Term deposit guide
Better than savings accounts? A little.
Don't get rolled into a lower rate
So you've got a wad of money burning a hole in your pocket? You could blow it all on a hovercraft or a tonne of shoes and handbags - or you could watch it grow in a term deposit.
It's up to you, but if you decide on the term deposit option, we can give you some pointers on finding a good one. That way when your money matures you'll be able to buy even more shoes, handbags and hovercrafts!
What is a term deposit?
Term deposits fix your savings for periods of up to five years in 30-day increments, and interest is generally payable at the maturity of the term.
Funds are not available whenever you want, but term deposits can be broken at any time by paying a break fee — unless you end up in a so-called unbreakable term deposit and are required to give 31 days notice (more below).
Term deposits vs online savings
Term deposits have historically offered higher interest rates than traditional savings accounts, particularly over longer terms, but that has changed somewhat over the past few years with the emergence of online saver accounts offering bonus rates for a fixed period.
At the same time, term deposit interest rates have fallen. Terms deposit rates are still generally better than savings accounts, by not by as much as they used to be.
Most funds in term deposit accounts are held by people in their mid-30s or older. Younger consumers tend to choose online accounts for their convenience and immediate access to their money.
Online accounts also usually pay interest monthly instead of at the maturity of the term, which means higher returns from compounding interest.
When we looked in March 2017 the best standard savings account rate was 2.40% and the best bonus rate (which comes with time restrictions and/or conditions) was 3.05%.
By contrast, the best six-month rate for term deposits was 2.80%, while the best one-year rate was 3.00%.
So what's good about term deposits?
The key feature is certainty: rates are fixed for the term. So, even if the Reserve Bank of Australia changes its rate, your return remains the same.
And what's bad?
With a term deposit, your money is locked away for a fixed length of time, and early withdrawals are usually penalised with a break fee.
Many banks have now introduced so-called unbreakable term deposits, which require a minimum of 31 days notice to access your money.
If you take out a term deposit, you may not be aware of the 31-day rule unless you read the PDS and could be in for a rude shock if you need access to your money on short notice.
The big four banks — CBA, ANZ, NAB and Westpac — all now require 31 days notice to access a term deposit prematurely, but none of them prominently disclose this fact along with other term deposit information. You have to comb through their respective PDSs to discover this critical detail.
If you withdraw the deposit early, the financial penalty could be greater than the interest paid, meaning you'll get back less than your original deposit.
Of course, if you're saving for a goal such as a house deposit, car or hovercraft, it might be a good idea not to be able to touch your money for a while.
What you need to know
- Terms can last from three months to several years.
- Interest is fixed and may be paid and credited to your account monthly, quarterly, semi-annually or on maturity.
- Your return is affected by how frequently interest is paid and whether it's compounded (interest paid on your interest!). Check the effective (compound) annual rates.
- Rates vary depending on the amount of your deposit, the institution and the term — shop around.
Term deposit tips
- Rates change. Keep track of the term – the rate you sign up for may be attractive, but if you allow the deposit to roll over or be automatically reinvested when the fixed term expires, it may change to a much lower rate.
- Shop around. The interest rate differences are really significant, so look for specials. Financial institutions sometimes decide to promote a specific term – for example, six months — for their best rates. Watch for 'blackboard specials' outside branches, too.
- Read the product disclosure statement (PDS) for full details of the investment.
- Only invest with an Authorised Deposit-taking Institution (ADI). Banks, building societies and credit unions are regulated by the Australian Prudential and Regulatory Authority (APRA). Such institutions are covered by the Australian Government Deposit Guarantee Scheme, introduced during the GFC, which covers each bank customer up to $250,000 per institution. Only ADIs can offer deposit accounts. A list of ADIs is on the APRA website.
- A shorter term might be best for you if you think interest rates will rise again soon.
Don't forget about your money
Once you're locked into your term deposit, it doesn't mean the interest rate will always stay the same. When the honeymoon rate for term deposits is over, many customers find themselves in low interest-bearing accounts.
Research has shown that most institutions operate a 'dual pricing system' and automatically roll over maturing term deposits into a new deposit for the same term at the prevailing interest rate, unless otherwise instructed by the depositor.
So unless the investor intervened, their money would likely be rolled from a high interest to a low interest-bearing account and remain locked in at that low interest point for the new term.
In an earlier ASIC investigation, this happened more than eight times out of ten with the institutions it investigated.
Following its earlier investigation, ASIC recommended the following changes, which some banks have implemented:
- Disclose the interest rate to be paid on rollover
- Provide interest rate schedules in rollover letters
- Disclose the risk of dual pricing in Terms and Conditions and rollover letters.
As a result, ASIC says investors have saved billions of dollars because their money has rolled into high instead of low interest rate deposits.