Tax free bonds – Who should invest?

Many of you may be knowing that 7 PSU’s are  going to come up with Tax free bonds in the market very soon, maybe starting late July itself. The total value of these bonds are going to be 40,000 crores and the tenure will be 10, 15 and 20 years. The interest rates are likely to be in the range of 8 %, maybe a little less.

There is a lot of interest among investors for the tax free bonds and it is likely to be fully subscribed. The last time they were available in 2013-2014, the bonds were quite successful and even today these sell at a premium in the secondary market. For investors the big question is – should you be investing in these? Before getting into that let us see what are the benefits and drawbacks of the tax free bonds.

  • You are able to lock in your funds at a reasonable interest rate and get tax free money every year.
  • Liquidity of the product is poor as selling in the secondary market will not be easy.
  • Due to the long  lock in you may lose out on rising interest rates at a later date.

This is clearly not a product for wealth creation as the growth will be limited to real returns of 1-2 % or so. The basic attraction of the product is safety of capital as well as tax free income. People who are in the tax brackets of 10 and 20 % may not find much value in this as the lock in periods are rather long.

I think you can look at investing in these bonds if you are an investor with the following characteristics:-

  • You are i.n the 30 % tax bracket and are looking at tax free income.
  • You are trying to set up a passive income stream and want regular and assured income that is tax free.
  • You have got a retirement corpus and want to put part of it in instruments that generate assured and tax free income.
  • You have a long term commitment of an amount and you are looking at a simple means of generating it year on year.

For people in the accumulation and growth phase of their investments, this is not a right product. Invest in financial assets like stock or Mutual Fund which will have higher growth potential. Even for debt option choose products that are liquid.

People looking at long term, regular, assured and tax free income will find this to be an ideal product.

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2 thoughts on “Tax free bonds – Who should invest?

  1. Sir, What do you think of the approach of investing a lumpsum amount in tax free bonds say for 20 year tenure and use the interest proceeds to buy stocks. Of course the interest is paid annually but we can break it down in our mind and invest every month a proportionate amount.

    I am planning to do this since I am a very risk adverse person but am 30 years old so want to have equity exposure. The advantage with this approach is my principal is protected and we are getting the upside of equities.

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    • There is no need to do this. Tax free bonds are for those who need regular income. Invest in equity by starting small and you can build up over time. At your age you need to get over your fear.

      Like

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