Where to invest – fixed deposit or life insurance? Even before we attempt to answer this question, are you amazed by this question? In your mind, aren’t these two different investment avenues? Is there any overlap between the purpose of these two?
If you feel confused and believe these are two uncorrelated concepts, feel good about yourself. You can already say with pride that the fundamentals of investing are clear.
A fixed deposit is an investment tool, while life insurance is to cover the risk. These are two different concepts, and each of them serves specific purposes. Above all, there is no need to mix the two.
However, if it was so clear, there was no need to elaborate any further. Unfortunately, that is not true, and investors often mix the two. Investors often construe life insurance as an investment option, probably because some products available in the market create overlap. Therefore, here we will explain how these two are different products. The decision to invest in either of the two is mostly unrelated. We will describe the benefits of both options and compare the two to highlight the differences. Above all, both fixed deposits and life insurance serve different needs, and that is the premise.
Fixed deposits (FDs)
Fixed deposits are an investment vehicle, usually offered by banks, NBFCs and many other authorized institutions. Investors put in money for a fixed duration and earn interest over the principal value. The interest earned can be paid to the investor or be reinvested.
Typically, the deposits would mature at the end of the duration. In other words, the investors can withdraw the amount at this moment and repurpose the proceeds. Alternatively, investors can reinitiate the fixed deposit at the prevailing interest rates for another fixed duration.
Pre-mature withdrawal of money from a fixed deposit is usually simple. An intimation to the bank (or the institution) is considered good enough. The interest rate on pre-mature deposits is lower than the initially promised interest rate for the entire duration.
Benefits of fixed deposits:
- Enables investors to save money for a fixed term, usually for a duration of 7 days to 10 years
- FDs earns higher interest rates than the money left in the savings bank account
- Unless withdrawn pre-mature, FDs offer a fixed risk-free rate of return
- Provides flexibility to withdraw money before maturity; however, this may result in a loss of interest
- Investors have an option to remove the interest or reinvest the same and gain compounding benefits
- There exists no limit on the total number of FDs an investor can create
- Several financial institutions offer loans against fixed deposits, and this facility can help you meet any urgent financial requirements
Fixed deposits are pretty simple but are a prevalent method of investment.
Life Insurance (LI)
Life insurance, as the name suggests, is an insurance product. Several insurance companies offer life insurance, and an investor can buy life insurance by paying a premium.
The insurance company pays the sum assured to the nominee in the event of the insured person’s death. Life insurance is renewable, and one must pay a premium at the agreed frequency. Investors can subscribe to life insurance for any desired tenure.
Investors buy a term insurance policy to serve various purposes, primarily the family’s financial security. For example, suppose the family incurred a significant amount of medical expenses. Then, receipt from the life insurance company upon the policyholder’s death can settle the medical invoices, mitigating the financial burden on the family. Alternatively, the insurance receipts can act as a fund to meet the education costs of children. Similarly, insurance receipts can meet other significant expenses, like marriage costs, etc.
Benefits of life insurance:
- The life insurance premium is deductible from the taxable income under sections 80C and 80D of the Income Tax Act
- Receipt from life insurance helps lend financial security to family members in case anything happens to the policyholder
- Investors have the flexibility to choose from several life insurance products like whole life policy, term insurance policy, senior citizen plan, etc.
- Life insurance acts as a tool to mitigate risks of not being able to pay liabilities like house mortgage, business loans
Two major categories of life insurance
- Money-back plans provide regular income along with the death coverage benefit
- Endowment plans provide a lump sum benefit at the time of maturity. Some of the traditional endowment plans guaranteed returns along with a bonus
Above all, providing recurring income and money-back in some traditional plans is the primary reason for comparing LI and FD. Otherwise, these two serve different purposes, as elucidated earlier as well.
Fixed deposit vs Life insurance
The DNA of these two products is different, and hence there are many fundamental differences between the two. Nevertheless, we have attempted to summarize the same across essential parameters:
|Sl. No.||Fixed Deposit (FD)||Life Insurance (LI)|
|1.||FD is an investment option – the intention is to grow money and save for the future needs||LI is an insurance product – the intention is to cover the risk and financially secure your family in the absence of the policyholder|
|2.||Usually, the intention is to invest for short to medium term||Typically, life insurance is for a long time (20-30-50 years)|
|3.||Investors can open a fixed deposit account with a minimum investment. For instance, Rs 1,000||The annual insurance premium differs person by person. The premium amount depends on the age at entry, existing diseases, riders opted for, etc.|
|4.||FDs earn fixed returns in the form of interest on the principal amount||There is no recurring return. The nominated person of the policyholder gets the benefit upon the occurrence of the event (i.e. death).
In the case of ULIP (unit-linked life insurance plan), the amount gets invested in the stock market. Here, the value of the investment fluctuates with the changes in the market.
|5.||Creating FDs (or recurring deposits) lead to a savings culture and drives financial disciple||One purchases life insurance out of care for family members|
|6.||Generally, there is no lock-in period, except for tax-saving options||A policyholder can cease to pay the premium at any time, and there is no lock-in. However, non-payment of premium will lead to policy lapse|
|7.||The investment is not tax-exempt, with the exceptions of long-term FDs, which are tax-deductible||Premium paid for life insurance is deductible from taxable income|
|8.||Loan against fixed deposit is available||Not possible|
The bottom line
In conclusion, fixed deposits are an investment option and inculcate a habit of savings. Moreover, it is a short to medium-term investment avenue, where one can begin with a small amount.
As the name suggests, life insurance is a product designed to mitigate risk. However, some products do provide life insurance as well as investment benefits.
Investors must choose the right option depending on the value each one brings to their investment journey. In other words, the investment objectives should drive investment decisions.
Further, keep in mind that there are better investment options than fixed deposits that are safe, if not safer. It is essential to evaluate options, especially in the current low-interest-rate regime. Do evaluate all the possible choices before making a decision. Do not hesitate to consult your financial advisor in case of any difficulty.
About the author
The author is a senior finance professional with over fifteen years of work experience in corporate finance. He has an affinity for matters relating to personal finance and investment management. Through his writing, the author wants to share his knowledge and understanding of the subject.
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