SECURE & SAFE Upcoming issues of bonds is a golden opportunity for small investors

                                      

There is good news for investors in debt instruments. PSUs will issue tax-free bonds worth `40,000 crore in this financial year. For retail investors, classified as individuals who put in up to `10 lakh, the coupon rate of AAA-rated bonds will be about 55 basis points below the yield of government bonds of equal tenure. For HNIs, the rate will be 80 basis point lower.

Experts feel this is a great opportunity for small investors to lock in at high rates for the long term. The coming bond issue provides a lucrative opportunity to lock-in to high yields for a long time in a more tax-efficient avenue. Tax-free bonds are long-term instruments, with tenures of 10, 15 and 20 years. The longer the tenure, the higher is the coupon rate. At the current yields, investors are likely to be offered between 7.3% and 7.7% for various tenures. A guaranteed tax-free return of around 7.5% for the next 10-15 years is a fantastic proposition. It is good for people who do not need the money back for a long time and are riskaverse. Investors in the 30% tax bracket will find this very lucrative.For them, this is equivalent to a pre-tax return of 10.56-11.14%

Retirees and those nearing retirement will find these bonds especially useful. The predictable return and tax-efficiency make these an ideal option for post retirement income. On the other hand, annuities offer low-yields and the income is fully taxable.

The only glitch is that annuities pay regular monthly income while these tax-free bonds will pay interest once a year. This problem can be overcome by spreading out the investments in a way that there is some interest income every quarter. A retiree who needs `15,000 a month (or `1.8 lakh a year) will need to invest `24 lakh in tax-free bonds offering a coupon rate of 7.5%.Instead of putting this in one instrument, he should spread it out in tranches of `6 lakh in four different bonds with payout dates in different quarters of the year. Tax free bonds can be used to generate a post-tax cash flow, by not only diversifying the payment of coupon but also the issuer of the instrument.

Investors in the highest 30% tax bracket could replace fixed deposits with the upcoming taxfree bonds. While banks' FDs are convenient and offer up to 8.5%, the interest earned is fully taxable. In the 30% tax bracket, the posttax yield is barely 5.95%.The tax-free bonds could offer 150-175 basis points more. Tax free bonds still offer superior post-tax returns compared to most other fixed income options, who exhaust the `1.5 lakh annual investment limit in the PPF will find these tax-free bonds useful.