How Does A Bank Calculate Interest On Your Fixed Deposits? | AU Small Finance Bank
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How Does A Bank Calculate Interest On Your Fixed Deposits

    For many, calculating anything might be boring or complicated; but knowing how FD interest is calculated can help you gain more from your investment.

    If you think it’s complicated, we’re here to simplify it for you!

    A fixed deposit is a safe and easy investment that requires a one-time deposit only. You can deposit a sum of money called principal with the bank for a fixed time period (tenure). The deposit will earn interest during this period. At the end of it, you will get your deposit back along with interest. Savings pe bhi earnings!

    Anyone with a bank account can open an FD with as low as Rs.1,000. The minimum time period is 7 days.

    There are two methods used to calculate interest on a fixed deposit: Simple Interest and Compound Interest. Banks may use both depending on the tenure and the amount of the deposit.

    What is the difference between the two? With simple interest, interest is earned only on the principal amount. With compound interest, the interest is earned on the principal as well as the interest.

     

    Simple Interest

     

    This method is an easy one. It is calculated by multiplying the principal, rate of interest and the time period.

    The formula for Simple Interest (SI) is “principal x rate of interest x time period divided by 100” or (P x Rx T/100).

     

    Where,

     

    P= Principal amount; R = Rate of interest per annum; T= No. of periods (in years)

     

    Example

     

    Now if you invest Rs.10,000 at 8% p.a. for 5 years, you can calculate the interest like this.

    Step 1: 10,000 x 8 x 5 = Rs.4,00,000

    Step 2: Now divide that by 100. You get Rs.4,000.

    So, the interest you earn for 5 years is Rs.4,000.

    Therefore, if you invest Rs.10,000 in a fixed deposit with 8% p.a. simple interest, you will get back Rs.14,000 at the end of 5 years.

     

    Compound Interest

     

    In this method, you earn interest on the principal, and you earn interest on the interest also. Many banks offer compound interest on fixed deposits, but you should ensure that you get a good interest rate.

    For example, if a bank offers 8% p.a. for a 5-year deposit where the interest is compounded annually. So, if you invest Rs.10,000, we can calculate the interest as given below:

     

    Year 1

     

    First, we use the simple interest method for the first year.

    10,000x8x1/100 = Rs.800

    So the interest earned for the first year is Rs.800.

    This amount is added back to the principal. So the principal for the second year becomes Rs.10,800.

    Year 2

     

    Now, in the second year you will earn 8% on Rs.10,800.

    10,800x8x1/100 = Rs.864

    You earn Rs.864 interest. This is again added back to the principal. So now your deposit has Rs.11,644.

    Like this, we can calculate the compound interest for the next three years. But some banks compound interest monthly, quarterly and half-yearly. So, instead of calculating it like this, we can use a simple formula which multiplies the principal amount with the interest rate raised to the number of periods in years.

    Compound Interest (CI) = P {(1 + i/100)n – 1}

    Where, P = Principal amount; n = number of years; i = rate of interest per period

    Therefore, in the example above, you earn

     

    CI= 10,000 {(1+8/100)5 – 1} = Rs 4,693

     

     

    Total amount = Rs 14,693

     

    Now we see how much more we earn with compound interest. Banking need not be complicated, and banks like AU Bank offer simple and easy banking, free from all hassles. Investing in our FDs gives you benefits that include compound interest, monthly payout options, and high-interest rates!

     

    Things to keep in mind

     

    When you invest in an FD, remember that the interest rate is not the same for all tenures. If you choose the longest tenure available, doesn’t mean you will get the highest interest rate. You should check the interest rate table, usually available on the bank’s website, and choose the tenure that gives you the highest interest rate with compound interest formula.

    FD is a very safe and lucrative investment. Invest smartly and you can reap the rewards by making your money work for you.


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