What is a fixed deposit or time deposit account


If you feel uncomfortable investing your money into the stock and bond market, being exposed to market fluctuations, then a fixed deposit account (also called a time deposit account) might be for you. You can earn at least a little bit of interest, and therefore grow your savings a little faster, without being exposed to the markets directly.

What is a fixed deposit or time deposit account?

A fixed deposit or time deposit account is a special bank account into which a customer pays a certain amount of money for a certain term, to receive interest payments.

If you want to learn more about time deposit accounts, read on.


What is a fixed deposit or time deposit account in detail?

A fixed deposit account is similar to a savings account. If you put your money in a savings account your bank will usually pay a little bit of interest on it. With a savings account, you can withdraw the money at any time. If you however know, that you don’t need the money for a year, or even longer, wouldn’t it be great if there would be a way to put it somewhere, where you get a little more interest paid?

This is where fixed deposit (also called time deposit) accounts come into play. With a fixed deposit account, the bank offers you a secure option to get a better interest rate, if you lock in your money for a certain term, during which the bank can work with the money.

The bank will usually invest the money into higher-yielding, but also riskier assets, or loan the money to businesses, to generate a higher return. This is not your concern, as you have the contract with the bank, to receive interest payments for the term, they can work with your money. This means for you that it’s virtually risk-free. The bank will have the risk on their hands, while you’ll get regular interest payments, even if the bank fails to turn a profit.

At the end of the term, you can withdraw the money including the accumulated interest, or renew the agreement and continue for another term.

Fixed deposits are usually categorized into short term fixed deposits, or long term fixed deposits:

  • Short-Term FD: The investment duration is usually less than a year. The purpose of these is to increase savings over a short period of time while staying flexible to pull out the cash after a rather short time period.
  • Long-Term FD: The investment duration is usually between 1 to 3 years. Long-Term FDs are for investors, that don’t need the money short term and keep the money invested over a longer time period.

The main difference between the two is that Short-Term FDs, will receive lower interest rates than Long-Term FDs. So as longer the term, you invest the money, the higher the interest you’ll be paid.


What is the difference between a fixed deposit and a savings account?

Savings Account

On a savings account you can access your money at any time. You can add money or withdraw money whenever you need to.

Fixed Deposit Account

Once you’ve defined the term and interest rate, and paid the money into the fixed deposit account, the fixed deposit account will be locked, and will only be unlocked again at maturity of the term, or when you decide to withdraw the cash before the term ends.

What is the difference between a fixed deposit account, and an investment into Stocks or Bonds?

Investing into the Stock Market

By investing into the stock market you take the full risk by owning a small part of a business. If the company does well you will gain a lot, but if the company does not so well you can

How much interest can I expect for fixed deposits?

As you don’t take any risks, the interest paid in general is relatively low to other investment types, such as investing in stocks, bonds, mutual funds, or ETFs. General rates are around 0.5% to 2% per annum, and this might not be enough to beat the yearly inflation. So why should you actually bother? You should bother, if you don’t want, or can’t take the risk of market fluctuations, and just want a way to store cash, that produces some extra interest.


Can I withdraw my money before the end of the term?

Usually, it is possible to withdraw your money before the end of the term, but this means that you won’t receive the interest, and there might be further penalties outlined in the terms of use or the contract you sign. Therefore try to make sure, you don’t need that money until the term ends.


Is it possible to add money to my fixed deposit account, once the term has started?

It is not possible to add money, once a fixed deposit term has started, as the account is locked until the end of the term. However if you have additional money to invest you can always check with the bank, if it is enough to create a second fixed deposit account.


What are the advantages of fixed deposit accounts?

Virtually Risk Free

Compared against other investments the investment into fixed deposits is virtually risk-free, unless the bank defaults. You’ll get a guaranteed fixed interest rate.

Cash deposit in as part of your portfolio

As the yield of fixed deposits is relatively small and hardly beats inflation, keeping all your money in time deposits is most likely not a wise choice and you’ll do most likely better, by taking a little more risk. It is however a good addition to a portfolio, where it’s one asset allocation among other higher yielding assets.

You want a guaranteed cashflow

If you have large amounts of money that you can put into fixed deposits, to generate a monthly guaranteed cashflow from the interest payments, would be another good reason.

You want to have a liquid investment

If you need the money, it is usually possible to pull out early. You will lose the interest and might have to pay an additional penalty, but you’ll be able to liquify the money when you need it.

Foreign Currency Fixed Deposit

If you want to hedge currencies, a fixed deposit might also make sense, as your bank might offer fixed deposits, that can be invested in another currency.

Loan Collateral

A fixed deposit account will also be good choice as a loan collateral. If you want to take a loan from the bank, and have a fixed deposit as a collateral, the bank will usually take this into account, when lending you money.


What are the disadvantages of fixed deposit accounts?

Low Interest Rates

The interest rates are low compared to other types of investments due to the fact, that it’s generally a risk-free investment. The low interest rates hardly beat inflation, and therefore if your goal is to beat inflation, you’ll need to invest in higher-yielding assets.

Your money is locked up

During the term of the fixed deposit, you can’t access your cash. If you do, you will lose the interest paid, and might have to pay a penalty fee.

Your money might be subject to currency fluctuations

If the currency fluctuates heavily, it might have an impact on the returns.


Example Calculation

The calculation for time deposits is fairly easy. Let’s assume that you invest $5000 into a fixed deposit account with a 2% interest per annum over 3 years. The first year, you will have $5100, the second year you’ll have $5202, and the third year you’ll have $5306.04. So at the end of the term, you will get back your initial investment of $5000 and additionally the $306.04 in interest payments.

YearInvestmentInterest
Year 1$5’000$5000 / 100 * 2 = $100 (2% interest)
$5000 + $100 = $5100
Year 2$5’100$5100 / 100 * 2 = $102 (2% interest)
$5100 + $102 = $5202
Year 3$5’202$5202 / 100 * 2 = $104.04
$5202 + $104.04 = $5306.04
End of term$5’306.04 (this is what you get after the term ends)$306.04 (in total interest earned)

Chris

Chris is an IT Project Portfolio Manager within the financial industry. Due to the nature of his role, he is engaged to study Financial Markets and is an active investor.

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