Investors looking for assured returns go for contributions towards Employee Provident Fund, Public Provident Fund and Sukanya Samriddhi Yojana. To be sure, these investments do not really pay you a regular interest in your hand; it gets accumulated and made available to you at the time of maturity.
However, given the regulatory guidelines around who can invest and how much money can be invested in these schemes, investors end up looking for some more alternatives. This is especially true for conservative fixed income investors looking for assured gains in a high inflationary environment. National Saving Certificate (NSC) and Floating Rating Saving Bonds (FRSB) fit the bill. Here are a few things you should know:Safety
NSC is issued by India Post and FRSB are issued by Reserve Bank of India (RBI) on behalf of Government of India. Both are seen as quasi-sovereign securities. They carry little credit risk. Investors who aim to earn a bit more without risking their capital may find it attractive.Return
While the NSC offers 6.8 percent rate of interest payable at maturity, FRSB pays 7.15 percent rate of interest payable half yearly. The interest rate of NSC is reviewed every quarter along with other small savings schemes. Rates once contracted at the time of investing in NSC does not change till the maturity, like any other time deposit. Rate of interest on FRSB however is linked with the rate of interest payable on NSC. FRSB offers 35 basis points more than that offered by NSC. If the rate of interest on NSC goes up then the FRSB would offer higher rate accordingly. The other way round also holds good.
The returns appear attractive if compared to other alternatives with similar tenures. For example, five year bank fixed deposit offered by State Bank of India – the biggest public sector bank, offers 5.5 percent for five years term.
Target maturity funds with residual maturity of around five years offer an indicative yield to maturity of 6.45 to 6.65 percent, although debt funds, by law, do not assure returns. Besides, some TMFs carry more credit risk than the sovereign-backed instruments.Tenure
NSC matures in five years whereas FRSB matures in seven years. However, FRSB offers early redemption option to senior citizens. For those aged 60-70, the lock-in period is six years. For those aged 70 – 80, the lock-in period lasts for five years. And those aged above 80 can take back their money after four years from the date of issue.
While the NSC can be offered as a collateral for raising a loan against it, the FRSB cannot be used as a collateral.
Interest earned on the NSC and FRSB are taxable in the hands of the investors. However, investments in NSC give you tax deduction benefits. You can invest in it up to Rs 1.5 lakh to get Section 80C tax deduction benefits.Should you invest?
A long lock-in and zilch liquidity decides whether you are suited for both these instruments. “Invest in these instruments if and only if you are comfortable holding on to them till maturity,” says Parul Maheshwari, Mumbai based Certified Financial Planner. “If you are looking for intermittent cash-flows (like a regular income in your hand) then you should consider FRSB over NSC as the latter pays interest on maturity, she adds.
As the interest is taxable in the hands of the investor, the investors in the high tax brackets need to consider the pre-tax yields. Those in the higher tax brackets, especially 30 percent and above, would find tax-free bonds more lucrative. Tax-free bonds offer around 4.5 percent yield. Also tax-free bonds offer better liquidity because many of them are traded in the stock exchange.
In the current inflationary scenario, locking in rates for long term is not a wise scenario and the short term rates are not at all remunerative. Hence the floating rate nature of FRSB may appeal to a few fixed income investors. A small caveat. The FRSB has not seen any revision in the interest rates since launch on July 1, 2020. That has left many investors guessing about how the reset of interest will happen in future. “When the interest rates came down, the government did not cut interest rates on small savings schemes including NSC. Interest rates on NSC which is benchmark for the FRSB, are unlikely to be cut in a rising interest rate environment,” says Joydeep Sen, Corporate Trainer- Debt.
In other words, if and when interest rates go up, there is no telling if NSC’s- and therefore the FRSB that benchmarks its own interest rate on the former- will go up.
Parul Maheshwari recommends investing in FRSB when the investor is comfortable with changes in interest rates. “It is difficult to predict the interest rates in future. Though the rates are expected to go up now, it is difficult to estimate the pace and quantum of rate hikes in near term. Also one may not know where the interest rates will be three or four years from now,” she adds.
Even if you are comfortable holding on to NSC or FRSB, do not invest all your fixed income portfolio in these. Given the uncertainty around the inflation trajectory and the interest rates, it is all the more important that you consider laddering your fixed income investments. For achieving medium term exposure these two instruments can be of help.ENDS