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Features of Inflation Indexed Bonds

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The salient features of the first series of Inflation Indexed Bonds which were issued on 4th June 2013 is as under:-

 

1. IIBs will be having a fixed real coupon rate and a nominal principal value that is adjusted against inflation.; Periodic coupon payments are paid on adjusted principal.; Thus these bonds provide inflation protection to both principal and coupon payment.; At maturity, the adjusted principal or the face value, whichever is higher, will be paid.

 

2. Index ratio (IR) will be computed by dividing reference index for the settlement date by reference index for issue date (i.e., IR set date = Ref. Inflation Index Set Date / Ref Inflation Index Issue Date).

 

3. Final Wholesale Price Inflation (WPI) will be used for providing inflation protection in this product.; In case of revision in the base year for WPI series, base splicing method would be used to construct a consistent series for indexation.

 

4. Indexation Lag; Final WPI with four months lag will be used, i.e. Sept 2012 and Oct 2012 final WPI will be used as reference WPI for 1st Feb 2013 and 1st March 2013, respectively.; The reference WPI for dates between 1st Feb and 1st March 2013 will be computed through interpolation.

 

5. Issuance method: These bonds will be issued by auction method.

 

6. Retail Participation: Non-competitive portion will be increased from extant 5 percent to up to 20 percent of the notified amount in order to encourage participation of retail and other eligible investors.

 

7. Maturity: Issuance would target various points of the maturity curve in order to have benchmarks. To begin with, these bonds will be issued for tenor of 10 years.

In a press release, the RBI clarified that the second series IIBs, for retail investors, will be issued in October. The first series of bonds will help to determine the coupon rate through auction.

 

The new series should have a mention of the coupon rate and other connected matters as most of the retail small investors may not be able understand the concept of coupon rate.

It is suggested that the Government should adopt the consumer price index (CPI) instead of wholesale price index (WPI). CPI stands as a better representative of the purchasing power of the individual.

 

For example, the current WPI is 4.89 percent while CPI is 9.39 percent. The difference is quite high. It will be realistic if the CPI is adopted to provide a positive relief. The interest will not be paid to the investor on year-to-year basis but at during redemption.

 

The face value of such bonds to the principal will be adjusted with the inflation. Thus, at the time of redemption itself the adjusted principal amount or the face value of the Bonds, whichever is higher, would be paid to the investor. The interest, however, would be paid to the investor from time to time depending on the terms.

 

Generally, they are for ten years. However, mobility will be available to the investor for pre-mature encashment as these would be listed on the stock exchange. The Government has not thought of any specific tax exemption, deduction or rebate or extra additional tax benefit in respect of investment on them.

 

The interest will be subjected to income-tax. At the time of maturity the amount received will enjoy the benefit of cost inflation index especially when they are sold after three years. To encourage secured safe investment in these, the government should also provide for tax deduction under section 80C of the Income-tax Act, 1961.

 

In case, the Government were to think of granting tax deduction on investment, then surely the investment of the common man would flow very fast in these.

 

It is good to see the Government appreciating the need of issuance of an instrument of investment safeguard the common man. The Government should also think a sort of Social Security Scheme would be achieved by making these Bonds really effective, lucrative and interesting.

 

For this purpose, if certain tax sops are made available to the investors of these bonds that it will go a long way in bringing very big chunk of money of small investors whereby the investment of these small investors is safe, secured and takes care of mounting inflation in the years to come.

 

The more and more these bonds are made popular, the more concern will be of the Government to ensure that inflation is kept under control.

 

In nutshell it can be said that small retail investor in particular should wait and watch for the new investment opportunity in the next couple of months.

Happy Investing!!

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