How to earn more than 8% returns from debt investments

Many leading banks now offer over 7% a year on fixed deposits of certain tenures, against 5% to 5.75% just about a year ago
Many leading banks now offer over 7% a year on fixed deposits of certain tenures, against 5% to 5.75% just about a year ago


  • For senior citizens, SCSS is a no-risk choice; for others, it means some credit or interest rate risk

With interest rates sharply up since the Reserve Bank of India (RBI) began increasing interest rates in May 2022, fixed income products – fixed deposits, bonds, and debt funds – are back in the spotlight.

Today, many leading banks are offering over 7% per annum (p.a.) on fixed deposits (FDs) of certain tenures, against 5-5.75% just about a year ago. Likewise for corporate FDs. And if you are a senior citizen, aged 60 or above, you are eligible for even better rates. Debt funds too, across categories, are yielding higher returns than before.

Those interested in investing directly in bonds can tap non-convertible debentures (NCDs) listed on the exchanges. There are a few NCDs rated AA or higher that are trading at yield-to-maturity (YTM) of 8.16-8.88%. The YTM is the annualized return that you will get if you hold a bond until maturity. However, lack of adequate trading volumes can prove to be a hurdle for buying/selling bonds.

Notwithstanding the higher rates, if you want to create a fixed income portfolio that yields a return of 8%, pre-tax, be prepared to take on some risk - credit risk or interest rate risk -- or give up liquidity (ease of any-time withdrawals). Unless you are a senior citizen (over 60 years of age), in which case, the government-backed Senior Citizens Savings Scheme (SCSS) that offers 8% p.a. can be your best bet. You can invest up to 30 lakh in SCSS following the hike in the investment limit in budget 2023. Interest is paid out quarterly and the scheme is eligible for deduction under Section 80C of the Income Tax Act. The only limitation is the five-year lock-in. Premature withdrawals attract a penalty.

(Graphic: Mint)
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(Graphic: Mint)

Fixed deposits

For those under 60, the best FD rate that you can get among scheduled commercial banks is 8% p.a. That is, if you are willing to invest in FDs of banks with financials not at par with the best in the banking industry. As a senior citizen, you can get 8.5% p.a. Take for example, Bandhan Bank’s 600-day (1 year, 7 months and 22 days) FD, and Tamilnad Mercantile Bank’s 300-day FD – both offer 8% to non-senior citizens. Senior citizens get 8.5% on them.

Among small finance banks (SFBs), Unity SFB offers the highest rate of 9% to non-senior citizens (9.5% to senior citizens) on its 1001-day (2.7 years) deposit. The bank offers its next best rate of 8.75% to non-senior citizens on its deposits of 181-201 days and 501 days (1.37 years). Senior citizens get 9.25% on these deposits. In terms of interest rates, next in line come SFBs such as Suryoday SFB, Fincare SFB and Equitas SFB, offering 8% or more to their customers on FDs of specific tenures.

FDs from all commercial and cooperative banks including those from SBFs are covered by the Deposit Insurance and Credit Guarantee Corporation’s (DICGC) insurance cover of up to Rs. 5 lakh. The limit applies at the level of each account holder, and offers some degree of safety to bank depositors. After the amendment to the DICGC Act in 2021, customers of any failed bank are entitled to receive their money (up to Rs. 5 lakh) lying with the bank within 90 days of the lender being put under a moratorium, and not having to wait until the bank is liquidated.

Apart from banks, companies and non-banking financial companies (NBFCs) too offer FDs. However, these corporate FDs are not backed by the DICGC’s insurance cover – this makes them riskier than bank FDs. Among corporate FDs, Shriram Finance offers non-senior citizens, rates ranging from 8.0% to 8.45% on its 30, 36, 42, 48 and 60-month non-cumulative FDs with an annual pay-out option. Among cumulative FDs (where interest is paid along with principal on maturity), Shriram Finance’s 60-month and 48-month FDs can fetch you 8.13% and 7.95%, respectively.

All these FDs are rated AA+ (Stable) by ICRA and AA+/Stable by India Ratings and Research – one level below AAA which indicates the highest level of safety. Senior citizens get an additional 0.50% on all these FDs, that is, rates ranging from 8.45 to 8.95%. Women depositors get another 0.10%. That is, a senior citizen woman depositor can get Shriram Finance’s highest rate of 9.05%.

With Bajaj Finance’s AAA-rated corporate FDs, a popular option, the best rates that senior citizens can get is 8.10% on the 44-month and 7.95% on the 33-month FD (both cumulative and non-cumulative), respectively. The rates for non-senior citizens are well under 8%.

Graphic: Mint
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Graphic: Mint

Listed NCDs

For those open to taking more risk – both credit risk as reflected in a credit rating below AAA, and interest rate risk as reflected in the fluctuations in NCD (bond) prices with changing interest rates – NCDs listed on the stock exchanges offer another investment avenue. But given the lack of adequate trading volumes, be prepared to hold an NCD until its maturity. In fact, holding an NCD until maturity – when the principal amount is returned to you – will shield you from any fall in bond prices in the interim due to rising interest rates.

Going by HDFC Securities’ Weekly Retail NCD Reckoner, that compiles a list of most liquid NCDs in the secondary market, M&M Financial Services’ AAA-rated NCD with a residual maturity of 3.28 years offers a YTM of 8.16% and Shriram Transport Finance Company’s AA+ NCD with a residual maturity of 5.38 years offers a YTM of 8.88%. The latter, however, has far lower trading volumes (see table).

Interest income from both FDs and NCDs is taxed at your relevant income tax slab rate. This makes them tax-inefficient for those in the higher tax brackets. Further, capital gains, if any, from NCDs are taxed at your income tax slab rate if short-term, and at 10% without indexation, if long-term. For capital gains to be treated as long term, the holding period must exceed 12 months.

In fact, on taxation, debt funds score both over FDs and NCDs. If you remain invested in a debt fund for three years or longer, your return (long-term capital gains) gets taxed at 20% with indexation benefit. This can reduce your tax liability to a large extent. However, short-term capital gains get taxed at your income tax slab rate.

Debt funds

Going by the prevalent yields, one high-risk way to make 8% or more in the debt fund space is by investing in credit risk funds. As the name suggests, credit risk funds carry credit risk, that is, the risk of default by the issuers of the underlying debt securities held by the fund. Such funds must invest at least 65% of their corpus in AA and below rated papers. In addition, depending on their duration, these funds also carry interest rate risk – longer the fund duration, greater the impact of interest rate changes on the fund NAV and returns.

Many credit risk funds such as those from ICICI Prudential Mutual Fund and Aditya Birla Sun Life Mutual Fund had YTMs of close to 8.0% (after deducting expenses) as of January-end. While the YTM may not be a precise return metric for open-ended funds that buy and sell securities, it provides some indication of likely returns.

Unlike FD interest income, debt fund returns are market-linked, though the latter scores better on taxation. If you are looking for a low-risk debt portfolio, then credit risk funds are not for you.

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