Tax-Free Bonds: Meaning, Features & How to Invest?

With growing financial awareness, people now understand the importance of saving and investing. While every investor has a unique investment, the profile based on his/her investment objective, age, and risk appetite, some factors are common for every investor.For instance, every investor would want to make sure that the investment option they select is tax-efficient. If you, too, are looking for something similar, tax-free bonds can be an excellent choice. Take a look at what these bonds are and what are their top benefits-

The tax-free bonds are bonds that are issued by government enterprises for raising funds. These bonds have a fixed maturity and earn fixed interest income. The biggest USP of these bonds is that the interest you earn by investing in them is tax-exempt under Section 10 of the IT Act.But do note that the interest income is exempt from taxes. The amount you invest in them cannot be claimed as a deduction with regards to reducing your income tax liability of any financial year. Also, while the interest income would be tax-free, you will still be required to disclose the same at the time of filing your ITR .

Government-backed enterprises issue tax-free bonds. Some of the popular entities that regularly raise funds through such bonds are HUDCO, NHAI, PFC, IRFC, NTPC, REC, and IREDA.Just like you have NFO in mutual funds and IPO in the stock market, tax-free bonds have a public issue. It is a limited period window during which you can invest in these bonds. Investments can either be done online or offline. Even after the public issue is over, you can still buy/sell these bonds on stock exchanges through a demat account .

The tax-free bonds have a fixed maturity of 10-20 years. The amount that you invest in these bonds will not be returned unless the maturity period is over. But as mentioned above, you do have the option to buy/sell these bonds on stock exchanges.But under Section 112 of the IT Act, the capital gains from selling tax-free bonds on stock exchanges are liable to capital gains tax . So, if you sell the bonds within 12 months after investing, the returns would be taxed as per your income tax slab. If you sell the same after 12 months, the gains would be taxed at 20% (with indexation) or 10% (without indexation).Another important thing worth noting is the fact that buyers who purchase tax-free bonds from someone else, apart from the enterprise offering the bond, earn around 0.25% to 0.5% lower interest as compared to someone who directly invests in these bonds during the public issue.

Some of the noteworthy features of tax-free bonds are as follows-

• Tax-Exemption : The biggest benefit of investing in these bonds is that the interest that you earn by investing in them is tax-exempt under Section 10 of the IT Act. Moreover, you can invest in these bonds online or offline and hold them in your Demat account or physical form.
• Minimum Risk : As government-backed entities offer tax-free bonds, the chances of interest default are close to none. This makes it an excellent choice for risk-averse investors.
• Reasonable Interest Rate : The interest rate in these bonds generally ranges between 5.5% to 6.5%. While this might appear lower than fixed-income options like bank FDs, investors should know that the returns would be tax-exempt. On the other hand, the profits from most other options, including bank FDs, is taxable.
• Longer Maturity : The tax-free bonds have maturity ranging from 10 years to 20 years. So, it can be an excellent option for any investor with a long-term investment horizon. In case if you do want to exit the tax-free bond before maturity, the same can be done through stock exchanges.

The tax-free bonds are an excellent choice for any risk-averse investor looking for a tax-efficient investment option. Especially if your investment horizon is more than ten years, you can consider investing in these bonds.Also, senior citizens who generally prefer risk-free fixed-income investment options can consider investing in tax-free bonds. But just like any other investment, do consider a professional investment advisor before making a decision.Ready to make the most of your money? Start your tax planning journey now!

The information contained herein is generic in nature and is meant for educational purposes only. Nothing here is to be construed as an investment or financial or taxation advice nor to be considered as an invitation or solicitation or advertisement for any financial product. Readers are advised to exercise discretion and should seek independent professional advice prior to making any investment decision in relation to any financial product. Aditya Birla Capital Group is not liable for any decision arising out of the use of this information.