, you need to acquaint yourself with the implications of a premature withdrawal before making an investment. Now-a-days there are banks which provide premature withdrawal without any charge. Hence, if you believe that you may need the amount invested anytime in case of an emergency then you may opt for a FD from such a bank.

So, the next time you plan to invest in an FD make sure that you keep in mind the above pointers and act responsibly.

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