Worth Explains - What Are Company Fixed Deposits? Are They Better Than Bank FDs?

Over several decades and generations, one investment tool that has been an inseparable part of most investor¡¯s portfolios is fixed deposits. Whether you are a conservative investor or a risk taker, fixed deposits are likely to have a seat as an investment vehicle in your portfolio. However, the entire gamut of fixed deposits is not just restricted to investing in bank or post office term deposits. Another form of fixed deposit investment that has had its share of popularity over the years amongst certain investors, is company/corporate fixed deposit. Let¡¯s explore the world of these deposits and understand their similarities and differences vs bank deposits.

What are Corporate Fixed Deposits?

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Corporate/Company Fixed Deposits are FDs issued by NBFCs, HFCs, and other financial institutions. Instead of banks or post offices issuing the deposit, it¡¯s these financial institutions who issue these corporate fixed deposits. More often than not, their interest rates are usually higher than bank fixed deposits, and stay fixed throughout the booked tenure of deposit, which usually ranges broadly between 12-120 months varying amongst different issuers. The key to invest in corporate fixed deposits lies in the offered interest rate and credit rating assigned to the financial institution. The higher the credit rating, the lower is the risk of default, and vice versa. For instance, an issuer may be offering higher interest rate on the corporate FD but it might be assigned a lower credit rating like BB, whereas another issuer may be offering slightly lower interest rate but would be possessing a higher credit rating of say, AAA.

Now, the question that is natural to pop up in your mind, is how to go about investing in a corporate fixed deposit? Let us clear the air for you by deep diving into the risks involved in them, how it differs from bank FD and how to choose the right issuer for company FD.

1. Interest Rate

When compared to bank FD¡¯s interest rates, corporate FD¡¯s hold an edge through their relatively higher interest rates. With the same feature of FD rates remaining fixed and locked during the entire period of chosen FD tenure, investing in company FD at higher interest rates can thus fetch you better returns on your hard earned money. Moreover, like many bank FD¡¯s tend to offer 0.5% higher interest rates usually to senior citizens, corporate FDs too tend to usually offer around 0.25%--0.5% higher interest rates to senior citizens. Currently, bank FD rate of largest banks in terms of market cap like ICICI, Axis, HDFC, SBI and Kotak Mahindra Bank, range broadly between 2.5%-5.75% p.a., while those of Small Finance Banks vary broadly between 2.50%-7% p.a. across different banks and tenures. (Rates as on bank websites dated 27.10.2021).

As far as corporate FDs are concerned, their interest rates currently range broadly between 4.95%-7.75% p.a.(Rates as on financial institutions¡¯ websites dated 27.10.2021).

2. Credit ratings

A crucial parameter that investors should factor in when it comes to choosing corporate fixed deposits, is the credit rating assigned to that financial institution, by notable rating agencies like CRISIL, ICRA, CARE etc. The higher the rating, lower the risk of default and hence, greater the level of safety. Credit agencies tend to assign these rating on the basis of the overall financial health of the FD issuer, including the comprehensive analysis of the company background, repayment history, management quality, etc. Through these rating, investors can get a fair idea about the credit risk involved in opening corporate FDs with that particular financial institution.

3. Taxation on returns

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A similarity between taxation of interest earned on bank FD and corporate FD is that both of them are added to the depositor¡¯s income and taxed per their income tax slab. However, the TDS deducted by the bank/corporate FD issuer varies between these two investment tools. For Bank FDs, banks deduct TDS at the time of crediting interest to your account if the amount of interest is beyond Rs.40,000 per financial year for individuals other than senior citizens.(in case of senior citizens the threshold is Rs.50,000). Whereas for corporate FD, TDS is deducted if the interest earned exceeds Rs 5,000 in a financial year.

4. Lack of insurance cover unlike bank FDs

A major drawback of corporate FDs when compared to bank FDs, is the lack of insurance cover. Unlike deposits opened in scheduled commercial banks as per RBI¡¯s list, which are cumulatively covered upto Rs 5 lakh per banker depositor under DICGC, a subsidiary of RBI; corporate/company FDs arent covered under any such guarantee scheme, thus putting the investor¡¯s hard earned money at much higher risk in case the corporate FD issuer defaults or faces bankruptcy.

5. Lock-in period and premature withdrawal penalty

Unlike Bank FDs, most company fixed deposits come with a lock-in period during which investor may not be allowed to withdraw the deposit. It is usually a three month lock in period. Even after the lock-in period is over, premature withdrawal within 3-6 months may usually result in payment of no or a fixed lower rate of interest, whereas withdrawal after six months may usually involve a penalty in the form of lower interest rate provided on the deposit, instead of the rate earlier offered as per tenure¡¯s card rate. Also, corporate FDs usually allow loan against the FD of upto 75% of the deposit amount lent usually at a rate of 2% above the FD rate, whereas bank FDs generally allow upto 85%-95% of FD amount as loan lent usually at rates of 0.75%-2.5% above FD rate.

What to keep in mind before investing in Corporate FDs?

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Both Bank FDs and Corporate FDs have their own share of pros and cons, weighing which would allow you as an investor to take an informed decision. Those investors who have low to medium risk taking appetite and wish to fetch higher returns than bank FDs, can go for corporate FDs.With higher interest rates than bank FDs, corporate FDs often tend to be a lucrative investment vehicle for those aiming to earning a notch higher than bank FDs but not willing to go for options like mutual funds. However, remember that, as corporate FDs are not covered by the DICGC¡¯s insurance of upto Rs 5 lakh, always ensure to check the basic fundamentals of the company with whom you are opening corporate FD, besides of course checking it¡¯s credit rating. Given that high credit ratings signify the highest safety regarding the payment of interest and the principal, ensure to go for such issuers to cover the risk of default, or at least minimize it. Moreover, it¡¯s worth saying that when making investment as per the credit rating of the financial institution, do not turn a blind eye towards other factors and parameters, as credit rating agencies too, may go wrong in some cases regarding the company¡¯s credibility, such as the cases of defaults and failures of DHFL and IL&FS in the recent past. Yes credit ratings have been and should be a crucial but never the sole parameter when taking the decision. Your decision regarding which financial institution to invest in for your corporate FD should be based on multiple factors like the interest rate, credit rating, past performance,repayment history, company background,stability etc. Do not commit the blunder of basing your decision on just any one parameter or hearsay, as this can result in losing your hard earned money in case that financial institution defaults someday.

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