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How is interest rate on savings account calculated?

The interest rate on a savings account is calculated on a daily basis and is paid on a quarterly basis.

Savings account is one of the basic financial needs in today’s world. Savings account like recurring account and fixed deposit also gives a fixed rate of interest. However, the interest rate on savings account is lesser than the interest earned on recurring account and fixed deposits. Currently, banks provide interest rate ranging from 3.25% to 7% on their savings account.

Interest rate on savings account was previously regulated by the Reserve Bank of India(RBI) till 2011. Post that, banks could fix the interest rates of their savings account. In order to gain customers, banks started offering attractive interest rates.

Read: Top Banks that offer High Interest on Savings Accounts

Before April 2010, the interest was calculated on the lowest amount that was available with the bank account between the 10th to the last business day of the month. Currently, the interest rate on the savings bank account is calculated on a daily balance. Banks have their own schedule of paying interest, which may be monthly, quarterly and half yearly.

Typically, finding the interest earned on a savings bank account is not like the other bank deposits such as recurring deposits and fixed deposits.

While in the case of RD and FD, you can know the interest that will be paid to you. However, it is not the same with a savings account. It is because the balance on which your interest will be calculated keeps on changing regularly.  

Typically, banks pay interest on a quarterly basis. Also, unlike RD and FD, where compound interest is taken into account, banks pay simple interest on the saving account.  

Let’s us take an example and show how interest rate is calculated on savings account:

Let us assume that on 1st August, Rs 50,000 was credited to your bank account. On 7th August, Rs.10,000 was debited from your account. In this scenario, you had Rs. 50,000 for 6 days at 6% per annum. The formula to calculate the interest is as below:

Interest = Principal or amount in the account * Number of days * Daily Interest Rate

If the interest rate of the bank account is 6%, then the daily interest rate will be 0.016%(6%/365)

So, taking the daily interest rate into account, the interest received for the 6 days will come out to be Rs.49.31.

Interest = (50,000*6*6)/(100*365) =  49.31

In the second scenario, you had Rs.40,000 in your account. Let us suppose that you had maintained that balance till the end of the month. In this scenario, the interest rate will be calculated for 25 days. Hence, the interest received when Rs. 40,000 was maintained for 25 days at 6% per annum is Rs.164.38. Overall, the total interest earned in a month is Rs. 213.70

How is interest from savings account taxed?

Interest from savings account should be declared in your tax return under income from other sources category. Unlike FD and RD, where banks deduct TDS (Tax Deducted at Source), TDS is not applicable on savings account. From FY 2019-20, tax is applicable if the interest earned in a financial year is more than Rs.40,000.

So, how important is the interest rate on savings account?

As mentioned earlier, the interest rates given by the various banks differ from each other. Few banks provide interest rate of 3.25%, while few of the banks give 7% rate of interest. This means that by choosing savings bank account that offers high interest like Kotak Mahindra Bank, you can get higher interest rates. However, to gain the benefit of higher interest rate, you need to make sure that you have a substantial amount in your account.

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