Deposit Interest Rate: Definition, Fixed Vs. Variable

What Is a Deposit Interest Rate?

The deposit interest rate is paid by financial institutions to deposit account holders. Deposit accounts include certificates of deposit (CD), savings accounts, and self-directed deposit retirement accounts.

It is similar to a "depo rate," which can refer to interest paid on the interbank market.

Understanding Deposit Interest Rates

Deposit accounts are attractive places to park cash for investors who want a safe vehicle for preserving their capital, earning a small amount of fixed interest, and taking advantage of insurance such as FDIC and NCUA insurance. Most investments portfolios reserve a small allocation of the money invested to deposit accounts as, in majority, they provide the benefit of liquidity and capital preservation.

Ways Deposit Interest Rates Are Applied by Institutions

Financial institutions typically offer better rates for accounts holding larger balances. This is used as an incentive to attract high-value clients with considerable assets. By virtue of attaining a higher interest rate, naturally the greater the sum that is deposited, the larger the return over time. While this may still be seen as a slower growth approach to generating returns, such accounts can offer more stability compared with more volatile, high-risk financial products.

The fixed interest rates guaranteed with certain deposit accounts tend to be smaller compared with the more variable returns of other financial vehicles. The tradeoff is that the account holder is assured of gradual gains to their deposit versus the potential for sudden profits or even loses at even higher scales. For instance, a certificate of deposit with a fixed rate is assured to furnish the stated return when the account reaches maturity. There are also CD accounts that offer variable rates, but these are still typically no-risk products.

In the instances of certain self-directed retirement accounts, the various types of investments being made can include real estate, mutual funds, stocks, bonds, and notes.

Banks, credit unions, and other financial institutions tend to offer competitive interest rates for these deposits in order to better attract customers. Depending on the product, premium deposit interest rates may only be available under certain terms such as balance minimums, and possibly maximums. Certain accounts also require a set length of time—six months, one year, or multiple years—that the money must remain deposited and cannot be accessed by the account holder. If the deposit is accessed early, there may be penalties and fees incurred, including the potential loss of the agreed-upon interest rate if the balance remaining in the account falls below the minimums.

Financial institutions encourage long-term deposits not only for the client’s benefit from the extended interest that is garnered, but because it offers more liquidity to the institution. By having more cash on deposit, an institution can make more lending transactions, such as loans and credit cards, available to its customers.