A Fixed Deposit looks like the simplest product a bank offers: hand over a lump sum, get a fixed rate, collect more money later. The rate is the headline number, so it's natural to assume that's the whole story. It isn't. Two FDs quoting the identical annual rate can mature to different amounts, and the reason is how often the bank actually compounds the interest.
The rate on the brochure isn't what you earn
Banks quote FDs as an annual percentage, but most don't compound annually -- they compound quarterly, and some compound monthly. Compounding quarterly means every three months, the interest earned so far gets added to your principal, and the next quarter's interest is calculated on that larger amount. The more frequently that happens, the more your money earns, even though the quoted annual rate never changes.
This is the difference between the nominal rate (the number advertised) and the effective annual rate (what you actually earn once compounding is accounted for). A 7% FD compounded quarterly doesn't grow your money by exactly 7% over a year -- it grows it by slightly more, because interest is earning interest within the year, not just once at the end.
Why this matters more the longer you hold it
Over a single year, the gap between quarterly and annual compounding on a modest deposit is small -- a matter of a fraction of a percent in effective yield. Over a 5-year FD, that compounding-on-compounding effect stacks up across 20 quarters instead of 5 annual periods, and the difference in final maturity value becomes noticeably larger. If you're comparing FDs across banks, the compounding frequency is worth checking alongside the rate, not just the rate alone.
Cumulative vs. payout FDs change the math entirely
There are two common structures. A cumulative FD reinvests the interest automatically and pays out everything -- principal plus all compounded interest -- at maturity. A payout FD sends you the interest on a schedule (monthly, quarterly, or annually) instead of reinvesting it. If you take the payouts, you lose the compounding benefit entirely -- each interest payment is calculated only on the original principal, not on previously earned interest, because that interest already left the account. Picking payout over cumulative is a real tradeoff between needing cash flow now and maximizing the final number.
Tax comes out of the interest, not the principal
Interest earned on an FD is taxable as income in the year it's earned or credited, whether or not you've actually withdrawn it -- this is a common surprise for people holding a cumulative FD who assume tax only applies when the deposit matures. Depending on where you bank, tax may also be deducted at source once your interest crosses a threshold. None of this changes how compounding works, but it does mean the number on the maturity certificate isn't the number you actually keep.
Run the actual numbers
Because the compounding frequency and tenure both affect the final payout in ways that aren't obvious from the rate alone, it's worth calculating the real maturity value before committing funds. The FD Calculator works out the maturity amount and total interest earned for your specific principal, rate, and tenure.