This article has been contributed by Rohit Agarwal, with inputs from the entire team.
We love too many things. Food, friendship, good wine etc. and most significant of them all, we love automatic stuff. Over the years, mankind has invented several machines (both simple and complex) that have radically rationalized its workflow. Even today, every company and every individual pursues automation as a route to expedite and ease the workflow, with respect to every single aspect of life. Now, you must definitely be wondering “What the heck”. In a blog that is oriented towards educating people on money sense, why am I unraveling the mysteriousness of automation.
However, I believe in the old adage that “nothing happens without a reason”. As such, there is a definite reason behind the considerable limelight that I have shed on automation, in the initial paragraph. Mr. Walter Bagehot (read about him here) has expressed an extremely significant and rudimentary principle about money management in this statement– The less money lying idle, the greater is the dividend.
The most common problem that a lot of salaried class people face is– “How to manage their bank balance”. Money management is very important concept because everyone knows that money earns money. It is a common occurrence that everyone thinks of a money management plan at the starting of the year, but owing to the work pressure or because of inadequate time, they fail to execute these plans in time.
An effective solution?
A regular phenomenon that has been noticed among salaried class people is excessively high balance in their savings account. Most of the time, excessive money is lying in their savings account since we do not have time nor interest, we lose out on earning greater interest on these deposit. One of the advantages with savings account is 100% liquidity and perhaps, this is the primary reason we love it so much. Yet, it is also true that one fails to achieve adequate return on his balance as most of the banks provide close 4% per annum interest on a savings account. Honestly, it requires zero knowledge of money to figure that this is an extremely low level of return (factor in inflation and you might be making negative return). Therefore, it is not advisable to keep high balance in your saving account as it fetches nominal return.
Now, if you prefer liquidity of money as well as better return on money, the best option is to transfer the amount in “Auto Sweep Account”. Auto Sweep is a facility which interlinks your saving bank account with a Fixed Deposit account. Auto Sweep Account gives you interest rate in line with the FD rates.
In an Auto Sweep account, the balance over the limit as fixed by the account holder gets automatically transferred (automation eh?) to fixed deposits and earns a higher rate of interest. Suppose, you have specified that any balance above INR 10,000/- should be transferred to the Auto Sweep account. In this case whenever the account balance crosses INR 10,000/-, the excess over INR 10,000/- will be auto sweep out and transferred to auto sweep account.
In the reverse case, assume that your balance is INR 8,000/- and you have made a withdrawal of INR 15,000/- and minimum balance of your saving account is INR 5,000/-. In this case an amount of INR 12,000/- (15000-8000+5000=12000) will be automatically sweep in from the auto sweep account to savings account. The account holder need not put in any effort as the fund will automatically sweep in to your saving account to meet the deficiencies.
Let us take a simple illustration
Mr. X has opening balance of INR 10,000/- as on 01.04.2014, in his savings account. On 30th April INR 100,000 is credited in his account. On 31st May he withdraws INR 50,000/-.
Now, we will calculate interest for the period 01.04.2014 to 30.06.2014 under these situations:
Interest rate at Saving Account – 4% p.a. (Normal Saving Account Interest rate)
Auto Sweep Account – 8% p.a. (Normal FD Rate)
Interest earned in Saving Account
Quarterly Average Balance = [(10,000*30)+(11,0000*31)+(60,000*30)]/91 days = INR 60,550/-
(Note that most banks generally pays interest on the quarterly average balance method)
Total Interest = INR 60,550*3/12*4% = INR 605/-
Interest earned on Savings Account
Quarterly Average Balance – INR 10,000/- (As balance above INR 10,000/- gets transferred to sweep account)
(Since the balance does not exceed INR 10,000/- in savings account therefore, we have skipped the actual formula of calculating quarterly average balance)
Savings Account Interest – INR 10,000*4%*3/12 = INR 100
Interest earned on Sweep Account-
April – Nil
May – INR 1,00,000/-
June – INR 50,000/-
Average Balance – Rs. 50,000/-
Interest = 50,000*8%*3/12 = INR 1,000/-
Total Interest – INR 1,100/- (1000+100)
From the above illustration, it is apparent that availing the Auto sweep facility fetches you more return with same liquidity.
There is no telling that this article is illustrative and therefore, the numbers indicated in the article might not hold true in every situation. However, the intent is to explain the benefit of an Auto Sweep account type. Though banks normally use different nomenclature for this type of accounts, the features are almost similar. Some of the banks that offers the Auto Sweep facility are HDFC bank, Axis bank, ICICI bank, Bank of Baroda etc. So, what are you waiting for!
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