Cumulative vs Non-cumulative FD

Fixed deposits (FDs) are a popular investment choice among investors due to the secure and guaranteed returns offered. FDs come in two categories, i.e., cumulative and non-cumulative types, distinguished by their interest payout structure. 

Each type has its own set of features and benefits, catering to different financial goals and preferences. Cumulative FDs accumulate interest over the deposit period and pay out the entire principal amount along with the accumulated interest at maturity. 

Non-cumulative FDs, on the other hand, pay out the interest earned at regular intervals, depending on the investor's preference. However, investors must carefully consider the factors that differentiate them before investing. 

A cumulative fixed deposit is a type of FD where interest is added to the principal amount instead of being paid out periodically. 

The combined amount earns interest each year, and the total (principal + interest) is paid at maturity. This option is ideal for those seeking long-term savings with guaranteed returns.

Here are some of the benefits of Cumulative Fixed Deposit:

• Higher Interest Earnings: Interest is compounded, resulting in a higher payout at maturity compared to regular FDs

• Convenience: With interest reinvested, there’s no need to track periodic payouts, making it an easy investment option

• Flexibility in Tenure: Cumulative FDs allow you to choose a tenure that matches your financial goals, whether short-term or long-term.

• Goal-Based Savings: Cumulative FDs are ideal for saving toward specific goals since funds accumulate steadily for a long period.

• Stable and Secure: Fixed deposits provide stability and security, offering predictable returns without exposure to market risks.

You can choose the payout frequency as monthly, quarterly, half-yearly, or yearly in a non-cumulative fixed deposit. 

This option is ideal for those needing regular income, such as for EMIs or rent. Senior citizens can also opt for non-cumulative FDs to receive regular payouts for daily expenses.

The following are some benefits of Non-cumulative Fixed Deposit:

• Steady income stream: Non-cumulative FDs offer regular, predictable income, making them ideal for individuals relying on fixed-interest earnings for financial needs

• Flexibility in payout options: Investors can choose the payout frequency to suit their cash flow needs, offering greater flexibility in financial management

The following table presents a comparative analysis of cumulative vs non-cumulative fixed deposits: 

For example, if you invest ₹1 Lakh in a cumulative FD with a bank for five years at an interest rate of 6% p.a. In that case, here is how the cumulative interest on your fixed deposit will be calculated each year:

Say you deposit ₹1 Lakh in a non-cumulative fixed deposit offered by a bank. Based on your financial requirements, you can choose an interest payout frequency. Explore the potential earnings based on various payout frequencies in the table provided below.

Here are some factors to keep in mind while making the decision:

• Income Requirement: If you need a stable source of income, choosing a non-cumulative FD may be ideal since you can choose from monthly, quarterly, semi-annual or annual returns.

• Investment Tenure: Cumulative FDs offer the compounding effect, which can help you maximise your returns over an extended term. So, if you are investing for long-term goals, a cumulative FD may be ideal.

• Tax Planning:  The tax is deducted at maturity when the interest is paid out in full for cumulative FDs. Whereas, for non-cumulative FDs, tax is deducted at regular intervals in line with the payout frequency.

• Risk Tolerance: Both cumulative and non-cumulative FDs are low-risk investments. Cumulative FDs offer higher returns due to compounding, while non-cumulative FDs provide steady, predictable income for those seeking lower risk.

• Liquidity Needs: Evaluate your liquidity and emergency fund requirements. The Cumulative FD locks your funds until maturity, while a Non-cumulative FD offers regular interest payouts. Non-cumulative FD provides more flexibility for short-term access to funds.

• Tax Implications: Consider the tax impact of both options. In a cumulative FD, interest is reinvested, increasing tax liability at maturity. In a non-cumulative FD, interest is paid regularly, and you must pay tax on it annually based on your tax slab.

• Interest Payout Frequency: Choose the payout frequency as monthly, quarterly, half-yearly, or annually for your Non-cumulative FD based on your cash flow needs.

• Penalty for Premature Withdrawal: Review the penalty or interest loss for early withdrawal of the FD. Sometimes, choosing a shorter tenure in a Non-cumulative FD can be more beneficial than breaking a long-term Cumulative FD.