Premature Withdrawal Conditions Can Turn Returns Upside Down

One of the key features that an investor considers while investing in a fixed income option is the interest rate that will be earned by them. The type of issuer of the instrument also plays an important part because safety of the money invested is crucial along with the return of the instrument.

There is one other aspect that most investors ignore and that is the condition for premature withdrawal, because this can turn the workings of the entire investment upside down. A very good example of this is the five-year time deposit from the post office.

A time deposit is nothing but a fixed deposit, where the deposit is made for a specific time period. The post office offers the facility of time deposits, just like a bank, but there is a difference here in the form of a limited number of offerings or time periods for which the deposit can be made.

Normally, the choice is very large in a bank, but the post office offers a time deposit for one year, two years, three years and five years time period only.

Investors can choose from these options and then, they will be able to invest the money at the prevailing interest rate at the time of making the deposit.

The post office five-year time deposit has a high rate of interest offered to investors and that is also understandable, since normally the longer the time period of the deposit, the higher the interest rate.

For the January to March 2024 time period, the interest rate that is offered on this deposit is 7.5%. This is a good attraction for investors who want to park money for a five-year time period.

One additional factor that makes this rate attractive is also the fact that the post office is offering this deposit which is backed by the Government of India, so this raises the safety and comfort level of the investors who are considering debt options for their portfolio.

While all the other parameters make the deposit very attractive, there is a need to pay attention to one other aspect that can change the entire equation. This is the impact of premature withdrawal on deposit. The condition related to premature withdrawal have been changed from Nov. 10, 2023 and now the new rules are applicable.

The first point is that premature withdrawal is not allowed for the first four years of the deposit. After the completion of the fourth year, this withdrawal can be done, but if this is done, then the interest rate paid on the deposit will be the rate on the post office savings bank account. This means that the rate of interest will go down significantly on the deposit if it is withdrawn earlier, because at the current moment, the savings bank rate is 4%, while the interest rate on the deposit is 7.5%. This can be a big blow and this will mean that even a slight need for funds, even for a few months before maturity, can cause a huge amount of damage to the earnings.

This is also the reason why the investor has to be very careful and they need to be certain that they will be able to hold on to the deposit for the entire period of five years. If this is possible, then only should they opt for the investment because there is a liquidity constraint for this deposit. If there is a need for funds earlier, then some other option, even with a slightly lower rate of interest, would turn out to be a better choice.

Arnav Pandya is founder of Moneyeduschool.