Creating a Robust Investment Portfolio. Home Financial Planning Gold. By Aishwarya Krishnan As we approach the end of another financial year and gear up to pay our taxes, the interest in different tax saving instruments are on the rise. While there are various instruments to save tax and invest safely, one important arena to focus on is Government Bonds. Whether it is having a safe savings and investment options or tax savings Capital Gains funds, there are several schemes and bonds that you can invest in.
Government bonds have been serving Indian citizens as well as HUFs in various forms from a long time. When it comes to saving taxes, there are two main types of government bonds that are preferred by different people, tax-free bonds and tax saving bonds. Understanding the difference between these two types of bonds is important to make the right choice as per our needs.
The main difference between the tax-free bonds and tax saving bonds are in tax exemptions that the investments in these instruments receive.
Bonds can be taxed in three stages, in the first stage investment , while earning the interest and at maturity or on receiving the last returns. Based on the taxes exempted or applied in these stages, the bonds are easily clarified as tax-free or tax saving.
If the investment made and the end returns on a bond are not taxed but the interest earned in taxed, it falls under the tax-free scheme. However, there are bonds whose end returns are taxed but in turn offer tax exemptions from paying Income Tax under Section 80CCF; these bonds are known as tax saving bonds. Here are some of the best government bonds that will help you save taxes in one way or another.
This government bond offers a higher rate of return than fixed deposits and even though the interest earned in the bonds is taxable, the bonds will be exempt from wealth tax under the Wealth Tax Act, Also, specific munis may be subject to federal income tax, depending on how the issuer will use the proceeds. If a bond finances a project that offers a substantial benefit to private interests, it is taxable at the federal level unless specifically exempted.
For example, a new football stadium may serve a public purpose locally but provide little benefit to federal taxpayers. As a result, a muni bond that finances it is considered a so-called private-purpose bond. Other public projects whose bonds may be federally taxable include housing, student loans, industrial development, and airports. Even though such bonds are subject to federal tax, they still can have some advantages. For example, they may be exempt from state or local taxes.
And you may find that yields on such taxable municipal bonds are closer to those of corporate bonds than they are to tax-free bonds. Agencies and GSEs government-sponsored enterprises vary in their tax status. REFCO , are subject to federal tax but exempt from state and local taxes.
To even further complicate matters, the interest from private-purpose bonds may be specifically exempted from regular federal income tax, but still may be considered when calculating whether the alternative minimum tax AMT applies to you. A financial professional can determine the likelihood that a bond will affect your AMT liability. Tip: The equivalent tax-free yield can be even lower if you are subject to an additional 3. Some muni funds invest in both public-purpose and private-purpose munis.
Those that do must disclose on their yearly forms how much of the tax-free interest they pay is subject to AMT. Note: Before investing in a mutual fund, carefully consider its investment objectives, risks, fees, and expenses, which are in the prospectus available from the fund; read it carefully before investing. Most of these carry the highest safety ratings as far as receiving interest and principal amount on maturity is concerned.
Features of tax-free bonds Tax-free bonds have a longer tenure of 10, 15, 20 years. Still, on the exchanges, many of them are available with lesser maturity period as well. And, even though, they are listed on exchanges, the liquidity is low in tax-free bonds, therefore, invest in them only if you are sure that you will not require the funds for such a long period.
If held till maturity, the safety of principal and interest exists. The face value of a tax-free bond is usually Rs On the stock exchange depending on interest payment due date or the movement of interest rate in the economy, it can be traded at a discount or premium to its face value.
For example, a Rs bond can be available in the market at Rs or at Rs The coupon rate is the fixed rate of interest that the bond carries. It determines how much interest income will be received by the investor. For example, even if an investor has purchased Rs bond carrying a coupon rate of 8. But, the investor had purchased the Rs worth bond at a higher price of Rs Therefore, the actual yield or return will be lower.
When the purchase price is high, typically the yield will be low compared to the coupon rate. The interest income received based on the coupon rate will, however, be tax-free in the hands of the investor. The maturity date is also an important factor to look at while investing in them.
If you wish to sell it before maturity, the gains, if any, will be subject to capital gains tax. Whom they suit Tax-free bonds suit investors in the highest tax slab paying 30 percent tax on taxable investments such as bank fixed deposits.
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