At the same time, fixed deposits (FDs) have been one of the favourite investment avenues for Indian investors, because they are safe and give decent returns.

(Please read “Fixed Deposit (FD) – A favourite for generations” to know more about FDs)

Now, there is good news for all of us – investments made in FDs are allowed for deduction from your income u/s 80C of the Income Tax Act.

But not all FDs are covered under this – the tax saving FDs have some specific characteristics. Most banks offer these FDs separately and different from regular FDs.

So, let's understand these tax efficient FDs better.

Lock-in period

These FDs have a lock-in period of 5 years. This means that once you invest, you can not withdraw the amount for 5 years.

These FDs can not be pledged for any reason for these 5 years. Also, no overdraft facility is available for these tax saver fixed deposits.

No sweep-in facility

The tax saving FD can not be linked to a savings account. They can not have a sweep-in (or auto sweep) facility, where surplus money from a savings account is automatically transferred to an FD account (or is saved as an FD).

(To know more about earning through the auto sweep facility, please read “Auto Sweep Facility: Smart way to make your money work harder”)

Rate of Interest

The rate of interest offered on these FDs is in line with interest rate offered on similar FDs of 5 years maturity.

However, some banks do have slightly different interest rates for these special, tax saving FDs.

Payment of Interest

Like any other fixed deposit, you can choose to receive the interest periodically, or you can cumulate it and receive it at the time of maturity.

If you opt for cumulative interest option, the interest reinvested in the FD is not considered as fresh investment u/s 80C.

(This is unlike the National Savings Certificates, where interest is treated as reinvested for section 80C benefit. Please read “National Savings Certificate (NSC)” for more)

Interest earned and income tax

The interest earned on a tax saving FD is not tax free. It is fully taxable, just like the interest earned on a regular FD.

Who can save tax using these FDs?

Any individual or a Hindu Undivided Family (HUF) can invest in these FDs and save income tax.

These FDs can be held jointly in two names. They can also be held with a minor being a joint holder.

Note: When you go to a bank to open a tax saving FD, please mention it upfront that you want a tax saving FD and not a regular FD – this is because banks offer these tax saver FDs as separate and distinct from regular FDs.

Joint names and income tax

If two people invest in the tax saving FD and become joint holders, the tax benefit as per section 80C would be available only to the first holder.

How much tax can be saved?

The investment made in a tax saving FD is considered for section 80C, and the upper limit of investment as per section 80C is Rs. 1 Lakh.

(To know more, please read “Saving Income Tax – Understanding Section 80C Deductions”)

Thus, the maximum tax saving that you can get is by investing Rs. 1 Lakh in these FDs.

The amount of tax that you save would depend on the income tax slab that you fall in – it could be 10%, 20% or 30% of the amount invested in this FD.

(To know the current income tax slabs, please read “Income Tax (IT) Slabs / Brackets – FY 2008-09 AY 2009-10”)

Who offers these FDs?

Most public and private banks offer these tax saving FDs. Some of the banks are:

• State Bank of India (SBI)
• ICICI Bank
• HDFC Bank
• IDBI Ltd.
• Canara Bank
• Allahabad Bank
• Union Bank of India (UBI)
• Syndicate Bank

Other articles you might be interested in:

• Tata Capital Debenture Issue – A review
• Make donations, save income tax – Section 80G
• Income Tax (IT) Slabs / Brackets – FY 2008-09 AY 2009-10
• Have a disabled dependent? Save income tax using section 80DD
• Income Tax (IT) benefit of an education / study loan – Section 80E
• Should you invest in Sec 54EC LTCG tax saving bonds?
• Close Ended vs Open Ended Mutual Funds (MFs)
• Insure your health, save your income tax
• Income tax treatment of leave travel allowance / concession (LTA / LTC)
• An introduction to Varishta Pension Bima Yojana from LIC
• Banks in India cut lending and deposit rates further
• Best Performing Mutual Funds (MFs) of 2008