Looking to invest in bonds but don’t know how it’s taxed? Here’s a key guide to help you

Like other investment products there is tax applicable on the gains made by investors by investing in bonds. However, the tax liability depends upon which type of bonds an investor has invested in. Read further to know more

Mukesh Vijayvergia, MintGenie Team
Published18 Oct 2022, 09:26 AM IST
How is investment bond income taxed in India?
How is investment bond income taxed in India?

The interest for investing in bonds has grown many folds in India in recent times on account of a good diversification option that bonds provide to investors. Buying of bonds has become much easier these days with multiple platforms. Like other investment products there is tax applicable on the gains made by investors by investing in bonds. However, the tax liability depends upon which type of bonds an investor has invested in.

READ MORE: Bonds, NCDs, and corporate fixed deposits: This is why it is the best time to invest in fixed income products

1. Regular taxable bonds

Gains made by investors through investment under regular taxable bonds are liable for tax. There are two types of gains that investors make while investing in such bonds namely interest and capital gains. Whereas interest is generally paid by the issuing company on regular intervals to investors, capital gains are earned at the time of maturity or when the investors redeem the bonds.

Calculation of tax on interest income

The interest earned by the investors in a financial year is added to the gross total income of the investor for that financial year and tax is then calculated as per the applicable income tax slab. 

For example, if you have invested Rs 10 lakh in a bond with 9% coupon rate which is paid annually and your annual next taxable income is Rs. 10 lakh then tax on your annual interest of Rs 90,000 on bonds will be calculated as under:

Highest Income tax slab on net taxable income: 20%

Tax rate applicable on Rs 90,000 interest income from bonds: 20%

Tax amount on bonds payable by you = Rs 9,000 X 20% = Rs 18,000

Calculation of tax on capital gain

Both Short-Term Capital Gain (STCG) Tax and Long-Term Capital Gain (LTCG) tax are applicable when bonds are sold by the investors. STCG tax of 20% is applicable if bonds are sold within 12 months of purchase and LTCG tax of 10% is applicable if an investor sells the bonds after 12 months from purchase date.

STCG tax calculation

In above case if the you have sold bonds for Rs 11,00,000 after 11 months from the date of purchase then STCG tax would be calculated as under:

  • Amount invested in bonds: Rs 10,00,000
  • Capital appreciation: Rs 11,00,000 – Rs. 10,00,000 = Rs 1,00,000
  • STCG tax payable by you = 20% x Rs 1,00,000 = Rs. 20,000

LTCG tax calculation

In above case if the you have sold bonds for Rs 15,00,000 after 5 years from the date of purchase then LTCG tax would be calculated as under:

  • Amount invested in bonds: Rs 10,00,000
  • Capital appreciation: Rs 15,00,000 – Rs. 10,00,000 = Rs 5,00,000
  • LTCG tax payable by you = 10% x Rs 5,00,000 = Rs. 50,000

Income in the form of capital gain should be mentioned under the “income from other sources” while you file your income tax returns.

Above calculations are applicable for listed bonds. In case of unlisted bonds LTCG is applicable if bonds are sold by investors after 3 years of purchase at 20% rate whereas if bonds are sold before 3 years the gains are considered under STCG and are taxed as per applicable income tax slab.

READ MORE: Investing in bonds? Know the 8 types first before you make a foray

2. Zero coupon bonds

As the name suggests, zero coupon bonds do not offer any interest to the investors but they are offered at a discount to compensate for that and the customer gets the full-face value of the bonds at the time of redemption. Since there is no payment investors are subjected to capital gain tax only.

Appreciation in the bond price during the sale of bonds or redemption on maturity is considered as capital and is taxed accordingly like explained under taxable bonds under point no. 1 above.

Generally, government bodies like NABARD, REC issue zero coupon bonds.

3. Tax-saving bonds

Taxing savings bonds are basically capital gain tax bonds or 54EC bonds which offer tax exemption to investors upon investing long term capital gain received from selling any long-term capital asset like land or building.

Tax exemption is applicable only if the investor invests the sale proceeds of these assets into 54EC bonds within 6 months. Short term capital gain earned by selling property or land are not exempted. Also the limit of investment 54EC bonds is Rs 50 lakh.

REC, PFC, NHAI can issue these bonds.

4. Tax-free bonds

Tax-free bonds are issued by governments and PSUs to raise money for projects which are of national interest like infrastructure and social welfare projects like railways, ports, highways etc. Interest earned by investors by investing in these bonds is tax-free.

However, returns earned by investors on these bonds on maturity or on sale attract LTCG or STCG depending upon the holding period.

It is very important for you to understand the tax applicability on the bonds that you are planning to invest apart from other factors like coupon rate, yield, interest payout frequency and lock-in period. You may also consult with your financial advisor on this aspect before investing in bonds to make the best returns from such an investment.

Mukesh Vijayvergia, Founder of Nishkaera Financial Advisory and Wealth Management Private Limited
 

Everything you wanted to know about the role of bonds in portfolio.
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First Published:18 Oct 2022, 09:26 AM IST
HomeMoneyPersonal FinanceLooking to invest in bonds but don’t know how it’s taxed? Here’s a key guide to help you

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