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Business News/ Brand Stories / Compound Interest in Fixed Deposits: A Comprehensive Guide
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Compound Interest in Fixed Deposits: A Comprehensive Guide

Read on to learn about the compound interest in fixed deposits, how fixed deposit interest is calculated, and more

The compounding effect can help increase your returns over time, making FDs an appealing choice if you want to maximise your earnings and financial growth.Premium
The compounding effect can help increase your returns over time, making FDs an appealing choice if you want to maximise your earnings and financial growth.

Fixed deposits are a widely favoured investment avenue for investors across all groups. The primary reason for this is that the risk associated with FDs is comparatively low. You can earn secure and stable returns from beneficial FD interest rates.

However, you should keep in mind that issuers offer two interest calculations: simple and compound. Opting for the latter can work wonders for your long-term savings. The compounding effect can help increase your returns over time, making FDs an appealing choice if you want to maximise your earnings and financial growth.

Read on to learn about the compound interest in fixed deposits, how fixed deposit interest is calculated, and more.

What is Compound Interest in Fixed Deposits?

When you deposit a certain amount of money in a fixed deposit, the respective financial institution pays you interest on the invested amount. As mentioned, this interest can be either calculated as simple or compound interest. 

Opting for the compound mode lets you earn interest on your principal deposit and on the interest that you have already earned. Simply put, the interest accrued gets reinvested, and you earn a lump sum at maturity. 

The maturity amount contains your principal investment, along with the accrued interest over a specific tenor. The power of compounding actively multiplies your money and accelerates growth as compared to simple interest.

While simple interest applies only to your principal amount, compounding interest means that you are earning interest on your interest. This is precisely why compound interest is highly preferred to simple interest in a fixed deposit. 

With this consistent reinvestment of interest on your deposit over an extended time period, you can accumulate sizeable earnings within a stipulated timeline. The more frequently your interest compounds, the greater will be your total compound interest earnings. 

You can calculate the compound interest on a fixed deposit using this formula:

A = P(1 + r/n)^(n*t)

Here,

A = The maturity amount of the fixed deposit, including interest

P = The principal amount

r = The annual interest rate

n = The number of compounding years

t = The time period for the investment

Example of Compound Interest Calculation in Fixed Deposits

For better clarity on how compound interest works, here is a hypothetical example. Assume you invest in a fixed deposit with a principal amount of 10,000. The annual FD interest rate is 8%, and the duration of the investment is 10 years. 

P = 10,000

r = 8% (annual interest rate = 0.08)

n = 1 

t = 10

Adding these values in the formula, you get:

A = 10,000(1 + 0.08/1)^(1*10)

A = 21,589.48

As you can see, the maturity amount of your fixed deposit is approximately 21,589.48. You can also use a compound interest calculator to know the future value of your fixed deposit investment. Many financial institutions offer an interest calculator on their websites, which you can use any number of times for free.

All you have to do is enter the tenor, interest rate, and principal amount. Within seconds, the digital tool computes your results accurately. You can use this to compare FD interest rates offered by various issuers and accumulate an ample corpus by choosing the best deal.

Benefits of Compound Interest in Fixed Deposits

Now that you know how fixed deposit interest is calculated, keep in mind that FDs come with attractive features and benefits thanks to the power of compounding. Here are a few advantages that you must know.

1. Helps Build Long-Term Wealth

Compounding proves advantageous to build a sizeable corpus. This is because it allows you to earn interest not only on your initial amount, but also on the interest previously earned. This way, compounding has the potential to increase your wealth significantly in the long term.

You may utilise these accumulated funds to accomplish your financial objectives or to secure the necessary funds for your retirement.

2. You Can Begin with a Small Investment

Yet another advantage of choosing a fixed deposit with compound interest is that you can start your investment with just a small amount. This comes in handy if you do not have access to significant capital when booking an FD. 

By starting with a small amount, you can earn great returns on your fixed deposit when you stay invested for a longer investment horizon. This accessibility makes fixed deposits an attractive option for diverse investor profiles.

3. Protects Against Wealth Erosion Risks

Opting for a fixed deposit with compound interest not only secures your wealth, but also safeguards you against multiple wealth-eroding factors. Some of these factors include inflation, which may decrease one’s purchasing power or cause a surge in the cost of living.

This is possible due to the robust growth of your funds over time with the help of compounding. By accumulating your wealth with the help of compounding, you can effectively counter the impact of rising inflation and costs of living.

4. Predictable Returns on Investment

Another benefit of opting for a fixed deposit with compound interest is that you can easily calculate the maturity amount of your investment. You can also calculate the monthly or quarterly payouts that you can get easily using an FD calculator. 

This way, you can plan your payout mode effectively. If you need a passive income on a monthly or quarterly basis, you can opt for this non-cumulative type of fixed deposit. This helps you handle your regular expenses effectively. 

In contrast, a cumulative FD comes with higher FD interest rates and gives you a higher payout at maturity. Choosing the right investment plays a crucial role in the expansion of your wealth. As you can see, fixed deposits with compound interest offer a safe way to multiply your savings while eliminating risk. 

Remember to compare the FD interest rates and other features to choose the right issuer and investment terms. This helps you generate handsome returns and build a sizeable portfolio.

Disclaimer: This article is a paid publication and does not have journalistic/editorial involvement of Hindustan Times. Hindustan Times does not endorse/subscribe to the content(s) of the article/advertisement and/or view(s) expressed herein. Hindustan Times shall not in any manner, be responsible and/or liable in any manner whatsoever for all that is stated in the article and/or also with regard to the view(s), opinion(s), announcement(s), declaration(s), affirmation(s) etc., stated/featured in the same. This information does not constitute a financial advice.

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Published: 18 Sep 2023, 07:36 PM IST
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