In the world of financial products, the fixed deposit account is that odd cousin everyone conveniently tries to forget about at reunions. There are many misconceptions out there about what a fixed deposit account really is.
Some see it as a savings account that you can’t withdraw money from, while others simply view it as a lousy investment. Here are some basics to help you understand how fixed deposit accounts work and whether they’re for you.
What is it?
A fixed deposit (also known as a time deposit) account is a type of bank account that pays account holders a fixed amount of interest in exchange for depositing a certain sum of money for a certain period of time.
But sure, isn’t that how all bank accounts work? Here’s where fixed deposit accounts differ from your run-of-the-mill bank account.
- You’re locking up your money for a fixed amount of time – The shortest time period can be as short as 1 month. However, you’ll have to keep your money in the account for a much longer time period to make it worth your while.
- The longer you keep your money in the account, the more interest you earn – Most banks will offer increasing amounts of interest the longer you commit your money to the fixed deposit up to a maximum tenor.
- You agree beforehand on the sum to deposit – Unlike a savings account, into which you may deposit any amount as and when you like, with a fixed deposit you contract with the bank beforehand to deposit a fixed sum.
- You can withdraw your money – Many people think their money is lost in the bowels of the fixed deposit account until the deposit reaches maturity, but that is not so. You are usually allowed to withdraw the money as and when you wish, however this could mean you receive no or less interest.
Why open a fixed deposit account?
Most people do not regard a fixed deposit account as a good form of investment due to the low interest rates. While higher than the interest rates offered by most savings accounts, fixed deposits still offer below-inflation interest rates.
However, that’s not to say that you should immediately write off fixed deposits as a component of your investment portfolio. Here are some reasons you might want to open an account:
- They are virtually risk-free: Unlike other forms of investment, fixed deposits are nearly risk free. So long as the bank does not collapse, you will get your money back plus interest. The interest rates are fixed, so you won’t have to worry about market fluctuations.
- Your portfolio needs a low-risk component: Relying on fixed deposits as your sole form of investment isn’t smart, but if you already have other investments and are looking to allocate some of your money to a lower-risk investment, a fixed deposit is one possibility.
- You have a large sum of cash lying around: If you have a large sum of cash that you don’t intend to spend or channel into other investments, putting it in a fixed deposit account will enable you to earn higher interest than if you let it languish in a savings account.
- You want some regular cash flow: Interest payments are made like clockwork at regular intervals, often quarterly or annually.
- Liquidity: Fixed deposits are highly liquid. You can withdraw your money anytime you wish, although this does mean you might either get paid less interest or lose out on it altogether.
Why you might not want to get a fixed deposit account
Despite the benefits of fixed deposit accounts, most people still don’t think of them as smart investments—quite the opposite, in fact. Here are some reasons opening a fixed deposit account is a bad idea.
- Low interest rates: Many banks have raised their interest rates in recent times, and while they’re less pathetic than before, they’re still significantly below the rate of inflation.
- Your money gets locked up: Unlike a regular savings account, if you want to earn the maximum amount of interest, you’ll have to ensure your money remains untouched until the fixed deposit reaches maturity. Some savings accounts offer fairly attractive rates these days and might be an even better bet than fixed deposits.
Before you write off fixed deposit accounts altogether, check out MoneySmart’s Fixed Deposit Wizard. Interest rates are more attractive than they were a few years ago, so if you have a few tens of thousands of dollars lying around, you might want to consider opening your own fixed deposit accounts
Have you ever maintained a fixed deposit account in Singapore? Tell us in the comments!