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How does a Long-Term Fixed Deposit Offer Higher Returns?

One of the most preferred investment options is a Fixed Deposit. In fact, senior citizens today prefer a Fixed Deposit to park their retirement benefits—thanks to the assured returns combined with safety of investment. You can open a Fixed Deposit with any bank or financial institution.

The best part about Fixed Deposits is that you are well aware of the returns that you will get on hand at the end of the maturity period. An FD calculator is at your fingertips to quantify the amount of interest that your investment will earn. With most of us making the best use of online banking, quantifying the interest on Fixed Deposit or EMI on home loan has become very easy. In fact, this calculator helps you to split your Fixed Deposits among diverse banks so that your interest income is maximised and the impact of TDS is nullified.

Are you debating whether to invest in a long-term or short term FD? Well, if you require funds in the near future, a short term Fixed Deposit is indeed a wise choice; because breaking a Fixed Deposit can have a direct impact on your returns. But, if you want to earn more out of your rupee invested, it is recommended that you choose to open a long-term FD.

Higher Interest Rate

Banks generally offer a higher rate of interest when you park your savings in a long-term FD. As of date, banks offer around 5.25% for deposits between 1 and 3 years. However, if you opt for a 5 year term, you can earn 6.7% on your Fixed Deposit.

Banks accept deposits from the public to dole out loans as well as meet their working capital requirements. By parking your funds for a longer time, the banks enjoys access to your funds for a longer period—the benefit offered to you is in the form of higher interest. If your goal is return maximization, long-term Fixed Deposits are your best bet.

Of course, interest rates are dependent on many other macroeconomic factors as well.

Cushions Against Interest Rate Fluctuations

You may have observed that your new Fixed Deposit is earning a few percentage points lower than the one you’ve been holding since last year. Fixed Deposit interest rates vary from bank to bank and are dependent on a number of factors. These include state of the economy, inflation, money supply, and RBI directives.

When you choose to invest in a long-term Fixed Deposit, you lock in the capital at a specified rate of interest. So, you can be sure that despite the interest rates hitting a low, you’ll get a higher return. For example, an FD opened 3 years ago for a 5 year term would have earned you interest at the rate of 8.75%. When interest rates are showing a falling trend, and the current interest rate dips to 7.5%, you will continue to earn interest on your FD at the rate of 8.75%

Mitigates Reinvestment Risks

The biggest advantage offered by long-term Fixed Deposits is they nullify the reinvestment risk. With funds locked in for a longer time period, you earn higher returns.

We are currently in an interest fall regime. About 5 years ago, long-term Fixed Deposits (of a 5-year tenure) fetched you 10% return, whereas currently, the interest rate hovers between 7.25% and 7.5%. With the rates predicted to spiral southwards, a long-term Fixed Deposit certainly fetches higher return.

Offers Tax Savings

The motive behind any investment is to earn a higher return and also use it as a tool to save tax. The interest that you earn on your regular Fixed Deposits attracts TDS. As a result, the return you earn net of tax will be definitely less than what is printed on your Fixed Deposit receipt. As a tax saving instrument, a long-term Fixed Deposit is highly popular. Nomenclatures as tax saving Fixed Deposits, they carry a lock-in period of 5 years. You earn a good rate of interest and the tax saved can be construed as your earning—the net effect is that your tax saving FD will earn a higher return compared to a regular FD.

There is no doubt that long-term Fixed Deposits offer higher returns and are hence a popular investment choice. But, have you considered the impact of inflation on your returns from a long-term Fixed Deposit?

Inflation is one thing that can have an impact your return on investment. So, when you invest in a long-term Fixed Deposit, that is required to know about TDS, the returns are not adjusted for inflation. In fact, if the inflation levels are quite high during the tenure you hold the Fixed Deposit, there is a possible chance that your investment will fetch you a negative return.

To conclude, long-term Fixed Deposits are indeed the ideal investment choice. In addition to keeping the capital intact with guaranteed returns, long-term Fixed Deposits hedge you against interest rate fluctuations and reinvestment risk. On the tax front, investment in tax savings deposits rank as the top savings tool.

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