Several investors consider fixed deposits their preferred mode of investment since it is one of the safest or low-risk financial instruments. You can invest a lump sum amount in banks or NBFCs of your choice at a predefined interest rate over a period of time. Usually, investors with a low-risk profile invest in FDs to earn guaranteed returns, and those with high-risk tolerance invest in FDs to make a stable portfolio.
The fixed deposit schemes have flexible tenures that range from 7 days to 10 years with attractive interest rates. You can withdraw the interest deposited to your account on a monthly, quarterly, half-yearly, or annual basis. The interest earned on fixed deposits is fully taxable as per India’s governing laws. The interest amount from the fixed deposits is clubbed with your total income. The tax on FD interest is determined depending on your tax slab bracket in addition to the surcharge or cess.
To tame inflation, the Reserve Bank of India is hiking the repo rates. So, the banks and NBFCs, too, shall start hiking the interest rates on FDs to pass on the benefits to their customers. During the monetary policy meeting held on August 5, 2022, the RBI hiked the repo rate by 0.50%. Currently, the overall hike in repo rate is 1.4%. The consecutive repo rate hikes have added further momentum to the rising interest rates on fixed deposits.
Will FD Rates Surpass The 7% Mark?
A fixed deposit interest rate hike from 6.50% to 7% means that you will earn an additional interest payout of ₹3,436 on each ₹1 Lakh FD of 5 years maturity period. Several economists feel that there is a likelihood of FD rates touching 7% as there is still scope for a repo rate hike in the coming quarters. If that is the case, the banks may have to increase the fixed deposit rates by 30 to 40 basis points.
Following the repo rate hike, several banks have increased their fixed deposit rates by 20-30 basis points now. An increase of 40-50 basis points is expected in the FD rates over the next couple of quarters. The FD interest rate hike will be aided by the depreciation of the Rupee against the USD, and this would bring the figure closer to 7%.
If we consider the example of conservative banks like State Bank of India, we can find that they, having a spread of 1.5%, were offering a rate of 5.5% on the FDs with 5-year tenure when the repo rate was 4%. If this is the same scenario, then in the coming months, SBI may raise the FD rate for general citizens to 7.75% when the repo rate hits 6.25% in the coming months. As a result, the FD rates for the senior citizens too shall rise to 8.25%, or in the case of special rate FDs for senior citizens, it may go up to 8.55%. When the interest rates become high, the interest amount you earn from the FD too increases. So, you may have to pay tax on FD interest depending on your applicable tax slab rate.
The smaller banks are already leading the race by raising their interest rates. Several prominent smaller banks now offer 6.5% and 7% FD interest rates to general and senior citizens, respectively. Banks like IDFC First Bank, IndusInd Bank, and Yes Bank offer a 6.5% FD interest rate to the general public and a 7% to the senior citizens for FDs with higher amounts. Deutsche Bank offers an FD rate as high as 7% and 6.65% by the RBL for the general citizens now.
Due to the factors like Covid-19 pandemic-related liquidity infusion and the Russia-Ukraine war-induced hyperinflation, the repo rate hike momentum is gaining strength, and the FD interest rates reaching the 7% mark seems possible now.
The Slow Pace of FD Rate Hikes
It is noticeable that whenever there is an increase in the policy rates, the lending rates are the ones to witness the quicker transmission, whereas the transmission rate is slower in FD rates. Usually, there is a delay in the transmission of the benefits of a rate hike from the banks to the depositors. Even when there was a 0.90% hike in the repo rate, it was not directly reflected in the deposit interest rate. This scenario is usually found with the bigger banks, and the reason behind the slower transmission is the sufficient liquidity bigger banks already have. So, they are not in dire need of deposits.
However, the bigger banks too will be forced to raise their FD interest rates if the RBI keeps hiking repo rates. But, the FD investors have to wait for more to get the entire benefit of the repo rate hikes and hopefully there will be no hike on the tax on FD interest they have to pay.
Long Term FDs During Current Hikes
It is unpredictable where the final repo rates will reach after the current scenario and how long it will take for the FD interest rates to reach their peak. Here we have to consider two factors; if you wait longer for a higher FD rate to open an FD, you will end up losing on the current growing FD rates, and if you open long-term FDs after a few hikes, you will not earn more benefits if the rates keep growing later.
In conclusion, we can say that this is not the best time to open a long-term FD or renewal of a big FD. It is better to open short-term FDs in the current scenario to earn maximum benefits from the hike during the investment period. In short, it will be a wise strategy to book an FD with a tenure of 6 months to one year. You will get a better rate at the time of FD renewal and then you can reinvest them and earn more significant returns.