A fixed deposit is one of the most secure and safest schemes to invest in it. People who avoid taking a risk prefer to choose to invest in FD Scheme.
Fixed Deposit:
Financial Institute offers a scheme of investment with a great rate of interest for a fixed period. Bank, non-banking financial institutions (NBFCs), and housing finance companies (HFCs) come under the Financial Institute. The rate of interest for FD is higher than that of the saving account. At the end of the chosen tenure, one can withdraw the amount with interest. However, an investor can collect the return as per the choice monthly or quarterly. Also, one can go for reinvesting with the same scheme. Private sector banks provide a slightly higher rate than public sector banks.
FD is admirable for its low-risk scale. Here we are going to talk about the risk associated with an investment in FD. YES, You read it correctly. We will discuss the risk scale that comes with FDs in this article. After this, which comes to corporate FDs provide a comparatively higher interest rate and also come with higher risk.
Liquidity Risk: Face Trouble to Quiet :
Bank FDs offer fixed tenure. It comes along with a fixed maturity date of maturity. The period for the FD varies from a few months to seven years. Corporate FDs also come with a large term to maturity of 1 to 5 years.
It is costly to get the amount from Bank FD before maturity. One can get it in exchange for a penalty or can opt for a loan against FD. Corporate FD does not provide a single option of getting money before maturity at any cost.
Default Risk: Default from the Issuer Side
There are fewer default cases on FDs from commercial banks, but many default cases continue to decline in small cooperative banks. The investor becomes a victim of it. As per the new guidelines, deposit insurance is available up to 5 lakh per account. Investors can spread their money in multiple banks and can have full assurance.
Inflation Risk – Real Value
In reality, inflation is a risk in any investment. If FD gives you the 8% return and inflation is 4%, then one will get 4% real return. In the other case, if inflation is 6%, then the actual return will drop to 2% only. Even if the return on the FDs is the same, one is realizing less in real value.
Interest Rate Risk:
Bank FD comes with the fixed tenure and the rate of interest till maturity. If one invests in the FD scheme, the financial institution will lock one’s money for a particular period. During this tenure, if the market goes up and the rate increases, one will get interested as per the commitment in the FD. In this case, one will lose the chance of getting the benefit of a higher interest rate. If we talk about the exact opposite situation means decrement comes in the FD loan. One can get a higher return in cooperation with the market as per the commitment of the FD.
Practical Reinvestment Risk: Rate for Reinvestment
Let’s understand it with an example. Suppose Jatin invested in FD for three years with an interest rate of 8%. FD gets mature today. The current rate is 6%. Now, Jatin wants to reinvest in the same scheme. The financial institution will offer him the current rate. This situation can create a dilemma.
Jatin can’t reinvest with a lower rate of interest. He has to search and find an appropriate scheme to reinvest the money.
Higher Taxation:
Taxation affects the money you get in the end. The matter is only money that comes to your hand at the end. FD returns, whether at a bank or corporate, comes under taxation. If one comes under the 30% tax bracket, 7% FD will turn into 4.9% post-tax. So, one has to check investment continuously. Need to plan and invest accordingly can be the solution to this problem.
Financial Plan Fitment Risk:
The first condition for beneficial investment is the fitment of the investment plan in the financial plan. One should check before investing whether the scheme fits in your financial plan or not. The investment must be liquid, flexible and tax-efficient to be a perfect financial plan. Practically, FD does not suit any of the above conditions.
FD has benefits as well as risks too. The decision to invest or not in FD depends on one’s mindset and financial plan.
