WHEN the equity market looks like a haunted house with the kind of bloodbath seen and bank deposit rates expected to fall in a few months from now, debt instruments appear attractive with the kind of interest rate promised and the tax benefits that some offer. But, debt instruments too, come with their inherent disadvantages that investors must be aware of.
Bond market trading isn't active in India: Companies offering the debt issues say that the investors need not get locked in for three or five years or as long as the entire tenure of the issue, but can sell off the shares in the secondary market.
But, bond market trading is hardly active in India and you may have to stay put as an investor till the entire tenure of the issue.
Check the ratings: Companies have been offering attractive interest rates of more 13 per cent for nonconvertible debenture (NCD) issues. But, industry experts suggest checking of rates before subscribing to the issues. If an issue is rated AA or AAA and offers a 11 per cent interest, it is better to go for it than another issue that is rated B and offers 13 per cent interest. Investing in an issue, which is poorly rated, may cause a delay or even a loss of capital.
Tax-free bonds benefit only top tax bracket: Infrastructure companies issuing tax free infra bonds state that, although, the interest rates are a tad bit lower than NCDs at 9-odd per cent, they provide tax benefits unlike NCDs. The bonds are best suited for those with an annual income of over Rs 8,00,000, who would fall under the 30 per cent tax slab, according to financial experts.
For those in the 30 per cent tax bracket and have already exhausted the limit of Rs 1,00,000 under Section 80C, it makes sense to invest Rs 20,000 in these bonds because it would result in savings of Rs 6,000. For those in the 10 per cent or 20 per cent tax slab, it would help save only Rs 2,000-Rs 4,000 through such investments.
Investment analysts also recommend that investors should break up their investments between debt and equity instruments. Assuming that people split their total investment in equity-based instruments and debt-based instruments in the ratio 70:30, it would be wise only to invest only the debt portion of their planned investment in infrastructure bonds and not the equity portion.
Longer lock-in period: Unlike bank deposits, which have smaller tenures, or equity instruments, where one can buy and sell as and when one wants, debt instruments come with a longer lock-in period of a minimum of three years and maximum of seven years.
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