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Tax Saving Infrastructure Bonds

IndianMoney.com Research Team | Updated On Wednesday, November 14,2018, 12:59 PM

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Tax Saving Infrastructure Bonds

 

 

Tax Saving Infrastructure Bonds

Dear Readers it’s been long time we discussed about a Tax related topic. Most of us know about the 100000 deduction under Sec 80C. From long time people are demanding to increase this level of deduction. One of the fresh tax reliefs in the Budget 2010 is the deduction allowed for investing up to Rs 20,000 in infrastructure bonds. Finance minister Pranab Mukherjee had mentioned in his budget speech that, “To promote savings as well as to ensure their deployment for the thrust area of infrastructure, I propose to allow a deduction of an additional amount of Rs 20,000 for investment in long-term infrastructure bonds. The proposal of creating funds to meet the long-term needs of infrastructure development was mooted in this Budget.The Centre has cleared infrastructure bonds issued by certain government and RBI-approved (Reserve Bank of India) entities. Government notified that these bonds will have a minimum tenure of 10 years and a 3- 5-year lock-in period.

Who will Issue Infrastructure Bonds?

The bonds will be issued by;
  • Life Insurance Corporation of India
  • Industrial Finance Corporation of India
  • Infrastructure Development Finance Company
  • Non-banking finance companies classified as infrastructure finance companies by the RBI.

Features of Infrastructure Bonds

The features of infrastructure bond will be similar to the infrastructure bond offered in earlier years;

  • Minimum tenure - 10 years
  • Lock-in or Maturity Period – 3 years to 5 years
  • Nature of Return – Guaranteed interest rate like fixed deposit
  • Interest Rate – Range of 6% - 8% per year
  • Interest Payment – Interest payment will be either yearly or at end of maturity period
  • Tax Treatment of Interest – investments up to 20,000 will be exempted from tax.
  • Tax Treatment of Interest – Interest earned will be subjected to tax.

Why should you invest in Infrastructure Bonds?

There are many reasons that make you to invest in Infrastructure Bonds. Some of them are given below.
  • Savings
  • Tax Saving
  • Assured Return
  • Reasonable Interest Rate
Savings
 
Investment up to Rs 20,000 in infrastructure bonds will help you to save Rs 20,000 for future use.
 
Tax Saving Infrastructure Bond
 
Investments up to Rs 20,000 in infrastructure bond will save tax of Rs 6180 (including education cess) in the highest tax bracket of 30%
 
Assured Return
 
Investments made in infrastructure bonds guarantees you an assured Rate of return. though low, is guaranteed. It will help you to ensure that you will not loose your peace of mind on infrastructure bond investments.
 
Infrastructure Bond Interest Rate
 
Infrastructure Bonds offer Interest Rate of 6% - 8% per annum. While comparing with Fixed Deposits infrastructure bonds are better option to compete with inflation plus it
 
Tax Saving Under Infrastructure Bonds
 
In this section we are going to discuss about the Tax implications on Infrastructure Bonds. Let’s look at the pros and cons of investing in infrastructure bonds for the sake of tax-saving. The analysis will be from the perspective of the different 'tax groups' (As per Budget 2010).
 
Tax Slab Rate
 
Tax Group
Taxable Income
Tax rate
1
Rs. 160000 - Rs. 500000
10%
2
Rs. 500000 - Rs. 800000
20%
3
Above Rs.800000
30%
 
 
To understand the pros and cons of any tax-saving investment, we need to look at four major parameters such as:
  • Parameter 1: Actual tax-saving
  • Parameter 2: Returns from the investment
  • Parameter 3: Opportunity cost
  • Parameter 4: Effect of Inflation on the returns on investment
 
Assumptions
 
Let's assume the rate of return on infrastructure bonds = 6.5% per annum.
Let's consider the overall rate of inflation at 8%.
 
Tax Group 1: People with an income of Rs. 160000 - Rs. 500000
Tax Group 2: People with an income of Rs. 500000 - Rs. 800000
Tax Group 3: People with an income Above Rs.800000
 
Tax Group 1: People with an income of Rs. 160000 - Rs. 500000
 
Parameter 1: Actual tax-saving is 10% of Rs 20,000 = Rs 2,000 (if you invest Rs 20,000 in the instrument you get to reduce your taxable income by Rs 20,000 thus giving a 10% benefit).
 
Parameter 2: What will be the returns at the end of the lock-in period? For a lock-in period of 3 years an investment of Rs 20,000 would fetch an income of Rs 4159. When added to the tax saved we get an effective return of Rs 26,159 (Rs 20,000 + Rs 4,159 + Rs 2,000) on our investment.
 
Parameter 3: If this same amount were to be invested in a market instrument that fetched a return of 15% (which is very reasonable considering that the benchmark Sensex and many mutual funds have given comparatively higher returns over a long period), the investment would fetch an effective return of Rs 27,376 (Rs 20,000 - Rs 2000 = Rs 18,000 invested @15% per annum for 3 years).
 
Parameter 4: What would be the minimum amount required to counter inflation at 8%? The amount would be Rs 25,194.
 
Returns Analysis
 
Returns required to counter inflation
Returns from Infrastructure bonds (A)
Returns from market instrument (B)
Surplus (A-B)
25,194
26,159
27,376
-1217
  
Tax Group 2: People with an income of Rs. 500000 - Rs. 800000
 
Parameter 1: Actual tax-saving is 20% of Rs 20,000 = Rs 2,000 (if you invest Rs 20,000 in the instrument you get to reduce your taxable income by Rs 20,000 thus giving a 20 per cent benefit).
 
Parameter 2: What will be the returns at the end of the lock-in period? For a lock-in period of 3 years an investment of Rs 20,000 would fetch an income of Rs 4159. When added to the tax saved we get an effective return of Rs 28159 (Rs 20,000 + Rs 4,159 + Rs 4,000) on our investment.
 
Parameter 3: If this same amount were to be invested in a market instrument that fetched a return of 15%, the investment would fetch an effective return of Rs 27,376 (Rs 20,000 - Rs 2000 = Rs 18,000 invested @15% per annum for 3 years).
 
Parameter 4: What would be the minimum amount required to counter inflation at 8%? The amount would be Rs 25,194.
 
Returns Analysis
 
Returns required to counter inflation
Returns from Infrastructure bonds (A)
Returns from market instrument (B)
Surplus (A-B)
25,194
28159
27,376
783
 
Tax Group 3: People with an income Above Rs.800000

Parameter 1: Actual tax-saving is 30% of Rs 20,000 = Rs 6,000 (if you invest Rs 20,000 in the instrument you get to reduce your taxable income by Rs 20,000 thus giving a 30 per cent benefit).

Parameter 2: What will be the returns at the end of the lock-in period? For a lock-in period of 3 years an investment of Rs 20,000 would fetch an income of Rs 4159. When added to the tax saved we get an effective return of Rs 30,159 (Rs 20,000 + Rs 4,159 + Rs 6,000) on our investment.
 
Parameter 3: If this same amount were to be invested in a market instrument that fetched a return of 15%, the investment would fetch an effective return of Rs 27,376 (Rs 20,000 - Rs 2000 = Rs 18,000 invested @15% per annum for 3 years).
 
Parameter 4: What would be the minimum amount required to counter inflation at 8%? The amount would be Rs 25,194.
 
Returns Analysis
 
Returns required to counter inflation
Returns from Infrastructure bonds (A)
Returns from market instrument (B)
Surplus (A-B)
25,194
30,159
27,376
2783
 
From the above given illustrations we can come to a conclusion that Infrastructure bonds are comparatively a better option to invest your hard earned money as the returns are assured. At the same time if we consider market instrument the returns are not guaranteed, it may or may not give higher returns. For the people in the Rs 3-8 lakh bracket, it would be advisable to invest in infrastructure bonds if the period of investment is 3 years.

 

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