Inflation, tax eroding your fixed deposits

Inflation, tax eroding your fixed deposits

    Holders of fixed deposits have been earning a negative return in real terms for most of the preceding five years, thanks to inflation outstripping interest rates. To make matters worse, depositors continue to be taxed on this nominal income.
    Although bank fixed deposits have never been tax friendly, the level of compliance has been sketchy. But compliance is slowly getting stricter. In the past, RBI norms required banks to take into account deposits in one branch for the purpose of tax deduction at source—a rule which allowed depositors to break up FDs across branches to avoid TDS. Also, several private banks allowed customers to break up FDs and route them into multiple branches to avoid TDS. But after recent sting operations, banks are getting tough and taking into account interest income from all branches for the purpose of TDS.
    A study conducted by Ashish Das, professor, IIT Mumbai’s department of mathematics, shows that for most of the five years since 2008-09 real returns on bank fixed deposits have been negative. ‘Tax on interest from fixed deposits unfair’
Mumbai: Fixed deposit holders having been earning negative returns thanks to runaway inflation and tax on interests. The lowest real return was -5.4% in 2009-10 when consumer price index for industrial workers CPI-IW rose by 12.4% and the weighted average deposit rate on term deposits was 6.97%. The weighted average return takes into account the average cost of deposits for banks after factoring in the extent in each maturity basket. Although bankers offer the highest return on deposits of 3-years and above, bulk of bank deposits are around the one-year category.
    RBI’s weighted average deposit rates are available only up to March 2011. However, given that long-term deposit rates have not crossed 10% and that most deposits are in the one-year basket, it can be safely assumed that the weighted average deposit rates are not above 8.5% for the last two years. The highest real return in recent years has been 2011-12 when the return after being adjusted for inflation stood at 0.2%. In 2001-02, bank FDs had recorded a real return of 5.3% given that CPI rose by only 4.3% even as bank deposits yielded over 9.6%.
    According to Das, the tax on interest income on fixed deposits is unfair to investors. “the rationality of taxation on nominal interest incomes is one major point in itself which the government / banks, RBI, depositors should ponder on. Currently, Tax exemption on interest earnings up to Rs 10,000 applies only for SB deposits” said Das. While banks deduct only 10% tax on fixed deposits with interest above Rs10000, the depositor is bound to pay tax according to his bracket and may have to top up this TDS with separate payment to the government.
    He says that there is a need to arrive at the scale of actual income after allowing for indexation. “For individuals, though the taxation is on the nominal salary income, there is a compensation individuals receive for inflation through dearness allowance or wage indexation based on \consumer price index (CPI) inflation. Also for working out the actual income in case of long-term capital gains, there are adjust ments through a cost inflation index provided by the central board of direct taxes” he said.