RBI 7.75% Bonds no longer available: Where to invest now?

Published on / By M. Pattabiraman Twitter: @pattufreefincal / 1 Comment

Published: May 27, 2020 at 10:08 pm

Last Updated on May 27, 2020 at 10:08 pm

The RBI has announced the cessation of its 7.75 per cent Savings (Taxable) Bonds, 2018 with effect from the end of business day, May 28th 2020.  Where should one invest now?

First of all, it is best to try and buy them tomorrow – the last day as a huge rush should be expected. Second of all,  it is not the end of the world. As pointed out in this article – Tax-free bond vs RBI 7.75% bonds: Which is better? – the post-tax yield on RBI bonds for those in the 30% slab is only 5.33% for the cumulative option.

In addition, they were not liquid. They come with a lock-in and cannot be sold mid-term: 7 years for those less than 60; 6 years for senior citizens less than 70; 5 years for senior citizens less than 80; and 4 years for older investors.

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If you are a senior citizen and wanted income from these bonds, then Senior Citizen Savings Scheme (5 years) and the PM Vaya Vandana Yojana (2020) (10 years) which is now open have the same interest rate of 7.4% which is reasonably close. Even if a new tranche of such bonds is announced, they are unlikely to be at this high rate.

If you do not need income and only growth, but scared of debt mutual fund then the only “safe” option is recurring deposits or fixed deposits at your local post office. However, the loss due to tax would be significant over the long term.

If you can overcome paranoia then for long term goals, arbitrage funds can be used as a tax-efficient (more post-tax returns than RBI bonds, liquid option. Recall that arbitrage funds are taxed as equity funds. After one year, the gain up to one lakh are tax-free (overall equity funds) and beyond that taxed at 10.4%.

A 6% return from arbitrage fund is enough (5.37% post-tax) to beat the 7.75% bonds even without factoring in the one-lakh tax-free gains. I use arbitrage funds as a debt component for my son’s future goal: Lessons from investing for my son’s future for ten years

Under certain circumstances, arbitrage funds can also be used for tax-free income. See:

Liquid fund or even overnight funds are also reasonably “safe options” that could beat the 7.75% bonds after three years. Naturally, this is not a guarantee but we cannot run away from any kind of market risk. The cost would be prohibitively high. Reasonable options with low credit-risk exist in this space for those who can look calmly.

Therefore there is nothing to fret about the closure of these bonds. There are better options.