What is a Short-term Fixed Deposit? Benefits & Risks

Are you interested in a low-risk way to invest your hard-earned money? The Short-term Fixed Deposit can be a great way to start with. Many people find it a safe way to earn extra income from their savings.

Well, a fixed deposit has always been a popular way of investment which is free of risk. Even if it gives you lower returns compared to other ways of investing, it can be highly rewarding if done correctly and strategically.

What is Short-Term Fixed Deposit?

A deposit for a fixed time duration is called a Fixed deposit. When a fixed deposit is done for a short term, usually ranging from a few days to a few months, it is called a short-term fixed deposit. This kind of scheme or account is offered by banks and financial institutions.

Usually, short-term fixed deposits pay higher interest rates on the deposited amount compared to a regular savings account. Short-term FDs typically have a maturity period of less than a year which makes them attractive for individuals who want to deposit their money for a short period and earn higher interest than a regular saving account.

Once the maturity period ends, the principal amount along with the accrued interest is credited to the customer’s account.

Benefits of Investing in a Short-Term Fixed Deposit

A short-term fixed deposit offers customers a number of benefits which makes it a more reliable and good investment. Some of the benefits of investing in a short-term fixed deposit are:

1. Higher Interest Rates: As already discussed, Fixed deposits pay higher interest rates compared to regular savings accounts. This simply means customers can enjoy a higher income on their savings in a short period of time.
2. Low Risk: Unlike other investment options such as stocks or mutual funds, there are low chances of losing your money. In fixed deposits, even if your interest rates are fixed, your principal amount is guaranteed.
3. Flexible Tenure: One of the best features of short-term fixed deposits is it allows you to choose a tenure between a few days to a few months whichever suits you the best.
4. Easy to Open & Maintain: Opening a short-term fixed deposit account is as easy as preparing tea. You only need Valid ID proofs and the initial amount. Nowadays, you can also open using online mobile banking apps.
5. Helps in Achieving Short-term Financial Goals: If you have short-term financial goals such as a down payment on a house loan or savings for a vacation. Short-term FDs can help you achieve those goals.
6. Tax Benefits: Short-term FDs can not only give you some additional income but you can also get tax benefits under Section 80TTB of the Income Tax Act, 1961, If you are a senior citizen.

Risks of Investing in a Short-Term Fixed Deposit

However, Short-term FDs are considered a safe investment, there are some risks associated with them. Here are some potential risks that you can consider before investing your money:

1. Interest Rate Risk: Short-term FDs come with a fixed interest rate which is decided at the time of investment. If the interest rate increases in the market after your investment, you will miss out on the extra returns.
2. Reinvestment Risk: After the maturity of a short-term fixed deposit, you may also face reinvestment risk which means you will not be able to reinvest your money at the same interest rate that you were earning before.
3. Liquidity Risk: There is liquidity risk in short-term fixed deposits. You can withdraw your money before maturity, however, it will impose some penalty. This means you are bound to not access your money before the maturity period.
4. Inflation Risk: The interest rate offered on short-term fixed deposits may not keep up with the rate of inflation, which means that your real return on investment may be lower than expected.
5. Credit Risk: It is very important to invest your money in reputable banks as there is still a risk of the bank or financial institution defaulting on their payments.

Points to Consider Before Investing in Short-Term FD

Before investing in a short-term fixed deposit, one should consider the following points:

1. Compare Interest Rates: The interest rates on FDs vary from bank to bank. So, It is crucial to compare the interest rates of different banks to get the best out of your savings.
2. Penalty for Premature Withdrawal: You should also inquire about the penalty if you withdraw your money before maturity. If you miss this important point, you can get a loss instead of a profit.
3. Reinvestment Risk: You must consider this point in order to make a better decision and hence a better investment.
4. Tenure: Short-term FDs offer you a tenure ranging from 7 days to 12 months. You must choose the tenure according to your short-term financial goals.
5. Credit Rating of the bank: One should always check the credit rating of a bank before investing his hard-earned money so as to minimize the risk of default.
6. Keep Records: Keep records of your investments, including the tenure, interest rate, and maturity date. This will help you track your investments and plan for future investments.
7. Consider Tax Implications: Interest earned on short-term fixed deposits is taxable. Consider the tax implications of investing in short-term fixed deposits and plan accordingly.
8. Diversify Your Portfolio: Consider diversifying your portfolio to reduce overall risk. Don’t invest all your money in short-term fixed deposits; consider investing in other investment options like mutual funds or stocks.

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