Few tips for investing in Fixed Deposit
Fixed Deposits are considered best and safest form of investment which gets tax benefits as well as steady returns. Fixed Deposits are either kept with Banks or Company but FD kept with Companies is not eligible for tax deduction, only FD kept with banks for term period of 5 years is eligible for deduction under section 80C. So we will talk about FD with Bank Only.
1. Fixed Deposits are not totally safe
Fixed Deposits we keep in banks are insured by the Deposit Insurance and Credit Guarantee Corporation (DICGC) but don’t think that you are entirely insured. DICGC insured deposits only up to Rs 1 lakh per customer across all branches of a bank.
So in case you are planning to invest Rs.5 lakhs in FD, split it into 4-5 different banks to safeguard your investment. Another benefit of doing this exercise is that you don’t need to break your entire deposit in case of contingency. This means that you will have to pay the penalty for premature withdrawal only for the amount that you need, even as the rest of the money keeps growing.
2. Spread your Investments over Years
Rate of Interest on Fixed Deposits tend to move in multi-year cycles. So investing all money at one instance at low interest rate is not a wise decision, instead one should build a ladder of fixed deposits which have different tenures.
If you have Rs.5 lakh to invest, split the amount in five deposits of Rs1 lakh each for one, two, three, four and five years. When the 1-year deposit matures, reinvest the maturity proceeds in the 5-year FD. By doing so, the highs and lows in interest rates will balance out over a period of time. This will also ensure liquidity because you will have one deposit maturing every year.
3. Avoid Penalty on Premature Withdrawal
One should always make deposits for right tenure because breaking FD before the tenure ends attracts penalty of 1%.
Since high tenure always has high interest rates, one should not get allured towards it. Locking up money for longer period and then withdrawing before the tenure ends will get you lower interest rates as well as will slap with the premature withdrawal penalty.
Suppose SBI offers 9% for one year FD and 9.5% for 5 years, you get tempted by higher return and invest in 5 year FD but unfortunately you require money and break FD in 1 year. Now what you will get is return at 9% instead of 9.5% that too after deducting penalty of 1%, thus making effective rate of return 8%.
4. Interest earned on Fixed Deposit is Taxable
Interest earned on Fixed Deposit is taxable under the head Income from Other Sources and attracts tax rate of the tax slab in which you fall. Suppose you are in tax bracket of 30%, so tax on interest on FD also attracts 30% tax.
Banks will deduct tax at 10% only if the interest exceeds Rs.10,000. But in every case you are required to show this income in your tax return and pay tax accordingly. Suppose your interest on FD comes Rs.15,000 and banks deducts TDS at 10% but you fall in tax slab of 20%, so you are required to show this income in ITR and pay remaining tax i.e. 10%. On the other hand if your interest on FD comes to Rs.9,000 then bank will not deduct anything but again you shall be liable to pay tax at the rate of your applicable tax slab.
In case you are not crossing the maximum income which is not chargeable to tax but your interest on FD exceeds Rs.10,000 and bank deducts TDS on it. Then you have to file ITR and ask for refund.
You can also avoid hassle of filing tax return just to claim tax refund by following ways:
- Submit Form 15G / Form 15H at the beginning of the financial year; or
- Spread of Investment across banks.
One should note that tax on the interest on FD is levied on an accrual basis. You may have invested in a cumulative deposit, but tax will be paid every year.
5. Clubbing of Income
Many assessee deposits money in the name of their spouse or children but this does not save them from tax. Any return on investment shall be clubbed in the income of the assessee. So, if a husband invests in fixed deposits in the name of his wife, the interest earned will be treated as his income and shall be taxed accordingly.
In case of investment is done in the name of minor children (below 18 years) the income earned on FD shall be clubbed with the income of parent whose earning before including children’s income is more. However, one can claim exemption upto Rs.1500 per year per child for a maximum of two children.