When it comes to ensuring your financial future, you must first understand your investing possibilities. Fixed deposits (FDs) and recurring deposits (RDs) are two prominent types of savings. Both provide a secure means to increase your assets, but they serve distinct financial objectives. This article digs into the specifics of FDs and RDs, outlining their features, benefits, and distinctions to help you determine which is the best savings plan for you.
What are fixed deposits and recurring deposits?
Fixed deposits (FDs)
A fixed deposit is a product offered by banks and non-banking financial companies (NBFCs) wherein you invest a fixed sum of money for a fixed period at a fixed rate of return. It can be for a period of three months to several years and the rate of interest is fixed throughout the tenure. FDs are safe in the sense that they provide assured returns and are risk-free to a large extent.
Recurring deposits (RDs)
RDs or recurring deposits are term deposits where one deposits a fixed amount every month for a fixed period of time. The rate of interest is determined at the start of the RD account and is not changed during the deposit period. RDs are suitable for people who want to develop the habit of saving and accumulating lump sum money through monthly deposits.
Why does knowing the difference matter?
It is essential to know the key distinctions between fixed deposits and recurring deposits. They have distinct functions and are useful for different financial needs and objectives. Understanding these factors enables you to select the appropriate investment plan in India based on your savings goals.
Key differences between fixed deposits and recurring deposits –
- Initial investment
A fixed deposit is where a large sum of money is invested at the start. This implies that the investor must have the entire amount at hand and invest it all at once. For instance, if you choose to open an FD with Rs 50,000, you must pay the entire sum at once. This is good for individuals who have earned a lot of money and want to invest it in a safe instrument.
Recurring deposits require small monthly instalments. This makes it accessible to those who do not have a large sum of money ready but can save a certain amount each month. For example, you may opt to invest Rs 2000 per month in an RD thus promoting the habit of saving.
- Interest rates
FDs pay higher rates of interest than RDs. Banks and financial institutions offer better returns on FDs as they are a one-time investment and ensure the stability of the financial institution. For example, an FD might pay an interest rate of 6. 5% per annum.
The interest rates for RDs are marginally lower than FDs. This is because the bank gets the money in instalments as opposed to getting it all at once. An RD might charge 6 per cent per annum. Despite the lower rates, RDs are appealing because of their regular saving nature.
- Tenure flexibility
FDs are available for varying tenures ranging from as low as 7 days to as high as 10 years. This gives investors the freedom to pick either of the tenures depending on their financial objectives and liquidity preferences. For instance, you can opt for a 1-year FD or a 5-year FD depending on your investment period.
RDs typically have a specified term that can be anywhere from 6 months to 10 years. While this provides some freedom, it is usually less than that of FDs. For example, you may opt to open an RD with a tenure of 2 years.
- Interest calculation
In an FD, the interest constituent is compounded on the full principal amount for the duration of the deposit. The interest is calculated at regular intervals of time (quarterly, half-yearly, or yearly) and is reinvested into the principal. For example, if you invest Rs 1,00,000 at an interest rate of 6. 5% for 1 year, this means that the interest is calculated at Rs 1,00,000 for the entire year.
In an RD, interest is compounded on the deposits. The interest for the respective monthly deposit is accrued for the remaining tenure. For instance, if you make a monthly deposit of Rs 2,000 in an RD, the first deposit earns interest for the entire period, the second one for a month less, and so forth.
- Withdrawal and liquidity
FDs permit early withdrawal, but they frequently include a charge. This implies that in case the investor wants to access his money before the maturity date then he risks losing part of the earned interest. For instance, if you withdraw an FD prematurely, you may receive 0. 5% to 1% less on the contracted rate of interest.
RDs also permit premature withdrawal but this may attract a higher penalty as compared to FDs. The penalty can cut the interest earned substantially. For example, liquidating an RD early may lead to a cut of 1% to 2% from the contracted rate of interest.
- Tax benefits
Some FDs have additional features such as tax-saving FDs that have a 5-year lock-in period and allow tax deductions under Section 80C. This implies that you can get a deduction of up to Rs 1.50 lakh on your taxable income by investing in such FDs.
One of the disadvantages of RDs is that they do not provide any tax benefits. Interest earned on RDs is fully taxable as per the income tax slab rate of the investor. This makes RDs less attractive in terms of tax savings.
Ending note
Fixed deposits and recurring deposits are two of the best savings plan and are suitable for different purposes. Fixed deposits are ideal for investors who have a large sum of money and are in search of high and assured returns. On the other hand, recurring deposits are ideal for those who want to develop the habit of saving by making regular contributions in small amounts.
Choosing the best savings plan depends on your financial objectives, investment capacity, and risk tolerance level. Understanding the fundamental distinctions between FDs and RDs allows you to make an informed selection that is consistent with your financial goals. Whether you choose the safety and higher interest rates of FDs or the regular saving discipline of RDs, both products can greatly improve your financial situation.