8% FD interest in traditional banks: Where will you get the best return — public sector or private banks?

Rising interest rates have once again made fixed deposits (FDs) an attractive investment option. The interest rate earned on fixed deposits in banks (excluding small finance banks) has reached 8 per cent, which was merely in the range of 5 to 6.5 per cent a year back. Senior citizens are in for an even sweeter deal as they get an additional interest rate of 0.50 per cent on fixed deposits.

So, how do you decide where to put your hard-earned money to get the best return from your fixed deposit investment? If you are confused which bank you should choose — public sector or private sector– for your next FD, read on.

Why FD interest rates vary from one bank to another
To fight inflation, the Reserve Bank of India (RBI) has increased the repo rate by 250 basis points (bps) in the last year. Banks have also started passing on the benefits of the rate hike to their fixed deposit customers. However, the quantum of interest rate hikes on fixed deposits has not been uniform. The interest varies from one bank to another. Further, interest rates of fixed deposits differ based on the tenure. Banks decide the interest rates of their deposits based on various factors such as liquidity, credit demand, assets, liabilities, cost of funds, etc.

At present, the interest rate earned on fixed deposits can go up to 6.8-7.2 per cent in large public and private sector banks. Meanwhile, smaller private banks offer interest rates ranging from 7 per cent to 8 per cent on deposits.

“The reason many banks are now going for aggressive hikes in FD rates is that the banks or lenders are aggressively looking to gather maximum deposits to fund their lending while the credit demand remains sufficiently strong,” said Dev Ashish, SEBI Registered Investment Advisor (RIA) and Founder, StableInvestor.

Going forward this hike momentum is expected to continue. “Apart from the repo rate, factors like the lag between the credit growth rates and deposit growth rates and overall liquidity in the banking system would also influence the FD rates. If the growth rates of bank deposits continue to lag behind the credit growth rate, banks would continue to increase their FD rates to attract more deposits to meet rising credit demand,” said Naveen Kukreja – CEO & Co-founder, Paisabazaar.com.

Latest FD interest rates in public and private banks
How should you pick your bank while investing in a fixed deposit? To answer this, you have to take a look at a couple things before investing in a fixed deposit. Let’s look at the current FD interest rates offered by both public and private sector banks. For an FD tenure of three years, the State Bank of India (SBI) offers an interest rate of 6.5 per cent. Punjab National Bank offers an interest rate of 7 per cent on deposits with similar tenure. For three-year FD, the interest rate goes to 7.3 per cent in Union Bank. Meanwhile, DCB Bank offers the highest interest rate of 8 per cent on fixed deposits maturing in three years. The next best interest rate that investors can earn is 7.75 per cent in IndusInd Bank. HDFC Bank, ICICI Bank, and Axis Bank offer an interest rate of 7 per cent on deposits with similar tenure.

For two-year FDs, SBI offers an interest rate of 7 per cent. Among private sector banks, DCB Bank tops the chart again as it offers an interest rate of 8 per cent on two-year FDs. The second highest interest is being offered by both IndusInd Bank and IDFC First Bank which is 7.75 per cent for deposits with the same tenure. Bandhan Bank offers an interest rate of 7.25 per cent for FDs maturing in two years. Among leading private sector banks, Axis Bank offers an interest rate of 7.2 per cent on two-year fixed deposits.

As we go for higher tenure, the highest rate offered by these banks marginally lowers. For five-year fixed deposits, both SBI and PNB offer 6.5 per cent. DCB Bank offers an interest rate of 7.75 per cent for deposits maturing in five years. Investors can earn an interest rate of 7 per cent for deposits maturing in five years in HDFC Bank, Kotak Mahindra Bank, and YES Bank.

Above rates are for general citizens as on May 13,2023
For deposits below Rs 2 crore (callable options)
Interest compounded quarterly
Excluded tax-save fixed deposits as the limit is Rs 1.5 lakh
Source: Bank websites

Medium-term FD in private banks have an edge
For two to three years fixed deposits, currently the interest rate is in the range of 6-7 per cent in public sector banks. However, the interest rates on medium-term FDs are in the range of 7-8 per cent in the private sector banks.

For medium-term fixed deposits, the difference in interest rates between public sector banks and small private sector banks can go up to as high as 100-150 bps. “For FD tenures ranging between six months to three years, there is not much difference between the rates offered by most public sector banks and three private sector majors i.e., Axis Bank, HDFC Bank, and ICICI Bank. However, other private banks like Bandhan Bank, RBL Bank, IDFC First Bank, and IndusInd Bank are offering higher FD rates for the same tenure brackets,” said Gaurav Aggarwal – Senior Director, Paisabazaar.

For long-term FDs, both offer competitive rates
For longer tenure FDs, the difference between the interest rates offered by the public sector banks and private sector banks is marginal.

Pointing out the reasons behind the difference in interest rates in long-term fixed deposits and short-term fixed deposits, Abhishek Kumar, SEBI RIA and founder at www.SahajMoney.com said, “The gap between the interest rate on short-term deposits and longer-term deposits exists due to the embedded expectation by depositors that inflation would remain high in the short term and hence in order to attract short term deposits the banks are offering higher interest on them while on a longer-term basis, banks expect repo rates to cool down due to inflation targeting by RBI.”

How to choose your bank while booking FD
Do remember the choice between private and public sector banks should not just depend on the interest rate alone, said many experts. Explaining this Dev Ashish said, “If the FD amount is not very large, then a slight difference in interest rate will not result in much of a difference in interest income. Say if you have Rs 2 lakh to put in FD and the rate in private is 7 per cent and that in a public bank is 6.75 per cent, then the pre-tax annual interest income will differ by just Rs 500. So, for small FD amounts, there is not much to choose between the two.”

For deposits of up to Rs 5 lakh, if the difference between the interest rate is around 1-1.5 per cent, you can consider the bank offering higher interest rate.

However, if the amount that you are planning to invest in fixed deposits is large, such as in the range of Rs 5 lakh to Rs 10 lakh, then you should check the interest rate as well as the financial health and stability of the bank, said experts.

Don’t go by only FD interest rates
While parking money in a deposit, you must check how safe and reliable the bank is, especially when you are planning to go for large FDs above Rs 5 lakh.

As far as government support is concerned only three banks qualify for the category. “It is important to remember that as per RBI, most of the Indian banks are safe the majority of the time, it is also true that all banks are not the same when it comes to risks. The RBI itself has identified 3 systemically important banks (SIBs) in India—SBI, ICICI Bank, and HDFC Bank, which are too big and too important for the country’s economic system,” said Dev Ashish. He added, “Do note that this in no way means that the rest of the banks are not safe. It is just that the named three are very large and so well-entrenched in the country’s economy that the central bank will go to any lengths to protect them.”

Therefore, only guarantee for FDs in other banks is the deposit insurance cover of Rs 5 lakh from DICGC. So, when you are going for a large deposit, it is better to be cautious about safety aspects. “Choose well-established banks that have a strong track record and stable financial position,” said Abhijit Talukdar, SEBI Registered Investment Adviser.

Best strategy to invest in short-term and long-term FDs
Fixed deposits are protected by the deposit insurance program to the tune of Rs 5 lakh per depositor. It includes both the principal and interest amount. Under this insurance program, each depositor of each scheduled bank is covered for cumulative deposits (including fixed, current, savings, and recurring deposits) of up to Rs 5 lakh, in case of bank failures. This cover makes small private sector banks offering higher FD yields equally ‘safe’ as public sector banks and major private sector banks for cumulative deposits of up to Rs 5 lakh.

“This insurance provides a great opportunity to investors in maximising their returns by choosing banks with relatively higher yields and slightly smaller sizes,” said Vivek Banka, Co-Founder, GoalTeller.

Simply put, if a bank fails, an amount of up to Rs 5 lakh will be insured. Thus, depositors seeking both higher FD yields and the highest possible capital protection can spread their high-yield FDs with multiple scheduled banks in such a way that the maturity amount of cumulative deposits with each of those scheduled banks do not cross the Rs 5-lakh limit, said Aggarwal.

Echoing this, Talukdar added, “Since deposits of up to Rs 5 lakh are insured by Deposit Insurance and Credit Guarantee Corporation (DICFC), FDs more than Rs 5 lakh should be spread across multiple banks to reduce risk.”

“If investors need to deposit large amounts in fixed deposits, they can spread the deposits across a few banks – about 60-75 per cent in the RBI-identified SIBs or larger private and public banks. The rest can be parked in other banks that are safe enough and offer higher FD rates,” recommended Dev Ashish.