Calculation of interest on/in savings account, fixed deposit account and recurring deposit account

Calculation of interest on/in savings account, fixed deposit account and recurring deposit account

Saving account

Interest rate calculation Formula  Daily interest = Amount (Daily balance) * Interest (3.5/100) / days in the year.

Earlier method of interest rate calculation 

Earlier, banks would pay interest at the rate of 3.5% p.a. on the lowest available balance in the account between the tenth and the last day of the month.

Any deposit in the account between the tenth and the end of the month, would not earn the account holder any interest as it is not part of the interest rate calculation.  Any withdrawal between the same period would result in lower interest income as the lowest balance would be taken into account for the calculation.

Example: Akhil had an account balance of Rs 85,000 on April 10. He received a payment of Rs 300,000 on April 15 from the sale of some mutual fund units.

On April 29, he made a down payment of Rs 320,000 to a builder for a property. This resulted in his account balance reducing to Rs 65,000. For the interest income calculation for the month of April, the bank would take Rs 65,000 as the base and pay him interest on that amount. So interest due to Akhil would be on Rs 65,000 for 30 days @ 3.5% p.a. which would be Rs 187.

In spite of having a high account balance for most period of the month, Akhil lost interest income for the month.

Under this method of interest rate calculation, the best thing Akhil could do is ensure that all transactions are done between the first and ninth of any month so that he would get benefit of interest. This required proper planning.

New method of interest rate calculation 

Interest will be paid @3.5% p.a. on the daily balance in the account at the end of the day. Here, the account holder will get interest on the actual day end balance.

Under this method, Akhil’s interest income calculation would be:

  • For the first 14 days of April, interest to be paid would be calculated on Rs 85,000;
  • For the next 14 days of April, interest to be paid would be calculated on Rs 385,000 and;
  • For the balance 2 days, interest to be paid would be calculated on Rs 65,000.

So the total interest due to Ashwin would be Rs 643.  Under this method, Akhil’s interest income is higher by Rs 456!  Besides, he did not have to plan his withdrawals and deposits as he would receive interest on the actual account balance.

Fixed deposit account

Fixed Deposit (FD) is a type of term deposit offered by banks and other non-banking financial companies (NBFC). Fixed Deposit offer higher interest rates than savings accounts but on certain terms and conditions. For instance, the invested amount should be locked for a fixed tenure ranging between 7 days and 10 years at a fixed rate of interest. Interests earned on FDs are either paid out at regular intervals or are reinvested, depending on the investor’s choice. The maturity amount of the fixed deposit is paid out at the end of the tenure. Fixed Deposit calculators can be used to check the interest and maturity amount that the depositor will get when the tenure ends.

Fixed Deposit Tenure Fixed Deposit has a time period or tenure for which the sum invested gets fixed or locked. You can avail an FD for a tenure of anywhere between 7 days and 10 years. Different financial institutions offer different tenure options. However, it is best if you compare fixed deposits offered by different financial institutions and then make a choice. What is worth noting here is that the tenure you choose will also decide the interest rate the bank will offer you. Longer the tenure, higher will be the FD interest rate.

FD Interest Rate Interest rates on FD are higher as compared to savings accounts and depend upon the Fixed Deposit amount and tenure. Interest rate on Fixed Deposit varies from one bank to another. Hence, compare fixed deposit rates of different banks to make a smarter choice. The interest payout or compounding frequencies vary between FD schemes and are usually done on a quarterly, half-yearly or yearly basis. However, keep in mind that the interest rate for tax-saving FDs is decided at the start of every financial year by the government and is same across banks.

Investment Amount Investment in a Fixed Deposit is made only once and the minimum amount for opening an FD varies in case of different financial institutions. You can start with as low as Rs 5000 and invest even up to Rs 10 Crores or more. Enter the principle amount, tenure and interest rate in the FD calculator to get the details.

Fixed Deposit (FD) vs. Recurring Deposit (RD)

Both FD and RD are term deposits which earn interest at the same rate for the entire tenure of the deposit. At maturity, the invested amount is paid out along with the accrued interest.   However, FD of same amount and same tenure as that of RD fetches more returns. The reason being, in case of FD you make a lump sum investment and so the entire money earns interest for one year. Whereas, in RD the first installment earns interest for 12 months, the second for 11 months, third for 10 months and so on.

Factors That Can Affect Fixed Deposit Interest Rate

While Fixed Deposits have fixed rate of interest throughout their tenure, the interest rate can change at maturity and the FD renewal or reinvestment is always done at the interest rate at maturity. The interest rate may increase or decrease with time depending on bank norms. Therefore, it is best to compare the fixed deposits and re-invest in the scheme which offers higher interest.

The following are some of the certain factors that can affect FD Interest Rates:

Reserve Bank of India (RBI)

Reserve Bank of India is the Central Bank of the country bestowed with the authority of managing the monetary policy of the country. To achieve maximum credit control and to ensure proper flow of funds in the country, RBI implements certain regulations on banks. Such regulations control the interest rates of different financial products.   Recession

Simply put, recession means economic slowdown. During times of recession, RBI increases money supply in the market by lowering the interest rate on the cash stock or deposits in the bank; as a result FD interest rates decrease.

 Inflation

Inflation means price rise which can lead to rupee devaluation and reduction of purchasing power over lent amount. Therefore, to remunerate the loss in interest of the lent loans, banks attract more cash by offering higher interest rates on term deposits.

Recurring deposit account

Recurring Deposit is a savings option that helps you plan for your future needs. People with regular income can make a financial provision for the future by investing a small amount of their income regularly in a recurring deposit (RD) for a pre-determined period and earn interest on those investments, as high as fixed deposits. When your deposit finally matures, the lump sum including the principal and accumulated interest is paid back to you. More importantly, the interest on RD remains same throughout the term once you have invested, unlike many other investment products which are subject to periodic change.

RD Interest Rates

Banks offer high interest rates on recurring deposit schemes. Recurring deposit interest rates vary from 3.5% to 8.5% depending on the deposit tenure, amount and bank. RD interest rates for short tenure are similar to that of a savings account interest rate. But, if you opt for a longer tenure, then you might get an increase in interest rates as well. Banks also provide additional interest rate on recurring deposits for senior citizens. So, one must check and compare different banks for recurring deposit interest rate to earn higher returns on investment made.

 

RD Tenure

While investing in a recurring deposit, one should choose a recurring deposit with highest rate of interest for the least tenure. For instance: If bank provides 7.4% p.a. interest on RD for 1 year and 7.1% p.a. for 14 months, then the investor should opt for one year recurring deposit which will earn 7.4% p.a.

Liquidity

Most of the investors consider liquidity as one of the most important factor while choosing the right recurring deposit. RD comes with premature withdrawal facility but the investor will be required to pay a premature penalty for the same. Also, in case of premature withdrawals, the recurring deposit interest rate varies depending on the deposit tenure. Thus, it is important to look for a bank or financial institution, which offers higher rate of interest with low premature penalty.

Most banks that offer recurring deposits compound the interest on a quarterly basis. Banks use the following formula for RD interest calculation in India or the maturity value of RD:

(Maturity value of RD – based on quarterly compounding)

                                                        M = R [(1+i)n–1]
                                                                                                                         1- (1+i) -1/3

Where,

M = Maturity value of the RD

R = Monthly RD installment to be paid

n = Number of quarters (tenure)

i = Recurring deposit interest rate

 

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