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Bank Fixed Deposits (FD) : Break Fixed Deposit And Save Money!

May 20th, 2010 by
  • Ms. Vandita has moved to Mumbai from Lucknow on work, and is in need of money to pay the deposit of Rs. 50,000 which her landlord is seeking for giving her the house on rent. She is running short of cash and is wondering how to fill up this monetary gap. She needs the money for a short period of time. What are the options available for her? She has to either take a loan or use up her existing investments. As far as loan is concerned, she has various options in the markets which include

    Particulars Personal Loan Loan against security Gold loans
    Meaning This is an unsecured loan taken for personal use. It is a secured loan taken on securities which include shares, fixed deposits, insurance policies etc. It is a secured loan taken on gold
    Interest Range 14%-23% 12%-15% 11.5%-15%

    Vandita has a fixed deposit investment of Rs. 50,000, which she created 10 months ago when she got her bonus. It is for tenure of 2 years paying her 7.5% interest p.a.  Apart from that she also possesses an ELSS investment but that is locked in for 3 years for tax saving purposes so redeeming that is not an option.

    She realises that any loan that she takes, the lowest rate of interest she has to pay is 11.5%. While she receives only 7.5% interest on the fixed deposit. So her interest outflow if she takes a loan will be much higher than the interest outflow she gets from her fixed deposit. So she now explores the option of breaking her fixed deposit.

    What does breaking an FD mean?

    Breaking an FD means, withdrawing money before the term of the deposit – pre-mature withdrawal. You will earn interest up to the day you break the FD. Money will be credited to the savings bank account in the same branch.

    Banks typically charge a penalty for the same. Some banks will pay you interest one per cent lower than the original rate. For e.g. Mr. Anil has a 3 year FD @ 9% p.a. and he decides to go in for pre-mature withdrawal at the end of year 2. He will receive interest @ 8% p.a. for the two years that he was invested in the bank fixed deposit.

    Does it make sense for Vandita to break her FD?

    • Case 1: If Vandita does not break the fixed deposit, and takes a loan for a tenure of 1 year, her interest inflow and outflow will be as under
    • Interest inflow on Fixed Deposit= Rs. 3,750
    • Interest outflow if the loan taken is a
      • Personal loan @ 15% = Rs. 7,500
      • Loan against security @ 12% = Rs. 6,000
      • Loan against gold @13%= Rs. 6500

    So Vandita ends up paying much higher interest on any of the loans she opts for than the amount she receives from her fixed deposit investment. Besides, the interest that she receives on fixed deposit is subject to income tax further reducing her net return.

    • Case 2: If Vandita breaks the fixed deposit, does not take a loan, her interest inflow and outflow will be as under
      • The bank penalises Vanita and pays her a 1% lower interest rate. So she will receive 6.5% interest as against the 7.5% for the 10 months that she was invested in the FD. So she loses an amount of Rs. 417 on interest because of breaking the FD plus the interest for one more year which is Rs. 3,750 for using the money. So her total cost will be Rs. 4,167 which is much lower than the interest she will have to pay on any loan she plans to take as can be seen in case 1 above.

    It thus makes sense for Vandita to break her FD rather than take a loan

     

    When should one consider breaking an FD?

    Need of funds: When you are in need of money, before considering any loan option, it makes sense to consider breaking a fixed deposit. Interest earned on fixed deposit is taxable and hence the actual returns earned on FDs may be quite low. Any loan you take, where it is secured or unsecured, the rate of interest that you may have to pay will be much higher than the rate of interest you earn on your FD. This is true even for loan on FDs. Banks will typically charge you 3%-4% higher interest that what you are earning on an FD. It makes sense to pay a small penalty for breaking an FD rather than pay a high rate of interest on the loan taken.

    To pay off your credit card bills:  The interest earned on your FD is far lesser than the amount of interest you pay on your credit card over dues. The rate of interest charged if you delay payment on a credit card is typically in the range of 2% – 3% per month. This in turn works out to be 24%-36% p.a. which is much higher interest than any FD will pay you. E.g. Your fixed deposit with ABC bank kept for a tenure of 2 years is paying you interest @ 8% p.a. You have a credit card overdue which you have revolved for 3 months @ 2% p.a. This means for 3 months your interest payment on the credit card will be 6% while you would have received only 2.67% as interest on your FD from the bank which is taxable. This means your fixed deposit earns you far lesser interest than what you pay on your credit card over dues. So it makes sense to break your FD and pay off your credit card dues rather than pay interest on credit card over dues.

    Many of us seem to have an inhibition for breaking FDs, because of the penalty charged by banks. The penalty charged in most cases does not exceed 1%-2%. So even after taking the penalty into consideration, you will still save substantial amount of money.

    What is the use of building an asset if it is not used when you are in need money? Liquidate your fixed deposit instead of taking a loan. Free yourself from the worry of paying EMIs on time and at the same time save money too.

    5 Comments

5 Responses to “Bank Fixed Deposits (FD) : Break Fixed Deposit And Save Money!”

  1. Gourav said on

    I feel company fds are better than bank fds, don’t really know abt the risk part.

  2. Its a very good article. Thanks for a detailed explanation. I was really confused on what way to go for the need.

  3. Its a very good article..i was in dilemma about take a loan or break my FD…its help me a lot in taking decision of breaking FD

  4. Manish Singh said on

    sir, meri mother ki union bank of India ki FDR hai, aur FDR form per Mother ka name aur wife of (w/o) father name hai, to kya jaruri hai ki mother aur mere father ko bank me jana, ya fir mother or father me koi ek, aur sir meri maa ki FDR maturity puri ho gai hai. bank me automatically FDR renewal ho jati hai. sir mera ye question hai ki before maturity me FDR ke pure balance nikalna to sir kya aap bata sakte ho ki kitni penalty lag sakti hai

  5. sir i take fd of 50000 for 5 year at the rate 8.75%  in aryavart bank .but now i need that money so i want to break fd. what would be the penalty of breaking fd.

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