When breaking fixed deposits, is a good idea

By Sanjay Matai

A few decades ago, countless Indians would dream of becoming lakhpatis. The dream still exists today, but the word lakhpati is now replaced with crorepati! It's all possible due to the financial freedom we have been enjoying, of late. But often, our mental blocks prevent us from enjoying this freedom completely. Here are some instances.

1. Bank deposits, still a hot favourite 

Today, many high-yielding, tax-efficient, convenient and safe investment products are now available to retail investors.

Despite this, investors still prefer age-old options like bank fixed deposits (FDs), for security and guaranteed returns. The moment they gave surplus funds, they invest them in FDs.

Recent studies indicate that more than 80 to 85 per cent money is parked in post office or bank fixed deposits.  

In the comfort zone

There’s no denying the psychological comfort a large bank balance gives us. But this avenue works fine if the need for money is due in one or two months. But is it viable as a long-term investment? Not really.

Though bank deposits offer interest rates upto 8 to 9 per cent people tend to overlook tax and inflation aspects.

Here's an example: suppose you invest Rs 100 in a bank deposit that gives you an interest of 9 per cent per annum and you pay a 30 per cent tax on it at the time of maturity. After a year, your net worth will be Rs 106.30, which means your effective return is just 6.3 per cent. Meanwhile, due to inflation, the value of goods and services would have increased to say 6 per cent. The cost of these goods and services would be Rs 106 after a year. You have achieved...nothing!

It’s about time you explore new and beneficial opportunities. This is only possible if we have an open mind. 

2. Break the FD, pay back your loan!

Many people repay loans and simultaneously invest in bank deposits -- not a prudent thing to do. Of course this excludes home loans, as the interest on it is quite attractive and comes with a tax benefit, hence the net rate works out still lower.

Therefore, a home loan and a fixed deposit running concurrently may be fine. But for any other loan, like personal loans and credit card debt, the outstanding amount should be immediately paid off by breaking the FD.

Here's the logic: personal loans charge an interest rate of 12 to 16 per cent and credit card loans ever more expensive at 36 to 50 per cent. Hence, it becomes unwise to earn 8 to 9 per cent returns on FD on one hand and pay 12 to 16 per cent on the other. And, because interest earned is taxable on FD, the mistake becomes even more glaring.

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