Fixed Deposit Interest Calculation – Simple vs Compound Interest

Posted on Friday, November 22nd, 2024 | By IndusInd Bank

Investing your hard-earned money in the right investment avenue is crucial for financial growth, and Fixed Deposits (FDs) have long been a popular choice for several types of investors.  

When you invest in an FD, your money earns a fixed amount of interest over a specified tenure. Banks calculate the interest on your FD in two ways: simple interest or compound interest. Many people wonder whether the interest earned on FD is simple interest or compound interest. It depends on the bank’s policies. However, to get a thorough understanding of your FD earnings, you must understand both types of interest.  

Understanding Simple Interest in FDs

Simple interest is a straightforward method of calculating returns on a fixed deposit.  

Here, the bank calculates the fixed deposit interest on the initial deposit (also known as the principal) for the entire tenure of the FD.  

The formula for fixed deposit interest calculation using simple interest is: 

Simple Interest = (P × R × T) / 100 

Where: 

– P is the principal amount, 

– R is the interest rate for your FD, 

– T is the tenure of the deposit in years. 

For instance, if you invest ₹ 1,00,000 at an interest rate of 6% for 3 years, the simple interest would be: 

SI = (1,00,000 × 6 × 3) / 100 = ₹18,000 

So, here you will be earning a total interest of ₹18,000 over a three-year tenure. This amount will be added to your principal amount at maturity.  

Whether the interest on fixed deposits is simple interest or compound depends on the bank’s policies. However, simple interest is less commonly used compared to compound interest. 

Understanding Compound Interest in FDs

In contrast, compound interest is calculated on both the initial principal and the previously accumulated interest. This means that the interest earned in each period is added to the principal amount for calculation. The interest can be compounded annually, quarterly, or monthly depending on the bank’s policy. 

The formula for fixed deposit interest calculation using compound interest is: 

Compound Interest= P × ((1 + R/N) ^ nt) 

Where: 

– P is the principal amount, 

– R is the interest rate, 

– N = Number of times the bank compounds your interest  

– nt = Number of years  

For example, if you invest ₹1,00,000 at an interest rate of 7% for 3 years with annual compounding, the amount at maturity would be: 

A= 1,00,000 × ((1+ 0.07/1) ^ 3) = ₹1,22,504.  

Of which ₹ 22,504 is the compound interest. 

In this scenario, you earn a total fixed deposit interest amount of ₹22,504, which is higher than the simple interest example.  

This is because, in compound interest, banks reinvest your total amount (principal + accumulated interest). This makes it a more attractive option for long-term investors.  

Also Read: Comparing Cumulative vs. Non-cumulative Fixed Deposits 

How Do Banks Calculate Interest on FDs: Simple and Compound Interest 

• Banks usually opt for compound interest when calculating fixed deposit interest, as it provides higher returns over time.  

• The compounding can be done annually, semi-annually, quarterly, or even monthly. The frequency of compounding affects the total interest you earn. For example, quarterly compounding will yield more interest than annual compounding for the same rate and tenure. 

• However, some short-term fixed deposits (e.g. FDs with 6 months tenure) may use simple interest. Thus, whether the interest on fixed deposit is simple interest or compound interest depends on the bank’s specific product offerings. 

• You can always reach out to the bank to better understand the returns you will get from your FD and ensure your financial goals are met. 

Calculating Interest the Easy Way – FD Interest Calculator  

Carrying out the fixed deposit interest calculation by yourself can be difficult.  

To simplify this process, IndusInd Bank offers a user-friendly Fixed Deposit Interest Calculator.  

With an FD interest calculator, you can input details like the principal amount and tenure to get an instant calculation of your returns. This tool makes it easier for you to compare different amounts and tenure and apply for an FD that suits your financial needs. 

Conclusion  

Understanding the difference between simple and compound interest is crucial when investing in FDs. While simple interest offers a fixed return on the principal, compound interest allows your funds to grow exponentially over time.  

IndusInd Bank provides a range of FD options with competitive interest rates and flexible tenures to suit your financial goals. The best part? You can book an FD right now with our 100% online application process 

Ready to grow your savings? Book an IndusInd Bank Fixed Deposit today!  

Disclaimer: The information provided in this article is generic and for informational purposes only. It is not a substitute for specific advice in your circumstances. Hence, you are advised to consult your financial advisor before making any financial decision. IndusInd Bank Limited (IBL) does not influence the views of the author in any way. IBL and the author shall not be responsible for any direct/indirect loss or liability incurred by the reader for making any financial decisions based on the contents and information.