An unexpected financial crisis can often strike without warning, leaving our savings inadequate to cover the expenses. Even if you have a fixed deposit (FD), prematurely breaking it can result in loss of interest and penalties.
This is where an overdraft against a fixed deposit comes into play, providing a solution by allowing you to access funds against the value of your FD. It establishes a line of credit linked to your FD, enabling you to withdraw funds up to the approved overdraft limit as needed.
Keep reading to learn more about the benefits of an overdraft against a fixed deposit and its workings with an example. But first, let's understand what a fixed deposit is and the OD against FD.
What is an overdraft against a fixed deposit?
A fixed deposit (FD) is a financial instrument offered by financial institutions where a specific sum of money is deposited at a fixed interest rate for a predetermined period.
This type of deposit typically offers higher interest rates compared to regular savings accounts. Fixed deposits are considered low-risk investments as they offer guaranteed returns upon maturity, making them popular among conservative investors seeking steady income and capital preservation.
An overdraft against a fixed deposit is a facility provided by banks where customers can obtain an overdraft (a line of credit) using their FD as collateral. The FD serves as security for the overdraft, allowing customers to borrow money against the FD without having to break the FD prematurely.
The bank offers an FD overdraft, typically up to a certain percentage of the FD's value, and interest is https://www.tatacapital.com/blog/loan-on-securities/what-is-overdraft-against-fixed-deposit/charged only on the amount withdrawn. This facility provides flexibility in managing finances by accessing funds when needed while keeping the FD intact and earning interest until maturity.
How does an OD against FD work?
Financial institutions commonly offer overdraft facilities to their customers against fixed deposits. This allows account holders to access additional funds, typically up to 80% to 90% of the FD amount.
Let's say Aman has a fixed deposit of Rs. 5 lakh and is granted an 80% OD limit. In that case, he can withdraw up to Rs. 4 lakhs through the OD facility, irrespective of his current account balance. Suppose he requires urgent funds to pay off medical expenses and withdraws Rs. 2 lakhs from this OD limit; then, he will be charged interest only on the amount utilised (Rs. 2 lakhs) as OD, not on the entire sanctioned limit (Rs. 4 lakhs).
In short, as an FD holder, you can access liquid funds through the overdraft facility while your principal amount in FD continues to earn the original fixed interest rate. This arrangement provides a significant benefit by allowing you to avoid prematurely breaking your FD to meet urgent funding requirements.
Benefits of an overdraft against FD
There are several advantages of securing an OD against FD.
1. Instant liquidity
Overdraft against fixed deposit offers the advantage of accessing funds swiftly without breaking your fixed deposit. This is particularly beneficial because premature withdrawal of an FD can lead to penalties and loss of interest income, affecting your overall returns.
By opting for an overdraft, you can maintain the integrity of your FD while still having immediate access to liquidity whenever needed.
2. Competitive interest rates
Another key benefit of an overdraft against a fixed deposit is the competitive interest rates it typically offers. Since the FD serves as collateral, lenders view this as a lower-risk form of borrowing. Consequently, they are often willing to extend credit at more favourable interest rates compared to other unsecured loans.
This makes it a cost-effective option for meeting short-term liquidity needs without incurring excessively high borrowing costs.
3. Quick and convenient
Applying for an overdraft against fixed deposits is usually hassle-free and involves minimal documentation and credit checks. Since the FD acts as security, lenders are more inclined to streamline the application procedure, making it quicker and more convenient for borrowers.
Additionally, having already provided the necessary information during the FD application process, you may not need to submit extensive documentation again, further expediting the approval process.
4. Interest only on usage
With an overdraft against FD, you are only charged interest on the amount you withdraw rather than the entire overdraft limit. This means you have the flexibility to borrow as much or as little as you need without incurring unnecessary interest expenses on unused funds.
In contrast, traditional loans typically charge interest on the entire principal amount, regardless of whether the whole sum is utilised.
5. Continued interest accumulation– H3
Even as you utilise the overdraft facility, your FD continues to earn interest, preserving the capital invested. This means that you can leverage the liquidity offered by the overdraft without sacrificing the interest earnings potential of your FD. This can be particularly beneficial for individuals seeking to maintain a balance between liquidity and investment returns.
6. Emergency fund
An overdraft against fixed deposits serves as a reliable source of emergency funds during unforeseen financial crises. Whether it's unexpected medical expenses, home repairs, or other urgent financial needs, having access to an overdraft facility can provide peace of mind, knowing that you have a readily available source of funds to address emergencies without resorting to more expensive or unsecured forms of borrowing.
Parting thoughts
Overdraft against Fixed Deposit (OD Against FD) presents a compelling financial solution for individuals seeking liquidity while preserving the benefits of their fixed deposits. By leveraging the value of their FDs, customers can access a line of credit at competitive interest rates, with greater flexibility and convenience compared to traditional borrowing options.
Individuals can also secure a loan against securities, such as a loan against shares or a loan on a mutual fund, to gain immediate access to capital. At Tata Capital, we offer a high loan amount ranging from Rs. 75,000 to Rs. 40 crores, with minimal documents required for loans against securities. The best part? You can secure this loan at a competitive loan against securities interest rates.
The details mentioned in this blog may change from time to time and from vendor to vendor or government policies.
20 June 2024
6 mins read
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