FCNR(B) deposits: The little-known strategy some NRIs can use to boost their returns and risks involved

The Reserve Bank of India (RBI)’s decision to absorb the foreign exchange hedging cost on fresh foreign currency non-resident (bank), or FCNR (B) deposits, has created an opportunity for overseas Indians to earn attractive returns from a fixed-income product. The move announced on 5 June as part of measures to attract dollar inflows and support the rupee allows banks to swap dollars with the RBI at a concessional rate, effectively eliminating a key cost that had previously limited the interest rates they could offer.

Banks moved quickly to pass on the benefit. Within days, several lenders hiked rates on FCNR (B) deposits. HDFC Bank, ICICI Bank, Axis Bank and Bank of Baroda are now offering a peak rate of 6% on deposits with maturities of three to five years, with some banks raising rates by more than 300 basis points. The special scheme is open till 30 September 2026.

How the FCNR(B) opportunity works

When banks receive FCNR(B) deposits in US dollars, they convert those funds into rupees and lend them to domestic borrowers at a higher interest rate. The spread between the lending rate and the deposit rate helps generate profits.

However, this model exposes banks to currency risk because the rupee could depreciate before the deposit matures, increasing the cost of repaying depositors in dollars. Banks protect against this risk by hedging the currency mismatch.

By absorbing this hedging cost, the RBI has effectively removed a major expense for banks, allowing them to offer significantly higher returns on FCNR(B) deposits than before. This has opened up new possibilities for NRIs seeking to boost their returns on their dollar-denominated savings.

What is leveraging, and how can NRIs use it to their advantage?

Much of the excitement around this scheme, similar to the RBI’s 2013 FCNR (B) window, is driven by the possibility of using leverage to boost returns. In simple terms, leverage means borrowing money from a foreign bank and then using those funds to make additional FCNR(B) deposits.

Under this strategy, an NRI opens an FCNR(B) deposit and then takes a loan against it, often at a secured overnight financing rate (SOFR-linked). The borrowed money is reinvested into another deposit, allowing the investor to earn interest on a larger amount than their original investment.

The RBI has permitted banks to offer Standby Letters of Credit (SBLC) to support these leveraged FCNR(B) placements, making it easier for overseas lenders to receive credit against these deposits.

Banks offer loans against FCNR deposits, typically up to 85% of the deposit value, according to Harendra Zatakia, a Sebi-registered investment advisor and the founder of Wealth Aligned Financial Advisory. For instance, an investor who places $100,000 in an FCNR(B) deposit may be able to borrow up to $85,000 and reinvest that amount into another deposit. Instead of earning interest on $100,000 alone, the investor earns it on $185,000, while paying interest on the borrowed amount.

Assume an investor earns 6.5% on an FCNR deposit and borrows at 5%. The profit comes from the spread between what is earned and what is paid. If you invest more money using the leverage strategy, the returns will also increase because FNCR deposits offer fixed interest. “Leverage magnifies that spread, which can potentially push returns closer to equity-like territory,” Zatakia said.

Meanwhile, Priyank Sharma, a Sebi-certified research analyst, said that leverage can only improve returns if borrowing costs remain lower than the FCNR(B) yield, but it also comes with certain risks that we will discuss later in this article.

Can FNCR deposits give equity-like returns? See calculations

Meanwhile many reports and chatter have been on how this latest provision by the central government can lead to NRIs earning equity-like returns; however, the two experts who spoke to Mint said otherwise.

Let’s take an example of $10,000 deposited by an NRI in a FNCR (B) account at 6% annual interest. Here’s how it will grow in five years:

On top of attractive returns, interest income you earn from an FCNR account is not subject to tax in India. After maturity, you can transfer the amount to any RFC or resident Rupee account without having to pay any tax.

However, interest earned from an FCNR account might be taxable in the country where an NRI resides. This, however, depends on the laws and regulations of the country where a person resides.

“On its own, FCNR (B) is attractive for a fixed-income product, but it remains lower than the long-term return expectations from a diversified equity portfolio,” said Zatakia. In line with his statement, Sharma also noted that this investment product should be viewed as a yield-enhancement strategy rather than an alternative to equity investing.

Risks of using leverage strategy to invest in FCNR deposit

Though borrowing money to invest in a FNCR (B) deposit may sound like a fantastic idea to magnify your returns, it also comes with several risks that may impact your finances later if you overlook them. Here are some risks flagged by the two investment experts:

• The interest rate spread risk: The key risk is that the return from the strategy depends on the spread between the FCNR(B) deposit rate and the borrowing cost. If an investor borrows at a floating rate and funding costs rise over time, that spread can narrow significantly or even turn negative.
• Tax-status risk: FCNR interest enjoys favourable tax treatment while the investor qualifies as an NRI. If the investor returns to India and becomes a resident during the tenure, the tax implications can change materially.
• Liquidity risk: The deposit may be locked for several years, while the loan requires ongoing servicing. What looks attractive on paper can become stressful if income is interrupted or borrowing costs move unexpectedly.

According to Zatakia, before an investor decides to enter this strategy, they should answer three questions:

• Can I service every loan EMI or interest payment entirely from my regular income without depending on the FCNR deposit?
• Do I have a separate liquidity reserve that can comfortably cover at least 12 months of loan obligations?
• Have I considered how my cash flow would be affected if borrowing costs rise or my income temporarily falls?

“If the answer to any of these questions is uncertain, the leverage component deserves a second look. The deposit itself may remain perfectly sound, but the cash-flow strain created by borrowing is often what causes the strategy to fail in practice,” the expert noted.