Investing in tax-free government bonds: What you need to know

I want to invest in government bonds. Are those tax-free? What plans are available for tax-free interest? I want to invest for 7 -10 years.

The government of India has not issued any new tax-free bonds for quite some time, but you can buy some of the tax-free government bonds issued in the past on the stock exchanges. As these bonds are tax-free, they are quoted at a significant premium to their issue price as many taxpayers in higher tax slabs find these tax-free bonds beautiful, their Yield To Maturity (YTM) factors in the tax saving enjoyed by the holder of such bonds. Since these bonds are issued by government and government companies, they are very safe to invest. The current yield to maturity on the tax-free bonds ranges between 5% and 5.50%. If you wish, you can buy any of these tax-free bonds based on Yield to Maturity (YTM) and the balance tenure of the bonds to match with your investment horizon.

RBI Floating Rate Savings Bonds vs Tax-Free Bonds

Since these tax-free bonds are quoted at a significant premium over their issue price, the YTM is not very attractive for the average investor. I would advise you to invest in RBI floating-rate saving bonds, which presently carry an annual interest rate of 8.05%. Resident individuals can invest in these bonds singly or jointly with any other resident individual, and there is no upper limit for investment.

In addition to individuals, HUF, charitable institutions, and universities can also invest in these bonds. Unlike the Senior Citizen Saving Scheme, where only senior citizens can make deposits under that scheme, there is no age limit for investing in these bonds. The interest is payable half yearly on 1st January and 1st July every year. The interest rate is reset every six months, benchmarked against National Saving Certificates (NSC) and is 35 basis points higher than the interest payable on National Saving Certificates at the time of reset of the interest rate.

The interest on RBI floating-rate saving bonds is fully taxable, and tax at the applicable rate is deducted at the time of interest payment. These bonds have a tenure of seven years and are not tradeable in the market. They cannot even be pledged as security for any loan.

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Balwant Jain is a tax and investment expert and can be reached on jainbalwant@gmail.com and @jainbalwant on his X handle.

Disclaimer: The views and recommendations made above are those of individual analysts, and not of Mint. We advise investors to check with certified experts before taking any investment decisions.