Can FD Beat Inflation?

The inflation rate in India has been high, and your fixed deposit may fail to give inflation-beating returns. However, it is possible to beat inflation by a comfortable margin and earn higher returns by investing in a fixed deposit for a short-term.

A penny saved is a penny earned. However, thanks to ever-rising inflation, over a period, the value of money saved could be much less than when it was earned. You cannot ignore the burning impact of the rising cost of investments. For example, Rs. 100 earned will be worth Rs. 92 after a year, if it’s not invested and the rate of inflation assumed is 8 per cent. That is why you should always be on the lookout for investment options whose returns are more than the prevailing inflation rate.

You might get excited when banks offer 8 per cent interest rate on a five-year fixed deposit. But you should be concerned if the 8 per cent return rate is sufficient to meet with the pace of the rising inflation. Is this what you are going to get on maturity? The answer is No. This is because you have not considered falling value of money due to inflation and taxation.

What is inflation? In simple words, it is a rise in the price of goods and services over the period. The general rule of economics is that the value of rupee will not be equal to the same in the future. While calculating returns over a period of time, it is important to keep inflation in mind and know the difference between returns on paper and real returns, i.e. the purchasing power of money.

If we talk about a fixed deposit, the interest rates offered by banks hardly beat inflation. Moreover, when tax is deducted from the interest income, returns on fixed deposit may fall below the rate of inflation. However, this can be a scenario with long-term fixed deposits. It is advisable to invest in fixed deposit for short term to take interest-rate advantage. The inflation may not affect the short-term depositor who falls in the lower tax slab. However, for investors in the higher tax slab, the fixed deposit may not serve the required purpose. In the long run, returns from a fixed deposit may be eaten by tax and inflation rates.

Perhaps, equity investment beats other classes in nominal terms despite volatility involved. However, if compared in terms of risk involved, fixed deposit shine over equity investment. If you consider the risk of market fluctuations, the equity investment would be riskier than a fixed deposit.

How to maximize returns from your fixed deposit investment?

Fixed deposits are one of the safest investment options available in India. You know exactly how much returns you are going to earn on maturity since the interest rate is pre-determined. High inflation and tax deduction on the interest income are certain disadvantages. However, it is possible to maximize your returns on fixed deposit.

Choose cumulative fixed deposit: Depending on fixed deposit returns, an FD can be differentiated into two types – cumulative fixed deposit and non-cumulative fixed deposit. In the case of cumulative FD, the interest is compounded on a quarterly or yearly basis and paid at the end of the FD term, whereas a non-cumulative FD pays out interest as per your choice of interval. It can be monthly, quarterly, half-yearly or yearly. It is advisable to opt for cumulative fixed deposit as you will earn interest on the interest income earned over the term of fixed deposit.
Do not withdraw funds before maturity: Remember, you should not withdraw funds from the deposit before the end of the term. Early withdrawals eat up your interest income. In most cases, banks levy a penalty of 1% of the interest rate on an early withdrawal. You should not put a lump sum amount in a single FD, as you may need the money for an emergency.
Compare and calculate interest rates: The fixed deposit interest rates vary from one bank to another. It is needless to mention that higher interest rates will bring more returns from a fixed deposit. It is crucial to compare various FD options and choose the one with the highest interest rates. Additionally, many banks offer online fixed deposit interest calculator through which you can determine the interest and maturity amount after a specific term at a given interest rate. It is a simple tool where you can determine the maturity value based on interest rates and tenure of the FD.
Submit Form 15g and 15h: If your income does not come under a taxable slab, you can submit Form 15g and 15h to avoid TDS deduction in your fixed deposit account. The Form 15g is for senior citizens above 60 years of age, whereas Form 15h is for general category. In case your income is less than Rs. 2.5 lakhs in a financial year, you can request the bank not to deduct TDS on the interest income from FD by submitting Form 15h.
FD in the name of senior citizen parents: If your parents do not have a taxable income, it is possible to maximize your returns from the fixed deposit by investing money in their account. Moreover, fixed deposit interest rates are generally higher for senior citizens.
Opt for annual taxation: As you already know, the interest earned on fixed deposit is taxable. However, there is no such rule on the duration of deducting tax on the interest income received from FD. Some banks and NBFCs deduct tax on a monthly basis, some may do it quarterly or a yearly basis. You can earn maximum return on FD if the TDS is deducted yearly. As the interest is calculated on a cumulative basis, more will be the accumulated interest. Hence, it is advisable to choose a bank or a financial institution which deducts TDS every year.
Renewal of FD account: It is wise to opt for short-term fixed deposit to beat inflation. Keep renewing your fixed deposit after each term. You can earn maximum profit from the regular renewal of fixed deposit account. This way, you can take advantage of revised interest rates without getting exposed to market fluctuations.

No investment can guarantee inflation-beating returns. In short, you need to choose an investment option based on your financial goals and risk appetite. If the features and benefits offered by fixed deposits match with your goals, then it is a safe choice. For those who are willing to take more risks for more returns, there are several market-linked investment options offered by top fund houses of the country. Happy investing!