Tax-free bonds: High tax payers can earn more than FDs with this investment instrument

Tax-free bonds can offer better returns than both FDs and small-savings schemes.

Tax-free bonds can offer better returns than both FDs

Many people look towards the fixed deposit as a form of safe investment option that generates better returns than a savings account. However, there is another investment instrument that is risk-free and yet offers better returns than a fixed deposit. We are talking about tax-free bonds which are sold by the public sector. 

Some may consider them to be old-fashioned and unglamorous. However, truth be told, these dull-looking investment instruments can actually give decent enough returns, better than both FDs and small-savings schemes. 

Also read: Importance of bonds in your portfolio

There has been a significant increase in interest rates of bonds as a consequence of the first policy rate increase. This increase came in almost 3 years and has enhanced the charm of tax-free bonds. In just one year, the yield on this investment instrument has escalated from 4-4.5% to 5.5-6%. Contrast this with banks which have not increased FD interest rates. This makes these bonds appealing from an investment perspective. 

According to the founder of Synergee Capital, Vikram Dalal, there are three reasons why investors are drawing to these bonds. These are- higher post-tax returns than FDs, freedom from risk, and a lack of put call option. 

Financial experts have worked it out and it’s true. These bonds indeed offer better post-tax returns than fixed deposits. This is especially true for rich people in the highest tax bracket. Consider this, an SBI 5-10 year fixed deposit offers a 5.5% return. However, there are just 3.87% post-tax returns for investors in the 30% tax bracket. Compare this to tax-free bonds that can provide yields of 5.5-5.6%.

Tax Free Bonds 2022:

The most popular tax-free bonds amongst investors are Nabard, Hudco, IRFC, REC, NHAI, and PFC. For example, 7.5% IRFC December 2035 yields 5.6%. Also, 7.25% NHAI 2031 as well as 8.3% PFC Feb 2027 yield 5.55%. 

An important point to keep in mind is that investors must calculate their post-tax returns prior to purchasing these bonds. Moreover, they should be aware of their tax slab. The higher the tax bracket, the better off the investors will be. Here's how Tax-free bonds work.

Disclaimer: This article is meant for general financial purposes only. You must not take it as any form of legal or taxation or investment or insurance advice. You must seek separate independent advice when indulging in financial decision-making.

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