NSC vs 5-year FD: Which is a better tax saving investment option?

Choosing between National Savings Certificates (NSC) and 5-year tax-saving fixed deposits (FDs) for tax-saving purposes can be tricky, as both offer advantages and limitations. 

Here are the key points to consider:

Interest rate

• NSC: Currently offers 6.8% p.a. compounded annually.
• FD: Rates vary depending on the bank, typically ranging from 6% to 8% p.a. with quarterly compounding.

Important Note: While FD rates may appear higher initially, remember that:

* NSC interest is reinvested and qualifies for tax deduction under Section 80C, effectively increasing the overall return.

* FD interest is taxed as per your income slab, and TDS is deducted at 10% if it exceeds Rs. 40,000 (Rs. 50,000 for senior citizens) per year.

Also Read: Income tax saving options: NSC vs ELSS mutual funds. Which is better for taxpayers?

Tax benefits

• Both NSC and tax-saving FDs offer tax deduction under Section 80C, up to a maximum of Rs. 1.5 lakh per year.

Investment amount

• NSC: Minimum Rs. 100, no upper limit.
• FD: Minimum varies by bank, but the maximum for tax deduction is Rs. 1.5 lakh.

Liquidity

• NSC: Locked-in for 5 years, with premature withdrawal penalties.
• FD: Typically locked-in for 5 years, with some banks offering premature withdrawal options but at a penalty.

Risk

• Both are considered low-risk investments as they are backed by the government (NSC) or insured by DICGC (FDs up to Rs. 5 lakh).

Consider that you invest Rs. 1 lakh in both NSC and FD (assuming 30% tax bracket):

NSC

• Interest earned after 5 years (compounded annually) = Rs. 39,455.56
• Tax benefit under Section 80C = Rs. 1 lakh (This already accounts for the interest earned).
• Effective post-tax return = Rs. 1 lakh + Rs. 39,455.56 = Rs. 1,39,455.56

FD (assuming 7% p.a. interest)

• Interest earned after 5 years (compounded quarterly) = Rs. 40,578.62
• Tax on interest income (assuming no TDS deduction) = Rs. 12,173.58 (30% of Rs. 40,578.62)
• Effective post-tax return = Rs. 1 lakh (investment) + Rs. 40,578.62 (interest) - Rs. 12,173.58 (tax) = Rs. 1,28,405.04

Based on this calculation, NSC offers a slightly higher effective post-tax return in this scenario.

Also Read: National Savings Certificate: How to invest in NSC offline and online? Here's a step-by-step guide

However, it's crucial to consider other factors:

• Senior citizens can get higher FD rates and avoid TDS, potentially making FDs more beneficial.
• Liquidity needs: If you might need the money before 5 years, FDs with premature withdrawal options might be more suitable.

In conclusion, both NSC and tax-saving FDs can be valuable tools for tax-saving and wealth creation. The "better" option depends on your individual circumstances:

Also Read: SBI Fixed Deposits: Amrit Kalash and We-care available till 31st March 2024; should you invest?

Choose NSC for

• Slightly higher potential returns (especially for non-senior citizens).
• Lower risk (backed by the government).
• Long-term investment goals where you don't need the money before 5 years.

Choose FD for

• Potentially higher interest rates (if you qualify for senior citizen benefits or find a bank with a very competitive rate).
• More flexibility with some banks offering premature withdrawal options.
• Shorter-term investment needs where you might need the money before 5 years (but be aware of penalties).

Chakravarthy V is Co-founder and Executive Director at Prime Wealth Finserv Pvt. Ltd.