4 min read.Updated: 28 May 2020, 01:13 PM ISTNeil Borate
When small savings rates were cut in April 2020—PPF for instance now gives 7.1% whereas Senior Citizens Savings Scheme (SCSS) gives 7.4%—the RBI bonds became the highest interest paying instrument.
The Reserve Bank of India (RBI) in a notification on Wednesday announced that it will stop issuing the government of India’s 7.75% (taxable) bonds—colloquially known as RBI 7.75% bonds. The notification, however, did not specify why the bonds were being stopped.
According to Nithin Sasikumar, co-founder of Investography, a financial planning firm, a surge in demand for this relatively high-interest paying instrument due to cuts in other government savings products may have prompted the stoppage.
“The 7.75% bonds were a relatively costly way of government borrowing. As had happened with a previous instance of discontinuation of these bonds, the government may issue fresh bonds at a lower interest rate," he added.
The bonds had an annual interest rate of 7.75%, with a seven-year tenor. When small savings rates were cut in April 2020—PPF for instance now gives 7.1% whereas Senior Citizens Savings Scheme (SCSS) gives 7.4%—the RBI bonds became the highest interest paying instrument with virtually no default risk. In this piece we explore the alternatives to RBI 7.75% bonds for investors, including senior citizens. For the latter, read our piece on senior citizens here bit.ly/3cdEfWp.
National Savings Certificate and Kisan Vikas Patra
National Savings Certificates (NSCs) and Kisan Vikas Patras (KVPs) are issued by the government and can be purchased from banks and post offices. NSCs have a rate of 6.8% and a five-year tenor. KVPs have an interest rate of 6.9% and a tenor of 10 years and four months.
Tax: In NSCs, both the principal amount and interest are eligible for tax deduction under Section 80C of the Income-tax Act up to ₹1.5 lakh per annum. You can invest higher amounts in NSCs, but you will not get any tax benefit. Such additional NSC interest will be taxable at slab rate. KVP interest is taxable at slab rate.
Note that interest is paid on maturity in NSCs and KVPs and not on a monthly basis.
How to buy: Through your bank branch or local post office
Corporate Fixed Deposits
Companies can issue fixed deposits (FDs), just like banks. However, corporate FDs carry a far higher risk of default. Corporate FDs are rated, so you can choose a AAA-rated corporate FD from a highly reputed company to reduce risk. For example, HDFC Ltd is paying 6.93% on a 15-month FD. Bajaj Finserv is offering 7.4% on FDs of 12-23 months. ICICI Home Finance is offering 7% on FDs of 12-24 months.
“You should look at corporate FDs to some extent from marquee names like HDFC Ltd. Don't get tempted by higher rates in lesser known names in today's economic scenario," said Sasikumar.
Tax: Interest on corporate FDs is fully taxable at slab rate.
How to buy: Online through the company’s website or offline through designated offices for accepting forms
You can purchase a bond issued by a reputed public sector enterprise such as Rural Electric Corporation (REC) or National Highways Authority of India (NHAI), or even a private sector player with strong financials on the stock exchanges (called secondary markets). Public sector bonds currently trade at yields of 5-6%.
Some financial institutions also sell tax-free bonds on the over the counter on the secondary markets. The latter tend to carry very low yields due to their tax free status.
However, be careful while investing in bonds. The covid-19-induced lockdowns have weakened the balance sheets of several major companies. In particular you should be cautious about perpetual bonds issued by both private and public sector banks that are currently trading in the market at high yields. These carry an extremely high level of risk as we highlighted here (bit.ly/2ZKhuqA).
Tax: Interest on listed bonds is taxable at slab rate. However you can sell these bonds before maturity. If you sell them after a holding period one year, you pay a capital gains tax of just 10% on any gains you make. If you sell them within a year of purchase, you pay tax on gains at your slab rate.
How to buy: Through your stockbroker. You need a demat account for this.
In addition to the above, there are specific instruments for specific classes of people. For example, organised sector employees can put up to 100% of their basic salary and dearness allowance in voluntary provident fund (VPF), which is governed by the Employees Provident Fund Organisation (EPFO), pointed out Kirtan Shah, Chief Financial Planner, Sykes and Ray Equities Ltd. EPFO declares an interest rate every year, typically in the range of 8-9%. For FY20, it was 8.5%. However on a practical level, many organised sector companies do not facilitate investment in VPF due to the additional paperwork it entails.
Parents who have a girl child can invest in Sukanya Samriddhi Scheme, which has a tenor of 21 years and an interest rate of 7.6%. Still others like public provident fund (PPF) are universal in nature but have an upper limit of investment ( ₹1.5 lakh per year).
Given the different characteristics, tax treatment and default risk in all these alternatives, do not go by interest rate alone. Choose an instrument that suits your liquidity, time horizon and interest rate needs.
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