Tax-Free Bonds

Tax-Free Bonds Service By WinRich Professional Services Pvt Ltd

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What are Tax-Free Bonds

Tax-free bonds are issued by a government enterprise to raise funds for a particular purpose. One example of these bonds is the municipal bonds issued by municipal corporations. They offer a fixed interest rate and rarely default, hence are a low-risk investment avenue.

As the name suggests, its most attractive feature is its absolute tax exemption on interest as per Section 10 of the Income Tax Act of India, 1961. Tax-free bonds generally have a long-term maturity of ten years or more. The government invests the money collected from these bonds in infrastructure and housing projects.

Who should invest in Tax-Free Bonds

Tax-free bonds are an excellent choice for investors looking for fixed income like senior citizens. As government enterprises typically issue these bonds for a longer tenure, default risk is very low in these bonds and you are assured of a fixed income for a more extended period, typically ten years or more.

The government enterprises invest the money collected through the issuance of these bonds in infrastructure and housing projects. Tax-free bonds are the right choice for investors falling in the highest tax bracket.

Typically high net-worth (HNI) individuals, HUF members, trusts, co-operative banks, and qualified institutional investors prefer to invest in tax-free bonds.

What does Tax-Free Bonds cover?

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What are the features of Tax-Free Bonds

Tax-exemption

In the case of tax-free bonds, the interest income is entirely tax-exempt. Also, the tax deducted at source (TDS) does not apply to these bonds. However, it is advisable to declare your interest income as the principal amount invested in tax-free bonds do not qualify for a tax deduction under Section 80C.

You may purchase tax-free bonds in both, physical and the Demat form. Tax-free bonds, when compared to bank FDs, offer a tax-efficient return to investors who fall in the highest income tax brackets.

Risk factors

Chances of default on principal and interest payment are very low as these schemes are issued on behalf of the government itself. Also, it offers capital protection and a fixed monthly or annual income. Hence, it can be considered quite safe.

Liquidity

You cannot liquidate tax-free bonds as quickly as, say, debt mutual funds. Since government bonds are long-term investments and have more extended lock-in periods, liquidation of the tax-free bonds may not be that easy.

Lock-in tenure

Tax-free bonds have a longer lock-in period that ranges from 10 years to 20 years. You cannot withdraw your money before the maturity date. Therefore, please make sure that you do not need this money shortly after investing.

Issuance & transaction

Tax-free bonds are issued through a Demat account or in physical mode. You may buy tax-free bonds from the secondary market to achieve short-term financial goals.

Returns

The returns you make on these bonds are primarily dependent on the purchase price. This is because they are traded in low volumes with a limited number of interested buyers or sellers.

Interest

The rate of interest offered on tax-free bonds generally ranges between 5.50% to 6.50%, which is fairly attractive when considering the tax exemption on interest for these bonds.

A bondholder receives the interest annually. However, the rates are subject to fluctuations as they are related to the current rate of government securities. You could get a 6% tax-free return if you invest in tax-free bonds at current yields.




Government bonds allow federal, state and local governments to accomplish critical projects. Municipal bonds are issued by city and county governments for public works projects like schools, highways and hospitals. The federal government issues treasury bonds that mature between 10 and 30 years. Consumers also can purchase treasury inflation protected securities (TIPS) that are bonds that protect against inflation. Historically, government bonds have been low-risk investments, but they carry interest rate risk and don’t have the same earnings potential as higher-risk investments.

Asset Allocation

Asset allocation stabilities your risk and reward by allocating your assets

F&O

Invest or Hedge with Futures and Options

Equity

Own a part of different companies

IPO

Getting the shares of a private corporation to the public in a new stock issuance

Advantage: Secure Investments

The biggest risk you face as a bondholder is that the agency that issued the bond will default on its obligation. If this happens, you won’t continue to get coupon payments or the maturity payment for the bond. Compared to corporations, governments are a safer bet. It’s rare that a local government will default on bonds and even more unlikely that the federal government will do so. In contrast, corporations can – and do – declare bankruptcy and default on obligations from time to time.



Advantage: Practical Projects

Some investors may like the idea of their funds going to support government projects rather than a faceless corporation, with their contributions funding efforts that are easy to see and understand. For municipal bonds in particular, bonds fund important efforts that improve the local community and create jobs. This makes purchasing municipal bonds an attractive option for investors who want funds to stay in their state or local community.



Advantage: Tax Benefits

With most bonds, you’re subject to state and federal income tax on interest income you receive from bond coupons. However, bonds issued by a state are exempt from federal taxes and, in some cases, exempt from state taxes as well. Some U.S. savings bonds also are exempt from federal tax. This can be a sizable savings. For example, a taxpayer with $4,000 of interest in the 35 percent tax bracket can save $1,400 investing in a municipal bond instead of a taxable investment.

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