Thursday, February 10, 2011

Infrastructure Bonds

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Section 80CCF of Income Tax Act ,1961 as inserted by Finance Act,2010 w.e.f 1-4-2011 says:

Deduction in respect of subscription to long-term infrastructure bonds.
In computing the total income of an assessee, being an individual or a Hindu undivided family, there shall be deducted, the whole of the amount, to the extent such amount does not exceed twenty thousand rupees, paid or deposited, during the previous year relevant to the assessment year beginning on the 1st day of April, 2011, as subscription to long-term infrastructure bonds as may, for the purposes of this section, be notified by the Central Government.

Description:
The investment market in India is flooded with a range of products like Life insurance policies, NSE and PPF, it really becomes very difficult for the individual to decide on the product that yields the maximum benefits. But most of the people already have tax saving investments to their credit and they want to further invest in products that will exempt them from paying heavy amounts as tax and also yield returns in the form of interest. And in this Scenario, Infrastructure bonds are the latest introduction in the field of investment. An important thing to be kept in mind is that no two people have the same needs and requirements. Hence people should invest according to their requirements.
There are a number of companies that offer infrastructure bonds like IFCI, LIC SBI, IDFC and L&T Infra. However the concept of investing in bonds is still at a nascent stage in the country. People still are not very well aware of the product and think twice before making such an investment.
Here is a brief analysis on this product-

There are four parameters on which we will analyze investment option:
1. Actual tax saving
2. Return on Investment
3. Opportunity Cost
4. Effect of Inflation

Assumptions:
1. Lock In period of 3 yrs
2.  Rate of return is 5.5% per annum
3. Inflation rate 8%

Tax Groups:

Tax group 1: Taxable income Rs. 1.6-5 lakhs
Tax group 2: Taxable income Rs. 5-8 lakhs
Tax group 3: Taxable income above Rs. 8 lakhs

Parameter 1: Actual tax saving
Actual tax saved on the investment; so for an individual having 10% tax slab the tax saved by him is Rs.2,000 (10% of Rs 20,000 = Rs 2,000)

Parameter 2: Return on Investment
At the end of Lock in period of 3 years, on an investment of Rs 20,000 the interest earned would be Rs. 3,484. Total return on 3 year lock in period is Rs 25,485 (Rs 20,000+3,484+2,000).

Parameter 3: Opportunity Cost
If Rs 20,000 had been invested in other tax saving instruments like ELSS Mutual Funds which also comes under 3 yrs lock in period which gives a return of 15% (which is very reasonable considering that the benchmark Sensex and many mutual funds have given comparatively higher returns on a long period) the effective return will be Rs 27, 376 (Rs 20000-2000=Rs 18000 invested @15% per annum for 3 yrs).

Parameter 4: Effect of Inflation
The minimum amount required to counter the inflation at the end of 3 yrs is Rs 25,194 at 8%

                Thus, it is clear that for a person in tax group 1, the benefit is of Rs 291 (25485-25194) whereas the benefit out of paying the tax and investing the balance in any decent instrument would be Rs 2,182.
So it is clear from the above analysis that if you are looking for getting tax benefit for an investment locked in for 3 yrs in Infrastructure Bonds then people who fall in tax group1 should not invest in Infrastructure Bonds. If you are in the tax group2 then think of only upto 3 yrs period investing in Infrastructure Bonds to remain neutral and people in the tax group3 are highly benefited from Infrastructure Bonds and can invest for long term.

Points to remember:
  • Infrastructure Bonds do not offer any protection against high inflation since the rate of interest they offer is pre-determined.
  • Against the pledging of the infrastructure Bonds with a bank, one can borrow money from banks. The amount depends on the market value of the bond and the credit quality of the instrument. 
  • Moreover, it should be noted that although Infrastructure Bonds are considered to be safe, there is no assurance of getting the full investment back.
Interest Income is Taxable:
The interest income from infrastructure bond is taxable. The interest will be added to investors taxable income. This means even though the investment in these bonds is exempt from tax (maximum Rs 20,000). interest income is not. Thus investment under section 80CCF is advisable only after the investor has completely exhausted Rs One Lakh investment under section 80C.

The proposed DTC has left infrastructure bonds out of the ambit of tax-saving investment avenues. 
 

4 comments:

  1. Hi Ankita

    Really very elaborate description on 80ccf with all pros and cons

    That apart, there are other sections in the IT, which also entitle the Tax payers for some tax rebate like 80E ( interest on education loan ); further interest on borrowings from housing loans; wherein even co-applicant can also claim interest as tax rebate et al

    If these are added, I think, it would be add flavour to the purpose

    Am sure, you would appreciate

    Thnx in the meantime, hoping continuing healthy and fruitful inter-acion

    ReplyDelete
  2. Pankaj, Firstly thanks for giving your valuable time in making an attempt to read the post.
    Here, i concentrated only on 80ccf as it is the newly added section and the common mass are not aware about it in detail.

    Definately, i work out to write a brief post on ur suggestions..!!

    Surely, we will continue healthy and fruitful interaction..:)

    ReplyDelete