Cumulative vs. Non-Cumulative Fixed Deposits: What should you choose?
Jatin was planning to leave his job and start his own venture. But there was a huge risk associated with it. He wanted to secure his finances. He also wanted to ensure a certain amount of income every month. So, he locked a part of his savings in a Fixed Deposit (FD) Account. The dividends helped him pay his child’s school fees. The money also paid for his household expenses until his earnings stabilised.
Both cumulative and non-cumulative FDs have many advantages and disadvantages.
What Is a Cumulative Fixed Deposit?
In a cumulative FD, you lock in your money. You do not touch any of it until the fund matures. Your earned dividends keep getting added to the principal. Also, you earn interest on the compounded principal. This helps your fund grow in a better way.
What Is a Non-Cumulative Fixed Deposit?
In a non-cumulative FD, you can withdraw the interest component at regular intervals. You can choose to withdraw the dividends every month or every quarter, for example. Retired people or those who need an extra income depend on non-cumulative FDs to a large extent.
Features of A Cumulative Fixed Deposit:
The biggest advantage of a cumulative FD is that it helps your money grow. Here, you do not withdraw the interest. So, it gets added to the principal. As a result, the principal grows with every cycle. Here is an example. Nisha opened a cumulative FD of Rs 10,000 for six years. The interest rate was 7%. In the first year, she earned a dividend of Rs 700. Her principal for the second year became Rs 10,700. In the second year, she earned a dividend of Rs 749. This continued for the rest of her FD term. So, Nisha got good returns through the cumulative FD.
But there are some minor drawbacks here. You cannot take out any money until the fund matures. This holds even if you are facing a financial crisis. A cumulative FD is a disciplined but rigid investment option.
Features of a Non-Cumulative Fixed Deposit
What is the biggest advantage of a non-cumulative FD? It gives you a steady, pre-decided income. In an emergency, though, you do not have to touch your savings. This was true in Jain’s case. The dividends helped him during a difficult time. Suppose he had not invested in the non-cumulative FD. He may have ended up spending all his savings. This would have harmed his family’s financial future. But the non-cumulative FD kept his savings safe. At the same time, it gave him the financial help he needed.
What are the disadvantages of a non-cumulative FD? It brings you lower returns. Unlike a cumulative FD, the dividends do not add to increase the principal. So, the total interest you earn is lower.
Cumulative or Non-Cumulative Fixed Deposits: What Should You Choose?
Consider the following before deciding:
- Need for investment:
Do you want to keep your money safe for your future in a disciplined way? Choose a cumulative FD.
- Need for financial support:
Do you need the FD to give you financial support? Choose a non-cumulative FD.
- Financial goal:
Do you have fixed financial goals? Then choose a cumulative FD. For example, suppose you wish to study in a foreign university after two years. Then lock in your money in a cumulative FD. Use the amount when it matures for your specific need. But suppose you have steady financial commitments already, like EMI payments. Then go for a non-cumulative FD. Use the dividends to pay your EMIs.