Tax-free bonds are one of the best investment options for investing in fixed income. They offer high returns, and a fixed lock-in period and are a good choice for those who wish to invest for a long time. They are issued by the government or a company supported by the government and are not subject to any taxation at the end of their tenure. The government also guarantees the bondholders will receive a fixed interest rate for ten years or more.
The government of India enables companies involved in infrastructure, roads, agriculture, railways and other development projects to issue such tax-free bonds. They are primarily sold on stock exchanges and traded on low volumes with few buyers and sellers.
In the past 7-8 years, these bonds have become available on exchanges. They are mainly issued by public sector enterprises and funding agencies, whose primary purpose is to raise funds to develop infrastructure and housing projects.
If you are looking to invest in these bonds, looking for a reliable broker who can help you make the best decision is advisable. You may need to open a brokerage account and fill out an application form requiring your personal information.
You should also look for a broker with a reputation in the industry and the capacity to handle a large volume of transactions. This will ensure that your investments are not hampered by a lack of liquidity and that you get the best deal.
Moreover, it is important to analyze the bonds’ yield to maturity (YTM). It is a key measure that will help you understand the returns you will get if you invest in tax-free bonds for a certain amount of time.
The YTM is calculated using the coupon rate of the bonds and the face value of the bond. The higher the YTM, the more attractive the tax-free bond is.
It is therefore advisable to purchase a high YTM bond, rather than a low YTM bond. This will give you better returns and make you happy with your investment.
However, it is essential to note that if you sell these bonds in the secondary market, your transactions will be subject to capital gains tax. This is because you cannot redeem your money until the bond matures.
Tax-free bonds are a good option for investors with a long investment horizon of 10-20 years. They are also appropriate for senior citizens and those who want a stable source of income. These bonds are a great alternative to bank fixed deposits and regular corporate bonds because they have zero tax on their interested also offer a fixed te of interest and are rarely defaulted upon, which is a big plus.
The tax benefits of target maturity funds are a boon to investors with 3 year or more holding periods and those in the highest tax bracket. Nevertheless, other factors such as the maturity horizon of your planned need and your risk appetite should weigh in your portfolio construction.