Are market-linked debentures tax-efficient? Find out

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June 22, 2021 12:04 PM

In India, Covered bonds are relied on by many institutional investors like Mutual Funds, Private Family offices who want good returns however, need better credit quality. Though the risk is high in covered bonds, it’s lesser than that in equity.

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Market-linked debentures are debt securities linked to market performance, due to which they enjoy equity taxation.

Anshul Gupta, Co-Founder, WintWealth, says, “If these debentures are held for more than one year, the investor is only charged 10 per cent LTCG (Long Term Capital Gain) on the interest irrespective of the investor’s income slab, which makes them tax-efficient.”

Debt instruments do not come with the same risk as equity. Industry experts say, if the benchmark chosen is low enough, the investor doesn’t take on as much risk. Gupta adds, “They are not subject to as much uncertainty. That is because markets are more likely to stay above this benchmark and investors can still enjoy high returns.”

Despite low volatility, why are Covered Bonds and MLDs still a niche in the market?

Covered Bonds and MLDs are not available to everyone. They generally require large ticket sizes of one crore or more. Experts say that is why they are still niche and have low participation. However, this is changing nowadays. These are now available at smaller ticket sizes as well.

Gupta says, “Covered Bonds, a commonly used product in European markets for more than a century, is an effective solution here. How this works is when the regulator asks the NBFCs to hold a minimum of 5–10 per cent of the loans, company X will ask NBFCs to provide 100 per cent of the recourse over the investment in the products, thus offering a secure structure to their investors. This means that even if all the loans in the pool default, NBFC would still be liable to pay back the money.”

He further adds, “The NBFC is further obligated that if a loan has become NPA, it must be replaced with a new performing loan. In India, Covered bonds are relied on by many institutional investors like Mutual Funds, Private Family offices who want good returns however, need better credit quality. Though the risk is high in covered bonds, it’s lesser than that in equity.”

What type of investors should look at market-linked debentures?

Industry experts say, investors in the 30 per cent bracket should primarily look at these because they stand to gain the most. Instead of being charged their slab rate, they pay LTCG at 10 per cent, putting less of a dent in their income.

Additionally, experts say that people interested in better debt investments can also try these based on their risk appetite.

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