by Various types of accounts are offered by Banks in India namely Fixed Deposit Account, Recurring Deposit Account, Savings Accounts, Public Provident Fund Account, etc. But the interest calculation differs from account to account. For instance interest calculation under PPF account is happens on monthly basis while Fixed Deposit interest gets compounded quarterly. However, the calculation of interest is same across all banks for same type of account i.e. calculation of interest on fixed deposits is similar for every bank whether private or public.
We often try to match the interest figures appear in bank passbook or online bank statement but we fail to do so because the formula may be same but the frequency or the time period for calculating the interest may be different which results is non-matching of the interest figure.
Table of Contents
Let’s see how bank calculate interest on various accounts:
Interest Calculation on Fixed Deposits:
The formula is
Maturity Value (A) = P x (1 + r/n)nt
Here,
- P = Principal Amount
- R = Rate of Interest
- T = Time Period
- N = Number of Times i.e. Compounding Frequency
For Example, SBI provides interest rate of 8% on a fixed deposit of ₹ 1 lakh for a period of 5 years with quarterly compounding of interest. Now, the maturity value and the interest on the fixed deposit in question will be calculated as follows:
Maturity Value (A) = P x (1 + r/n)nt
= 100000 x (1 + .08/4)4*5
= 100000 x (1 + .02)20
= 100000 x 1.485947396
= ₹ 1,48,594.74
Interest Earned = Maturity Value (A) – Principal Amount (P)
= ₹ 1,48,594.74 – ₹ 1,00,000
= ₹ 48,594.74
“Greater the Compounding Higher the Interest.”
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Interest Calculation on Recurring Deposits:
The formula for calculating interest on recurring deposits is similar to fixed deposits. Each deposit/instalment of Recurring Deposit is considered as a separate deposit and interest is calculated on each deposit for remaining period of time.
Maturity Value (A) = P x (1 + r/n)nt
For example, Central Bank of India provides interest rate of 7.25% p.a. on recurring deposits for 2 years with monthly deposits of ₹ 5,000. Let’s calculate the maturity value and interest amount.
- Here (P) is each instalment = ₹ 10,000
- Rate of Interest (r) = 7.25% = 0.0725
- Number of Period (t) = 2 years
- Frequency of Compounding Interest (n) = 4 (quarterly)
As per the above calculation the maturity value comes to ₹ 1,29,437 and interest earned on recurring deposits is ₹ 9,437.
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Interest Calculation on Public Provident Fund:
Interest calculation on contribution towards Public Provident Fund is calculated on the monthly basis on the amount deposited in between 1st to 5th of the respective month plus the balance carried forward from the last month.
Let’s understand the interest calculation with three different prospects i.e. single contribution before 5th of the month, monthly contribution before 5th of the month and monthly contribution after 5th of the month. The current interest rate offered on PPF is 8% p.a. which gets revised on quarterly basis.
Single Contribution of ₹ 1,20,000 on or before 5th of April
Monthly Contribution of ₹ 10,000 before 5th of April
Monthly Contribution of ₹ 10,000 after 5th of April
From the above calculations it is easily visible that to maximise the interest on PPF, contribution needs to be made on or before 5th of April month either lump-sum (if possible) else on monthly basis.
The interest earned in PPF is not compounding i.e. it is a simple interest on the balance amount standing on the 5th of month without the interest amount. The interest earned in the year is credited only at the end of the year and considered for calculation for the next year.
Interest Calculation on Savings Account:
The interest is calculated on daily basis on the closing balance standing at the end of the day in the savings account and gets credited in the account on quarterly basis. For example Sanyam having savings account balance of ₹ 1,50,000 on 1st May, withdraws ₹ 1,00,000 on 10th May and deposited ₹ 75,000 on 25th May. Now the interest earned by Sanyam on savings account for the month of May is calculated as follows:
There are few banks which provide higher interest rate if the balance in the savings account exceeds ₹ 1,00,000. Some provides higher interest rate of 5% p.a. while some provide 6% p.a. The interest calculation in this case will be as follows:
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Words of Wisdom
All the above accounts are offered by banks thus minimizes the risk of default however each type of account has its own pros and cons. Fixed Deposits gives higher interest but has certain locked-in period. Recurring deposits is good for the housewives or small shopkeepers but has low interest rates.
On the other hand savings account is not at all suitable for keeping high balances instead one should go for flexi savings account in which if the amount exceeds the certain pre-mentioned limit, a fixed deposit is opened for the excess amount to fetch higher interest rate. In case, the savings account balance goes below the pre-mentioned limit, the last FD gets broken and credited to the savings account to meet the minimum balance requirement.
Public Provident Fund provides the higher interest rates as well as falls in EEE category of tax i.e. Contribution – Exempt, Yearly Accrued Interest – Exempt and lastly maturity amount – Exempt, but due to the lock-in period of 15 years, PPC account should be associated with longer-term financial goals such as child education or marriage, retirement fund etc.
