How are term deposit interest rates calculated and how can you find the best rate? Read on to find out.
The interest rate is one of the most important features to look at when choosing a term deposit account. With a fixed interest rate providing safe, guaranteed returns, the higher the interest rate you find, the better your returns will be.
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There are several factors that influence the interest rate your bank offers you, including the term you select as well as broader economic considerations. Let’s take a closer look at what those factors are and how they can influence your interest-earning power.
The official cash rate from the Reserve Bank of Australia (RBA)
The RBA’s official cash rate is one of the key factors banks consider when setting their term deposit interest rates. When the RBA lowers or increases the official cash rate, you can usually expect the banks to pass these changes on to the new term deposit rates offered to customers. So while interest rate cuts can be welcome news for home loan borrowers, they can have a detrimental impact on the savings power of your term deposit account.
The term you select
Peruse the term deposit interest rates on offer from any bank and you’ll soon notice that the longer the term chosen, the higher the interest rate tends to be. This is because banks want you to invest your money for a longer period of time, allowing them to satisfy capital liquidity regulations and secure funding for an extended term.
The amount you deposit
Most banks will also offer higher interest rates for larger investment amounts. For example, while a 12-month term deposit of less than $10,000 may earn 2.50% interest, a 12-month deposit of $10,000 or above could attract a higher interest rate of 2.65%.
Again, banks offer these higher rates because they want you to invest larger amounts of money. The more money you deposit, the more funding your bank has access to when it wants to offer loans to customers.
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When interest is paid
Depending on the term you select, you may have the option of choosing how often the interest earned on your term deposit account is paid. You may choose to receive interest monthly, quarterly, yearly, half-yearly or at maturity. However, the interest rate may differ according to the payment frequency you select.
The more frequently you receive interest payments, the greater the interest-earning power of your account. With this in mind, banks may vary their interest rates slightly based on the interest payment schedule you select, with slightly lower rates offered to people who want more frequent interest payments.
Our term deposit interest calculator can help you work out how your interest payment frequency will affect how much money your term deposit earns.
Jane wants to invest $10,000 in a term deposit
Jane has $10,000 and has decided she would like to invest in a term deposit, as she doesn't trust herself with a savings account she can always dip into. She has found a term deposit that suits her needs and offers a fixed interest rate of 3.0% p.a, however she is not sure how long she would like to invest her money. The table below shows how much interest Jane will earn on her initial $10,000 investment for a range of terms from one year to five years, with interest compounded annually.
|Initial Deposit||Interest Rate||Term Length||Total Interest earned (compounded annually)||Closing Balance|
Broader economic factors
There are broader economic factors that affect the interest rates the banks offer on term deposits. Banks set term deposit rates based on what they expect to happen to the economy as a whole in the months and years ahead. Competition for market share can also have an impact.
For example, in August 2016 when the RBA lowered the cash rate by 0.25% to 1.50%, The Big Four banks surprised many pundits by raising the interest rates on some key deposits.
Why did the banks make this unexpected move? One theory was that they raised term deposit rates to increase the pressure on some of the smaller financial institutions in the deposit-taking market. Another hypothesis was that raising term deposit rates offered protection for the banks against increased demand for fixed-rate home loans, allowing the banks to balance their books and hedge against future demand.
Other experts also pointed to the move as an effective way of safeguarding the banks against overseas financial turmoil. By shifting some of their reliance on funding from overseas sources to local deposits, the banks could enjoy a measure of protection against unexpected financial difficulties around the world.Back to top
How to find the best term deposit interest rates
Now that you understand how term deposit rates are calculated, how can you find the best interest rate for your investment? Keep the following tips in mind:
- Shop around. This is the most important point to remember. Interest rates vary from one financial institution to the next, so compare the rates on offer from a variety of banks for your chosen term at finder.com.au.
- Compare apples with apples. Remembering that interest rates can be affected by factors such as the term, the investment amount and the interest payment frequency. Make sure that you compare term deposits that offer all the same features. This will ensure that you find the account that truly offers the best rate.
- Look beyond The Big Four. Many people simply stick with their regular bank when choosing a term deposit, but don’t be afraid to consider term deposit options from banks other than CommBank, Westpac, ANZ and NAB. Smaller banks, building societies and credit unions can offer competitive term deposit rates, so remember to include them in your calculations. Thanks to the Australian Government Guarantee, if you open a deposit with an Authorised Deposit-taking Institution, there is no risk of losing your money.
- Choose your term carefully. Although securing your money in a term deposit protects you against falling interest rates, it also means you can’t take advantage of any rate rises that occur. With this in mind, make sure you’re aware of the risks involved in locking your money away in a deposit with a term of several years.
- Split your money. To ensure that you can take advantage of interest rate rises, it may be worth splitting up your money into separate accounts. You could lock some funds away in a term deposit and keep the rest in an account that offers easy and instant access to your funds whenever you need. For example, you could place some of your money in an online savings account instead of putting all of it in a term deposit.