Sovereign gold bonds are now the best bullion bet

With the government scrapping long-term capital gains (LTCG) tax benefit on debt instruments, it will take away the sheen from gold exchange traded funds (ETFs) and make Sovereign Gold Bonds (SGBs) more attractive.

However, those investing in physical gold will continue to benefit from LTCG tax at 20% with indexation, when the metal is sold after three years of purchase. This will create a tax arbitrage between physical gold and gold ETFs.

Gold ETFs will lose the tax advantage and will be taxed as per the tax slab, just like other debt mutual funds. In contrast, on redeeming SGBs after eight years, the gains are tax-free. In case of early redemption, the gains get benefits of indexation.

Tax on gold ETFs

Investments in gold ETFs gained momentum because of the ease of investing, liquidity and nil storage charges. To invest in these open-ended mutual fund schemes, investors need a demat and trading account. For taxation purposes, gold ETFs are treated as non-equity assets. If units are sold after three years, long-term capital gains are taxed at 20% after indexation. If redeemed before three years, short term capital gains tax are levied at the individual’s slab rate.

Also read: Modi Govt’s surprise tax move: Fixed Deposit to Equity Mutual Funds, 5 investments that will gain

From April 1, gains at the time of redemption of gold ETF units will be taxed at the individual’s slab rate irrespective of the period of holding. There will be no indexation benefit for the long-term investments.

Gold ETFs are primarily preferred by shorter-term investors, who do not want to hold for as long as eight years. ETFs and gold mutual funds also give the option to invest in smaller lots through systematic investment plans.

Gold ETFs sold by mutual funds are backed by 24-carat physical gold and investors do not have to worry about purity or storage. They are traded on the exchanges at the prevailing market price of physical gold. The returns are benchmarked on the real returns on physical gold, subject to tracking errors. There are no deductions, except for exit load for a particular period holding.

Advantage Sovereign Gold Bonds

Launched in 2015, SGBs are gaining popularity as investors earn interest of 2.5% every year. These bonds are issued by Reserve Bank of India in multiple tranches throughout the year. The minimum investment is one gram and the annual limit is four kilogram for a Hindu Undivided Family.

An investor has to hold the bonds for eight years, with an exit option from the fifth year onwards which can be exercised on the interest payment days and thus get the current market price of gold. One can pledge the bonds to get a loan up to 75% of its market value.

Maneesh Bawa, executive director, Nangia Andersen LLP, says instead of gold mutual funds or gold ETFs, investing in SGBs would be a tax-efficient option. “SGBs pay an interest rate of 2.5% per annum and do not attract any capital gains tax if redeemed on maturity after eight years.” However, interest income is taxed at the individual’s tax slab.

Also read: Corporate appetite for debt funds likely to wane

Similarly, Harshad Chetanwala, co-founder, MyWealthGrowth.com, says SGBs were already a good option to invest. “Now they will become more attractive as they also offer interest along with the appreciation in gold prices.”

As gold is a safe haven asset, investors look at gold especially when inflation rises. In fact, gold prices (Comex) have rallied 10% since early March as the banking turmoil in the US and Europe has boosted the yellow metal’s safe haven appeal. Moreover, when the equity markets do not perform well, gold can help turn around the portfolio by offsetting the losses.

Investing in physical gold has limitations as storage and securing the metal is an expensive affair. Investors do not earn any regular returns and get only capital gains at the time of selling if the prices rise. So, investing in SGBs can help investors to diversify their portfolio and also gain from the tax benefits.

GOLD RUSH

* Tax arbitrage between physical gold and gold ETFs from April 1 as the latter loses LTCG tax & indexation benefits

* SGBs earn interest rate of 2.5% per annum and do not attract any capital gains tax if redeemed on maturity after eight years

* Gold ETFs are primarily preferred by shorter-term investors