Investment in these instruments may yield you higher savings. But its non-inclusion so far in DTC has stoked worries
THE Budget for the fiscal 2010-11 introduced infrastructure bonds to facilitate financing of long gestation infrastructure projects. To encourage retail participation in infrastructure financing, the government has notified an investment of up to 20,000 in these bonds to be exempt from income tax. Since the exemption is over and above the 1 lakh tax exemption under section 80C of the Income Tax Act, the infrastructure bonds look attractive. An investment in these bonds should result in an additional tax saving of 2,000 to 6,000, depending on the tax slab applicable to each investor.
STRUCTURE OF INFRASTRUCTURE BONDS:
As the name suggests, amount invested in infrastructure bonds will be used to finance various infrastructure projects in the country. As per the specifications of the central government, infrastructure bonds are to be issued by IFCI, LIC, IDFC and any non-banking infrastructure finance company recognised by the Reserve Bank of India. While IFCI has recently closed its issue of infrastructure bonds, LIC and IDFC are now set to launch their issues in coming months.
The tenure for these bonds is 10 years with a lock-in period of five years. Thus, after a period of 5 years, the issuing company can buy back these bonds from investors.
Alternatively, the investor can choose to trade these bonds in stock exchanges. The issuing company shall offer two rates of interest on these bonds — one is when the investor chooses the buy-back option after the lock-in period and the other is when he chooses to hold on to the investment till maturity period.
RETURNS AND TAX TREATMENT THEREON
Infrastructure bonds will carry an interest rate, which will be determined by the issuing company. The central government, however, has notified that the interest rate so payable shall not exceed the yield on 10-year government bonds. As the current yield on 10-year government bonds is around 8%, investors can expect these infrastructure bonds to offer a rate marginally lower than 8%.
IFCI, for instance, had offered investors an interest rate of 7.85% for bonds with a buyback option after 5 years and 7.95% for bonds without the buyback option and redeemable after 10 years. IDFC, whose bonds are set to hit the market early next month, is likely to offer an interest rate ranging from 7.5- 8%.
Investors can opt for either an annual payout of interest or allow the same to be compounded annually and payable only on maturity. Though the principal amount of investment — up to 20,000 — is exempt from tax, the investor shall be liable to pay tax on the amount of interest earned from such an investment. If the investor chooses to trade these bonds in the exchanges after the lock-in period, any gains accrued thereon shall also be subject to longterm capital gains tax.
5-YEAR TAX SAVING BANK FD V/S INFRASTRUCTURE BONDS
As infrastructure bonds have a lock-in period similar to that of a tax saving bank fixed deposit and are expected to offer interest rates similar to the ones being currently offered by banks on their fixed deposits, it is very natural for investors to contemplate as to which one of the two is a better tax-saving avenue.
While a 5-year tax saving bank FD is part of the existing 80C basket with a maximum exemption limit of 1 lakh, an investment in infrastructure bonds shall earn the investor an additional exemption of 20,000.
Thus, in case an investor has already exhausted the exemption limit of 1 lakh through investments in Public Provident Fund (PPF), Employee Provident Fund (EPF), LIC Premium, Repayment of Principal on housing loan etc., he should opt for infrastructure bonds rather than bank FDs. As far as the returns from these two instruments are concerned, let us assume an interest rate of 7.85% (as offered by IFCI) for the 5-year infrastructure bond (with buy-back option) and an interest rate of 7.5% on a 5-year tax saving bank FD — as is the prevailing interest rate being offered by most banks. While interest in case of a bank FD is compounded quarterly, that in case of infrastructure bonds is compounded annually.
Given the above interest rates, an investment of 20,000 shall fetch a pretax interest income of 8,999 in the case of the bank FD and 9,183 in the case of infrastructure bonds after a period of 5 years. Thus, it is not the yield on maturity, but the benefit accruing at the time of investment that needs to be considered before making an investment decision.
RISK ELEMENT:
While there is no risk as far as the underlying asset of these investments is concerned, the embedded risk lies with respect to the institution offering these bonds.
It is thus important for investors to carefully scrutinise the credibility of the institution offering these bonds.
Future Looks Uncertain
INFRASTRUCTURE BONDS AND DIRECT TAX CODE (DTC) :
The proposed DTC has left infrastructure bonds out of the ambit of tax-saving investment avenues. Does this imply that infrastructure bonds would lose their status as a tax-saving instrument once DTC comes into play after April 1, 2012? As of now, there is no clarity on the future of the infrastructure bonds and the industry has varying opinions. Vikram Limaye, executive director, IDFC, is optimistic about the inclusion of these bonds in the DTC once it gets finalised.
On the other hand, A Balasubramanian, CEO, Birla Sun Life Asset Management and Nihar Jambusaria, National Head, Tax Advisory Services, BDO Consulting, says that as DTC is ought to be a permanent policy, it may not include infrastructure bonds as these bonds have been introduced with a specific purpose in mind.
