NCDs decoded: From income tax implications to risk factors

Mumbai: Are you planning to invest in non-convertible debentures (NCDs)? Currently, there are at least seven NCDs open for subscription. According to Prime Database, India Infoline Finance Ltd (IIFL), Indiabulls Consumer Finance Ltd, JM Financial Products Ltd, Kosamattam Finance Ltd, Muthoottu Mini Financiers Ltd, Shriram Transport Finance Co Ltd, and Tata Capital Financial Services Ltd have issued NCDs.

Let’s take a look at what is on offer and whether you should put your money in it.

What is on offer?

Since July and August, at least seven NCDs have hit the market. NCDs are fixed income products which promise to give you a predetermined fixed interest rate at the end of the tenure. NCDs that are currently available in the market are for tenure of up to 10 years, and the coupon rate ranges from 8.34% to 10.65% per annum.

It is one of the instruments issued by companies to raise money. “We will use the money raised from NCDs for onward lending as well as to retire debt,” said Kushal Roy, managing director and chief executive officer, Tata Capital Financial Services Ltd. The company is offering NCDs for a 3-10 year maturity period with a coupon rate of 8.35-8.85% per annum.

Liquidity has been a concern for the NBFCs for a while now. “Right now, the interest rate has been cut and banks have reduced MCLR which should bring back liquidity. Though banks have surplus liquidity, NBFCs don’t have that much liquidity,” said an IIFL spokesperson.

“Banks are still very selective towards lending to NBFCs and they are not keen on taking additional exposure. The same goes for mutual funds. Hence, the overall credit growth in the system has been slow,” the spokesperson added.

Also, the defaults in NCDs by some NBFCs could be a dampener. “DHFL is a large player and their default has caused pain for lenders such as banks and mutual funds. Hence, everyone turns risk averse. But eventually it eases out,” he said.

Should you consider NCDs?

Though NCDs are fixed income instruments, there have been instances where investors have lost money. Hence, it is important to consider credit rating and understand the fundamentals of the company before investing.

According to experts, retail investors should stay away from NCDs. “Ideally, no one should invest in NCDs simply because in fixed income investment, the amount is sizeable and it is a conservative investment. Despite all the rating and precautions, if you go wrong you will lose all your money. Diversification with your fixed income is crucial,” said Dhirendra Kumar, chief executive officer, Value Research.

Besides diversification, taxation and liquidity are a dampener too.

“With NCDs, you end up taking exposure to one single group. You are better of investing in a bond fund instead. The liquidity is an issue as you are likely to find it difficult to sell it before maturity. In terms of taxation, you will be taxed at the slab rate,” said Kaustubh Belapurkar, director-fund research, Morningstar Investment Adviser India.

In case of NCDs, if you are in the highest tax bracket, the interest you earn will be taxed at 30%. This means that your post-tax return from NCDs will be lower. NCDs can work for a savvy investor who can make an analysis and understand the fundamentals of the company. If you still want to consider investing in NCDs, consider the credit rating before putting your money.