A Savings Account offers interest on the balance maintained in it. However, we use these accounts for regular transactions. How does the bank calculate interest? What balance does the bank consider? Also, if you are opening a Fixed Deposit account and decide to withdraw your funds prematurely, then how does the calculation work?
While computers do most of the heavy lifting in terms of interest calculations, it is important to understand these calculations to know the returns you are getting.
Interest calculation on Savings Accounts has become much simpler after 2010.
Very few people know that earlier, banks would calculate interest on the lowest balance held between the 10th and the last day of the month. So, if your account had a minimum balance of Rs.1000 during the said period, then the bank calculated interest for the month on Rs.1000 only, regardless of how much balance you had in the rest of the month.
In 2009, the RBI released a circular mandating all banks to calculate interest on a daily product basis as opposed to the methodology followed earlier.
Today, the interest on a Savings Account is calculated as follows:
Savings Account Interest = Daily Balance × Rate of Interest × Number of Days365 ×100
Let’s understand the calculation of how banks calculate interest on savings accounts in India with the help of an example:
Rajeev has a Savings Account with a bank that offers an interest rate of 4% per annum. Here is a look at his account in May 2022.
Date |
Opening Balance |
Deposits |
Withdrawals |
Closing Balance |
01-May-2022 |
200,000 |
- |
- |
200,000 |
06-May-2022 |
200,000 |
- |
60,000 |
140,000 |
10-May-2022 |
140,000 |
40,000 |
- |
180,000 |
20-May-2022 |
180,000 |
20,000 |
5,000 |
195,000 |
31-May-2022 |
195,000 |
- |
- |
195,000 |
The interest calculation is done as follows:
The number of days = 5.
Therefore,
Savings Account Interest for these 5 days=200000 ×4 ×5365 ×100=Rs.109.59
Number of days = 4
Therefore,
Savings Account Interest for these 4 days=140000 ×4 ×4365 ×100=Rs. 61.37
Number of days = 10
Therefore,
Savings Account Interest for these 10 days =180000 ×4 ×10365 ×100=Rs. 197.26
Number of days = 12
Therefore,
Savings Account Interest for these 12 days=195000 ×4 ×12365 ×100=Rs. 256.44
Here is a summary:
Closing Balance (Rs.) |
Number of Days |
Interest Earned (Rs.) |
200,000 |
5 |
109.59 |
140,000 |
4 |
61.37 |
180,000 |
10 |
197.26 |
195,000 |
12 |
256.44 |
Total |
31 |
624.66 |
Hence the total interest earned in May 2022 is Rs 624.66
While the interest is calculated daily, it is credited to the depositor’s account only every three or six months based on the bank’s policy.
Calculation of interest on Fixed Deposits is relatively simpler if they are held until maturity. However, if you prematurely withdraw the FD, then the bank can levy a penal interest. Let’s understand these interest calculations with the help of an example.
Rajeev opens a Fixed Deposit for Rs.200,000 for a period of one year. The rate of interest offered by the bank is 8% per annum. On the same day, the rate of interest for a six-month deposit was 6%. Also, in the event of a premature withdrawal of FD, the bank charges 0.5% as a penalty.
The interest earned by an FD is calculated as follows:
FD Interest=Principal ×Rate of Interest ×Number of Days365 ×100
The details of Rajeev’s FD are as follows:
Therefore, the interest earned by Rajeev on the FD will be:
FD Interest=200000 ×8 ×365365 ×100=Rs. 16,000
On maturity of the FD, Rajeev will receive Rs.216,000 pre-taxes.
In this case, the interest calculation changes.
Since Rajeev had booked the FD for one year, the bank had offered a rate of interest of 8% per annum. However, it is important to remember that while Rajeev had booked the FD at 8% p.a. since he decides to withdraw it prematurely, the bank will not pay interest at 8% p.a. for six months. Instead, it will pay interest applicable for a six-month deposit. In this case, the interest rate for a six-month deposit was 6%.
Further, the bank will charge a penal interest of 0.5% on premature withdrawals. Therefore, the effective interest rate will be
Effective rate of interest = 6-0.5 = 5.5%
Therefore, the bank will calculate interest as follows:
FD Interest=200000 ×5.5100=Rs. 11,000
On maturity of the FD, Rajeev will receive Rs.211,000 pre-taxes.
Also, check out the FD Interest rate calculator if you are planning to invest in FD.
So this was all about how banks calculate interest on savings accounts and fixed deposits.
While most investors rely on the bank for calculating interest efficiently, it is important to understand the calculation to have a complete grip over your deposits. There are many online calculators that can help you find the interest on your Savings or Fixed Deposit Accounts.