Understand exactly how banks calculate your Fixed Deposit interest. Simple vs compound, quarterly compounding, and TDS — all explained with examples.
Banks can calculate FD interest using either simple interest or compound interest methods. Understanding the difference is crucial because it directly affects how much you earn from your Fixed Deposit.
Simple Interest is calculated only on the original principal amount. The formula is: Simple Interest = Principal x Rate x Time / 100. If you deposit Rs 5,00,000 at 7% for 3 years with simple interest, you earn Rs 5,00,000 x 7 x 3 / 100 = Rs 1,05,000 in interest. Your maturity amount would be Rs 6,05,000.
Compound Interest is calculated on the principal plus any previously earned interest. The formula is: Maturity = Principal x (1 + Rate/n)^(n x Time), where n is the compounding frequency per year. With compound interest, you earn interest on your interest, resulting in a higher maturity amount.
Most banks in India use quarterly compounding for Fixed Deposits. This means the interest is calculated and added to your principal every 3 months (4 times a year). Each quarter, the interest earned in the previous quarter becomes part of the principal for the next quarter's calculation.
With quarterly compounding, the effective annual rate is slightly higher than the stated rate. For example, a stated rate of 7% per annum with quarterly compounding gives an effective annual yield of approximately 7.19%. This is because interest compounds four times during the year.
Let us see how quarterly compounding works with a Rs 5,00,000 FD at 7% for 1 year:
| Quarter | Opening Balance | Interest (7%/4 = 1.75%) | Closing Balance |
|---|---|---|---|
| Q1 (Jan-Mar) | Rs 5,00,000 | Rs 8,750 | Rs 5,08,750 |
| Q2 (Apr-Jun) | Rs 5,08,750 | Rs 8,903 | Rs 5,17,653 |
| Q3 (Jul-Sep) | Rs 5,17,653 | Rs 9,059 | Rs 5,26,712 |
| Q4 (Oct-Dec) | Rs 5,26,712 | Rs 9,217 | Rs 5,35,929 |
Total interest earned with quarterly compounding: Rs 35,929. With simple interest, you would have earned only Rs 35,000 (Rs 5,00,000 x 7%). The extra Rs 929 comes from compounding — earning interest on the interest added each quarter.
Let us compare both methods side by side for a Rs 5,00,000 Fixed Deposit at 7% annual interest for 3 years.
| Method | Principal | Interest Earned | Maturity Amount |
|---|---|---|---|
| Simple Interest | Rs 5,00,000 | Rs 1,05,000 | Rs 6,05,000 |
| Quarterly Compounding | Rs 5,00,000 | Rs 1,16,147 | Rs 6,16,147 |
| Monthly Compounding | Rs 5,00,000 | Rs 1,16,765 | Rs 6,16,765 |
With quarterly compounding, you earn Rs 11,147 more than simple interest over 3 years — that is an extra 10.6% on the interest itself. Monthly compounding gives you a further Rs 618 more than quarterly, though the difference between monthly and quarterly is marginal.
When booking a Fixed Deposit, you typically choose between cumulative and non-cumulative options. This choice determines when and how you receive the interest.
In a cumulative FD, the interest is compounded quarterly and paid out only at maturity along with the principal. This is ideal for investors who do not need regular income and want maximum returns. The interest earns interest (compounding effect), resulting in a higher maturity amount. Best suited for salaried individuals, young investors, and those with long-term savings goals.
In a non-cumulative FD, the interest is paid out at regular intervals — monthly, quarterly, half-yearly, or annually — directly to your bank account. Since the interest is not reinvested, there is no compounding benefit. The effective return is slightly lower than a cumulative FD. This option is ideal for retirees and senior citizens who need regular income from their FD investments.
| Feature | Cumulative FD | Non-Cumulative FD |
|---|---|---|
| Interest Payout | At maturity only | Monthly / Quarterly / Annually |
| Compounding Benefit | Yes (higher effective return) | No (simple interest equivalent) |
| Best For | Wealth growth, long-term saving | Regular income, retirement |
| Maturity for Rs 5L at 7% for 3Y | Rs 6,16,147 | Rs 6,05,000 (Rs 5L + interest paid out) |
| Effective Yield | 7.19% (with quarterly compounding) | 7.00% (stated rate) |
Tax Deducted at Source (TDS) is applicable on FD interest when the total interest earned from all FDs with a bank exceeds Rs 40,000 in a financial year (Rs 50,000 for senior citizens aged 60+). The TDS rate is 10% if you have provided your PAN; otherwise, it is 20%.
Important: Even if TDS is deducted at 10%, your actual tax liability on FD interest could be higher (20% or 30% depending on your slab). You must declare all FD interest income in your annual tax return and pay the balance tax.
Use our free FD calculator to see your exact maturity amount, interest earned, and year-wise growth schedule.
Calculate FD Returns →Most banks in India use quarterly compounding for cumulative FDs. However, non-cumulative FDs effectively work on simple interest since the interest is paid out periodically and not reinvested. Some banks and NBFCs may compound monthly or half-yearly. Always check the interest calculation method before booking your FD.
The stated FD interest rate is the nominal annual rate. The effective yield is the actual annual return after considering compounding. For example, a 7% FD rate with quarterly compounding gives an effective yield of approximately 7.19%. The effective yield is always higher than the stated rate when compounding is involved.
If your total annual income is below the basic exemption limit (Rs 2.5 lakh for general citizens, Rs 3 lakh for senior citizens under old regime), you can submit Form 15G (for those below 60) or Form 15H (for senior citizens) to your bank at the start of each financial year. This prevents the bank from deducting TDS on your FD interest.
For cumulative FDs, most banks calculate interest on a quarterly compounding basis — meaning interest is added to the principal every 3 months. The daily calculation method is more common for savings accounts. For non-cumulative FDs, interest is calculated on the principal and paid out at the chosen frequency (monthly, quarterly, etc.).
Cumulative FD always gives higher total returns because the interest is reinvested and earns further interest (compounding effect). For a Rs 5 lakh FD at 7% for 3 years, a cumulative FD gives Rs 6,16,147 at maturity, while a non-cumulative FD pays out total interest of Rs 1,05,000, making the effective maturity Rs 6,05,000. That is Rs 11,147 less.