Bank FDs Competing with Tax-free Bonds

Bank fixed deposits (FDs), offering 9%-9.5%pa for different tenures, are facing tough competition from tax-free bonds from government companies which are offering up to 8.92%pa tax free for 20 years. It means any taxpayer will have lower after-tax returns on FDs compared to tax-free returns offered by these bonds. The higher the tax bracket, the better the returns for investors. Banks are now offering differential rates for periods like 400 days, 555 days, 1,111 days and so on.

State Bank of Hyderabad is offering “SBH DDD (Dasara Deepavali 555 Days Deposit)” with an interest rate of 9.55%pa for public and 9.85%pa for senior citizens. Punjab National Bank is offering 9%pa for 400 days FD, but the interest is 8.75%pa for deposits for one year to five years. Incidentally, the Bank’s one-year FD too has 9%pa rate. Bank of Maharashtra has 9%pa rate for over three to 10 years while 92-month FD rate is 9.15%pa. Union Bank offers 9.25%pa only for tenure of seven years seven months. All other periods offer lower rates. Savers putting money in FDs need to be aware of such offers from banks.
 

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Tax-free Bonds—Buy in the Secondary Market?

Tax-free bonds from NHPC and PFC are offering identical returns: 8.92%pa returns for 20 years; from AAA rated bonds, it is an attractive option for those in higher tax bracket.
Both issues were to close on 11 November 2013, but the NHPC issue is already oversubscribed. PFC too is oversubscribed for all categories other than retail and is expected to be fully subscribed. If you missed on the current offerings, you can wait for future tax-free bonds.

The other option is to buy them from secondary market. Tax-free bonds launched last fiscal were at rates about 1% lower than the current offers. Last year, these had a step-down clause that would make the rate for secondary market buyers 0.5% lower than that for the retail investor in primary market. With the interest rates on G-secs heading north and lower coupon for secondary market buyers, the prices of last year’s bonds have fallen. These are available at a price lower than the face value and you can expect the yield to maturity (YTM) to be close to the coupon rate of tax-free bonds recently offered. If the YTM is lower than the coupon rate of new tax-free bonds, it is not worth buying them.

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Top-rated Corporate Bond Yields

With the government securities (G-sec) yield remaining at 8.60% on
21st October, corporate bond yields have been similar to those offered a couple of weeks ago. You can expect to get yield of over 10% for AAA rated bonds maturing over the period of six months. Longer-term AAA rated bonds, maturing in next three years, can get a little over 9.5%.

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