Demand Deposits Meaning
As the name clearly suggests a “demand deposit” is on-demand which allows any person dealing with a bank or financial institution to withdraw funds without giving any prior notice. Demand deposits generally do not pay any interest or a notional amount of interest due to the shorter lock-in period as compared to a time deposit which is made for a specific lock-in period and pays a fixed amount of higher interest.
Demand deposits are of 3 broad types as explained below, which vary basis the product features.
Top 3 Types of Demand Deposits
The following are the various types of demand deposits.
#1 – Checking Accounts
Checking accounts are the most common and easy to use Demand Deposit product. It allows easy access to cash by withdrawing it anytime from ATMs, Bank’s Teller, Debit Cards and by writing checks provided by the bank. Also, checking accounts do not pay any interest in most of the banks due to their pure on-demand nature.
Checking accounts helps in improving the short-term liquidity for small business by providing easy access to cash when needed due to working capital requirements.
#2 – Savings/Term Deposit Accounts
Savings/Term Deposit accounts are for a longer time duration as compared to a checking account. They offer lesser liquidity and more interest rates as compared to a checking account. The drawback is that they do not offer any check writing facility but a user can withdraw funds through Bank’s Teller and through online banking. Sometimes early withdrawal leads to some additional charges by many banks but there is no charge to maintain these accounts.
There are also sweep-in and sweep-out facility in this product where you can easily transfer money from one deposit product to another as per your standing instructions to the bank. For example, Banks such as Barclay’s issues term deposits to corporate customers which are known as Wholesale term deposits and when issued to retail customers known as Retail Deposits.
#3 – Money Market Accounts
Money market accounts are another type of demand deposit which are purely based upon market interest rates based upon macro variable factors as determined by the central bank of a country, as the interest rates fluctuate on a daily basis it becomes very unpredictable as sometimes it offers more interest than savings accounts and sometimes lesser. It also offers more or less the same other features as we discussed above for savings accounts. Banks generally do not charge any fee for maintaining this facility by its customers.
Example of Demand Deposit
John has a balance of £100,000 in his savings bank account as on August 1st. On August 15th, he receives £200,000 being the proceeds of the Term Insurance policy amount matured. On 25th August, he withdraws a sum of £200,000 for the renovation of his house, thereby reducing his Savings Bank account balance to £100,000.
Assume that interest is calculated at 4% p.a. on his savings account on a daily product method, he will get interested:
- From August 1st to 14th, he will be paid interest on £100,000 for 14 days.
- From 15th to 25th, interest is calculated on £300,000 for 10 days.
- For the remaining six days, interest is calculated on £50,000
- So, the interest he earns for the month of August will be £581 (rounded).
So, every rupee one keeps in Savings Bank account earns interest, as it is calculated on daily product method. For February, the number of days will be either 28 or 29 days.
Advantages of Demand Deposits
- Ease of access: Demand Deposits such as checking accounts always provide quick and easy access to the bank’s customer through various means such as ATMs, Online Banking, Bank Teller, Check writing, etc.
- Liquidity: As the name suggests, you can ‘demand’ money for withdrawal any time you want, so you have liquidity of funds for any type of personal and business needs.
- No Extra Fees: Withdrawal from a demand deposit account does not have any withdrawal charges.
Disadvantages of Demand Deposits
- High Fee and Lower Interest: They always pay a lower amount of interest than time deposits. Also, the fee charged by banks to maintain these facilities due to their less liquid nature is always on a higher side when compared to term deposit facilities.
- Low Capital Appreciation: Interest on demand deposits is sometimes lower than risk-free investments such as “treasury bonds” which leads to low capital appreciation when compared to the market inflation rates. There are many other investment opportunities available in the market which once explored offers a high rate of returns than demand deposits.
Demand Deposits on Financial Statements
As per IFRS9 Disclosure requirements, Demand Deposits are shown as amortized cost deposits and are categorized as current account and overnight deposits in ABC Bank’s balance sheet. Interest income on Demand Deposits is shown as Net Interest Income in the Profit & Loss statement for the period of a Banking Institution. This Net Interest Income is Gross Interest Income on Loans and Advances net of Interest expense on Demand Deposits and other deposits taken by the bank from the customers.
It also requires industrial sectorial bifurcation, geographical distribution and product classification in ABC bank’s disclosure notes. Resident and Non-resident distribution of deposits are also mandated in yearly disclosures.
- Although steadily declining in importance on the commercial banking system’s balance sheet, demand deposits nonetheless remain an important source of funds. In fact, privately owned demand deposits in the 1990s equaled over 30 percent of total deposits.
- The two most important suppliers of demand deposits to commercial banks are households and non-financial businesses. Households owned 35 percent of total private demand balances, while non-financial businesses owned 50 percent in the United States of America.
- Demand deposits offer high liquidity than any other deposit products offer. It’s a readily available source of cash for individuals and business. Though the rate of return is lower, it offers a risk-free return.
- Also fee to maintain and operate these deposits is much lower when compared to other exotic investment products available in the market.
This has been a guide to what is Demand Deposit and its meaning. Here we discuss the types of demand deposit along with an example, advantages, and disadvantages. You can learn more from the following articles –