Tax Free Bonds-Who can invest?

For the FY 2012-13 you may expect series of tax free bonds from authorized 10 issuers. Period is already started with issues from REC and PFC earlier this month and now from today onward IIFCL. This will continue till this financial year. So let us looks at features of these bonds and who can invest?

Below is the list of issuer who can offer you these tax free bonds for FY 2012-13.

• Indian Railway Finance Corporation (IRFC)
• India Infrastructure Finance Company Limited (IIFCL)
• Housing and Urban Development Corporation HUDCO)
• National Housing Bank (NHB)
• Power Finance Corporation (PFC)
• Rural Electrification Corporation (REC)
• Jawaharlal Nehru Port Trust
• Dredging Corporation of India
• Ennore Port Limited
• National Highway Authority of India (NHAI)

We will take the example of IIFCL which is currently open.

Note:-Category I-Qualified Institutional Buyers (QIB’s), Category II-Domestic Corporates, Category III-High Networth Individuals (HNI’s) and Category IV-Retail Individual Investors.

Issuance will be both in physical and demat mode. Also it is proposed to be listed on BSE. Credit Ratings: AAA by CARE, AAA (Stable) by ICRA and BRICKWORK.

First let us look at the taxation of these tax free bonds.

1) Interest is tax free. Which is not the case with your Bank FDs. Hence no TDS.

2) No Wealth Tax.

3) This being listed on BSE and treated equally with any other financial instruments. If you sell these bonds by holding more than 12 months and the profit over and above the face value will be considered as Long Term Capital Gain and taxed at the rate of 10% (No Indexation on Bonds). But no STT (Security Transaction Charges).

4) Holding these bonds less than 12 months will be treated as Short Term Capital Gain and will be taxed according to normal rates.

Who can Invest?

Highest rating by rating agencies means investors who are risk averse can definitely go for such products. Eventhough tenure looks longer but the same post tax returns not possible from any other fixed instruments. Remember that only interest is tax free, it does not mean that this investment will come under any section (like Sec 80c) which will benefit you in your taxation. Hence before going for this investment first consider your tax liability for this year. Liquidity will not be the issue as bonds will usually list on any of stock exchanges (for IIFCL it is BSE). As everybody predicting the lowering of interest rate by RBI in near future, so you may get best pricing in future if you want to sell in secondary market too. If you are in 30% tax bracket and if we consider the IIFCL issue’s interest rate to pre tax returns then they work out to be 10.98%, 11.22% and 11.28% respective for 10, 15 and 20 years bonds. This return for such a long term investment will not be possible with your Bank FD’s.

Disadvantages-

1) Tenure bond is 10,15 and 20 years their is interest rate risk attached with it.

2) Eventhough post tax interest rates looks attractive but the payout of interest will be annul. Hence you may end up not re-investing it in a proper way and finally after the end of period you only get Face Value. So if you re-invest the received interest then you may get higher returns than other products. In FDs you receive interest at the end of tenure which is not the case of these bonds.

3) As usual, request you not to park all your fund in such products, instead park some percentage of your portfolio.