You can open different types of accounts in banks in India, such as current accounts, savings accounts, salary accounts, and fixed deposit accounts. The account you open depends on your purpose, how frequently you do transactions, etc.
Savings Account is one of the most widely used banking services. The account holder deposits money in his savings account, which can be withdrawn whenever required. So, money is safely stored in the account, plus you earn interest on the funds deposited. The interest earned is an additional income and an excellent motivation to deposit as much money as possible in the savings account to earn higher interest returns.
The bank decides the interest rate (under guidelines by the RBI), and the interest depends on the amount of money deposited into your account. To calculate interest on savings accounts, the bank uses the compound interest method, i.e., the interest earned in one period becomes part of the amount that will gain interest in the next period. The bank calculates interest on savings accounts daily based on your account's closing balance, but the interest is paid/credited to your account quarterly or half-yearly by the bank.
How to Calculate Interest on Savings Account?
If you wonder how banks calculate interest on savings accounts in India, they use the compound interest method. So, the interest you earn from your savings account also earns interest if it remains in the bank account for the next period.
The formula to calculate savings account interest:
Interest = Closing balance x Rate of interest x (No. of days / 365)
Knowing how the interest is calculated on your savings account makes financial planning more effective. You can plan how much money to deposit in an account and maintain a minimum balance to earn a specific fixed interest. This interest is an additional income and can have many uses if planned efficiently. You can plan an entire vacation or budget for recurring expenses based on the interest you earn from the savings account. So, understanding how banks calculate interest on savings accounts is important for your financial knowledge and planning. It will make you more aware, confident, and clear with your financial planning.
But you do not need to worry about math and calculations, as all the calculations are done automatically on the computer, so the margin of error is almost zero.
Example How Savings Account Interest is Calculated
Let us understand how to calculate interest on savings accounts with the help of an example. Rohit has a savings account with a bank paying him 3% interest on his deposited funds. Below is a part of Rohit's monthly bank account statement:
| Date | Opening Balance | Deposit | Withdrawal | Closing Balance |
|---|---|---|---|---|
| 01/09/2023 | 2,50,000 | — | 10,000 | 2,40,000 |
| 07/09/2023 | 2,40,000 | — | 5,000 | 2,35,000 |
| 14/09/2023 | 2,35,000 | 30,000 | — | 2,65,000 |
| 30/09/2023 | 2,65,000 | — | — | 2,65,000 |
Always remember that today's closing balance becomes tomorrow's opening balance. Banks calculate interest rates based on the closing balance each day. The closing balance fluctuates depending on deposits and withdrawals, as seen in the above table.
So, throughout the month, depending on Rohit's activities, the closing balance of his savings account will keep changing. As per Rohit's bank statement, the bank will calculate interest on his savings account in the following way:
| Days | Closing Amount | Interest Calculation | Amount |
|---|---|---|---|
| 01/09 to 06/09 | 2,40,000 | (2,40,000) * (3/100) * (7/365) | 144 |
| 07/09 to 13/09 | 2,35,000 | (2,35,000) * (3/100) * (7/365) | 141 |
| 14/09 to 30/09 | 2,65,000 | (2,65,000) * (3/100) * (17/365) | 370.27 |
| TOTAL | 655.27 | ||
(For convenience, 7/365 has been rounded off to 0.02)
Thus, the total interest Rohit earns over this month = Rs.144 + Rs.141 + Rs.370.27 = 655.27 Remember that even though banks calculate interest on savings accounts based on the daily closing balances, the interest is deposited into your accounts quarterly or yearly.
How to Earn More Interest on Savings Account
All of us want to earn as much interest as possible. The way to do this is to understand factors that affect the interest rate on savings accounts and how to use them to earn maximum returns effectively. Some of the ways of earning more interest on a savings account are:
- Use Automatic Transfers: By automatically transferring funds from your salary or current accounts to your savings account, you increase the balance of your savings account.
- Deposit Money Regularly: Be consistent in depositing money in your savings account so that, eventually, your deposit amount will increase, and so will the interest earned. Even small amounts deposited regularly make a big difference.
- Do not Make Unnecessary Withdrawals:If you withdraw money frequently, your daily balance will be reduced, and you will earn less interest. Withdraw only when you need to.
Financial knowledge is power when it comes to generating more income and wealth. So, knowing how banks calculate interest on savings accounts makes you more aware and helps you make better financial plans, earn more from your hard-earned income, and make well-informed decisions about your finances and investments.
