Taxability of Interest income on Fixed Deposit

Taxpayers invest their excess funds/savings in banks as term deposits, popularly known as Fixed Deposits. In return, banks pay them interest. This interest is taxable as ‘Income from other sources' and hence taxpayer needs to consider the interest received from fixed or recurring deposits while filing his Income-tax return.

How should I tax my fixed or recurring deposit interest?

Income-tax Act, 1961 has provided two methods viz. accrual method and cash method for accounting of interest received on FDRs. Taxpayers can go for any of these methods but once any method is chosen, it should be used consistently.

What is the accrual method of accounting?

In the case of an accrual method of accounting, incomes are recorded in the books of accounts on an outstanding basis even if the taxpayer has not actually realized the interest in his account.

E.g. – Mr. Vikas made a 5 year FDR of Rs. 1,00,000/- with Bank of Baroda on 1stDecember, 2020. FDR is having a rate of interest of 8.5% p.a. Such interest is credited half-yearly on 30th June and 31st December every year. How is interest taxed as per accrual basis?

Ans.:- If Mr Vikas is following the accrual system of accounting for taxation of FDR interest, then he is required to disclose such outstanding interest in his Income-tax return even if interest is not actually received by him in his bank account.

In this case, interest accrued up to 31st March 2021 of Rs. 2,833/- (Rs. 1,00,000* 8.5%* 4 months / 12months) shall be taxed as income from other sources at the time of filing of return for F.Y. 2020-21.

What is the cash method of accounting?

In the case of the cash method of accounting, incomes are recorded in the books on a receipt basis that is taxpayer will record the income only if he actually receives such income in cash.

E.g. – Mr. Vikas made a 5 year FDR of Rs. 1,00,000/- with Bank of Baroda on 1stDecember, 2020. FDR is having a rate of interest of 8.5% p.a. Such interest is credited half-yearly on 30th June and 31St December every year. How the interest is taxed on per cash basis?

Ans.:- If Mr Vikas is following the cash system of accounting for taxation of FDR interest, then he is required to disclose such interest in his Income-tax return only if interest is actually received by him in his bank account.

In this case, Mr Vikas has not received any interest up to 31st March 2021 hence he will not disclose interest from FDR in his Income-tax return for F.Y. 2020-21.

What should be my method of accounting?

Taxpayers can opt for any method of accounting for interest from FDR. But taxpayers should keep in mind that any method once selected shall be used for the long term and consistently.

Am I permissible to change my method of accounting once adopted?

If a taxpayer wants to change the method of accounting for FDR interest, then he can change. However, such a result should not lead to the concealment of any part of the interest in his Income-tax return. Also, the new method should be used consistently.