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Fixed Deposit (FD) has traditionally been considered the safest and guaranteed return investment option in India. Savers lock their hard-earned money in the bank for a fixed period so that they can get safe interest. But at the time of any sudden financial emergency, medical expense or any other big investment opportunity, people often decide to break their current FD prematurely (Premature Withdrawal). According to financial experts, breaking FD in a hurry without understanding the rules can ruin your total profits. If you are also planning to break your fixed deposit prematurely, then wait and first understand these 5 important rules and financial aspects thoroughly.
1. Premature Withdrawal Penalty: Charge will be deducted from the principal interest.
When you break your FD before the due date, banks charge you a premature penalty. Generally, most government and private banks charge a penalty ranging from 0.50% to 1%. This means that the actual interest rate on your FD will be directly reduced by 0.50% to 1%. This deduction reduces your total returns substantially, instantly erasing the benefit of long-term compound interest.
2. Interest will be given not for the entire period but for the period spent.
The biggest loss in breaking FD lies in the way interest is calculated. Suppose you had made an FD for 5 years at the rate of 7.5%, but you broke it as soon as one year was completed. In such a situation, the bank will not give you interest at the rate of 7.5% for 5 years, but will give you the same original interest rate (say 6%) which was applicable for that period of 1 year. Not only this, after deducting 1% penalty from that 6%, you will be paid only 5% final interest.
3. Tax saver 5-year FD is not allowed to be broken
If you have made a 5-year tax saver FD to get tax exemption up to Rs 1.5 lakh under Section 80C of the Income Tax Act, then you cannot break it prematurely under any circumstances. This type of FD has a mandatory ‘lock-in period’ of 5 years as per the rules of the government and the Reserve Bank (RBI). Neither premature withdrawal is allowed in this nor any bank loan can be taken against it.
4. It is important to understand the mathematics of TDS and tax liability.
Even if the FD is prematurely broken, the tax rules on the interest earned remain fully applicable. If the total interest on your FD in a financial year exceeds Rs 40,000 for general citizens (Rs 50,000 for senior citizens), the bank deducts 10% TDS as per rules. The interest received after premature closure will also be added to your total annual income and you will have to pay tax on it as per your fixed income tax slab.
5. Better option than breaking FD: Take advantage of ‘Loan Against FD’
If you are in dire need of money for some time, it makes more sense to take a ‘Loan against FD’ or overdraft facility rather than breaking the entire FD and incurring interest losses. Banks immediately release loans up to 90% to 95% of your deposited FD amount. The interest charged on this loan is only 1% to 2% more than the FD interest rate. Its biggest advantage is that you continue to get full interest on your original FD and you do not even face the shock of penalty.