Sovereign Gold Bond Scheme has been launched. Given the penchant we have for gold, I have seen a lot of curiosity around the Sovereign Gold Scheme. The major attraction under the scheme is the interest of 2.75% p.a. No other form of gold investment (physical gold, Gold ETFs, Gold Mutual Funds and gold jewellery) offers this kind of regular income. In this post, I will discuss the scheme in detail and various pros and cons of the scheme. Finally, I will discuss how it fares against other forms of gold investment.
How the Sovereign Gold Bond Scheme works?
The mechanism is simple.
- Instead of purchasing physical gold, you purchase equivalent number of gold bonds. Each bond unit is equivalent to 1 gm of gold. For example, purchase 50 units of gold bonds instead of 50 gms of gold.
- You get interest on the total purchase amount.
- At the maturity, you get the price of 50 gms of gold.
Other Salient Features
The Sovereign gold bond is denominated in multiples of grams of gold with a basic unit of 1 gm. You can purchase in multiples of 1 gm. You can purchase a minimum of 2 1 gm (1 unit) and a maximum of 500 gms (500 units) of Gold bonds every financial year.
Issue price for this tranche of bonds is Rs 2,684. This is the simple average of price of gold of 999 purity for the previous week (October 26-October 30) as published by Indian Bullion and Jewellers Association.
Fifth tranche of gold bonds is open from September 1, 2016 till September 9, 2016. The issue price for the latest tranche is Rs 3,150 per gram. It is the simple average of price of gold for the previous week (August 22-August 30) as published by Indian Bullion and Jewellers association (IBJA).
The rate of interest for these bonds is 2.75% p.a. The interest shall be paid every six months. So, for an investment of Rs 1 lacs, you will get Rs.1,375 every six months.
How can I invest in Sovereign Gold Bonds?
Bonds will be sold through banks and designated post offices.
The bonds are available in both paper and demat format. These bonds will be listed on exchanges.
A few investment portals such as ICICIDirect also permit online investment in Sovereign Gold Bonds.
Who can invest in Sovereign Gold Bonds?
Only residents can invest. Non-resident Indians (NRIs) cannot invest in these bonds. HUFs and trust can also invest.
What is the maturity of Sovereign Gold Bonds?
The bonds will mature in 8 years. However, the investors have an option to exit after the 5th year. This option of premature exit can be exercised on interest payment dates. This means, after 5 years, you will have an option to sell it back to the Government.
Bonds will be redeemed in cash on date of maturity at the prevailing price of gold. Please note you will not get physical gold at the time of redemption. You can use the redemption amount to purchase gold in the market though.
The redemption price shall be the average closing price of gold of 999 purity during the week prior to redemption (as published by IBJA).
You can exit before 5 years too. The sovereign bonds will also be listed on stock exchanges. So, theoretically, you have an option to exit before 5 years too. It remains to be seen if there will be enough liquidity in the secondary market for these bonds.
The first three tranches of Sovereign Gold Bonds have already been listed on stock exchanges. However, the liquidity is quite low.
Is there any risk?
The bonds are issued by Reserve Bank of India on behalf of the Government of India. Therefore, these bonds carry sovereign guarantee. There is no risk of default.
The redemption value of these bonds is linked to the price of gold. Hence, there is price risk. You would have borne the same risk if you had purchased physical gold.
If at the time of redemption, value of gold is lower than your purchase price (of Rs 2,684 Rs 3,150 in this tranche), you will suffer capital loss. For instance, if at the time of redemption, the prevailing price of gold is Rs 3,000 per gm, then you will get only Rs 1.5 lacs back (for 50 gms). Remember you had invested Rs 1.57 lacs in the first place.
However, if gold prices go up, you will get the dual benefit of interest and capital appreciation. Suppose if the gold price has moved to Rs 3,500 per gm by the time you redeem, you will get back Rs 1.75 lacs.
What about the taxation of such bonds?
Interest will be taxed at your marginal tax rate i.e. it will be added to your income and taxed as per your income tax slab.
Tax treatment of capital gains will be same as that for physical gold. If you hold these bonds for less than 3 years, capital gains, if any, will be taxed at your marginal income tax rate. For more than 3 years, capital gains will be taxed at 20% less indexation.
You can purchase physical gold today and hold it for 50 years. However, gold bonds need to be mandatorily redeemed after 8 years. Normally, this redemption would have given rise to capital gains tax implications. This would have been a great disadvantage for gold bonds.
To take care of this issue, the Government in Union Budget 2016 clarified that redemption of gold bonds will not give rise to capital gains tax liability(by amending Section 47).
There is no capital gains tax liability if you redeem these bonds (sell it back to the Government).
Do note this benefit is only for redemption.
If you sell in the secondary market, be prepared to pay capital gains tax (if there is gain).
If you sell within 3 years, capital gains will be taxed at marginal income tax rate.
If you sell after 3 years, capital gains will be taxed at 20% after indexation.
TDS is not applicable at the time of redemption of these sovereign gold bonds.
Good Points
- You get 2.75% p.a. rate of interest which is not there with any other form of gold. You don’t get interest income under any form of gold investment or purchase.
- Like physical gold, you will be able to take loans against these sovereign gold bonds too. The option must be used only in case of an emergency. The rate of interest on the sovereign bold will reduce the total interest burden of such loans. However, if you are already thinking about loan against these gold bonds, you shouldn’t be investing in these gold bonds in the first place. Personally, I would rather sell gold and get funds than take loan against it.
- If you purchase in demat format, you do not need to worry about theft. Even physical gold is not much of a concern; you can simply take a locker in a bank.
- Partial premature withdrawals are allowed in multiples of 1gm. This can happen only after 5 years.
Drawbacks
- You may find it difficult to exit at a favourable price in the secondary market. The liquidity for the first three tranches is quite low.
Your money will be virtually locked-in for 5 years. Though the bonds will be listed on stock exchanges, do not expect liquidity to be too high.Other forms of gold investment do not come with such restrictions. - The interest earned is taxable. Capital gains taxation is same for physical gold, Gold ETFs, Gold Mutual Funds and gold bonds.
After 8 years, you must redeem the bonds giving rise to capital gains implications. There is no such compulsion in other forms of gold investment.- You have to invest lump sum in these bonds. The present issue is open only for a few days. If you want to invest after that, you have to wait till the next round of issuance before you can buy. You have an option to purchase from the secondary market but the liquidity is low.
To be honest, none of the drawbacks mentioned are serious.
Should you invest in Gold Bonds?
When it comes to regular income (interest), gold bonds beat any other form of gold investment hands down. There is just no comparison. Gold ETFs and mutual funds have a significant expense ratio (1-1.5% p.a.) to take care of too. Jewellery comes with making charges. So, that will compromise the returns.
Above statements would make you think these gold bonds are a no-brainer. Well, that’s not the case. You need to look at suitability of the investment too.
If you are thinking about investing in Sovereign Gold Bond Scheme, there are a few questions that you need to answer.
- Do you want to invest in gold? Or do you want to accumulate for a purpose?
- If you must invest in gold, should you invest in physical gold, Gold Mutual Funds, Gold ETFs, gold Jewellery or sovereign gold bonds?
- What do you really want? Do you want to gold or do you want power to purchase gold whenever you want to?
Gold is a speculative asset. When you try to value a stock or a bond, you discount the future cash flows at an appropriate discount rate to arrive at the present value. Gold does not generate any cash flows. As I understand, gold derives its value more from how the other asset classes are performing. In my opinion, gold as a percentage of your portfolio should not exceed 5-10%. So, if you already have say, 10%, in gold, there is no need for you to invest further in gold. You can simply give gold bond scheme a pass.
If you want to accumulate for, say your daughter’s wedding in the next 5 years, gold bond scheme will not fit the bill. In such a case, you are better off buying physical gold. Rather, go and purchase jewellery. And keep in a bank locker. No one can tell where gold prices will be in a few years. But, jewellery making charges will certainly experience inflation.
If you want to trade in gold or want to benefit from fluctuations, Gold ETF or gold mutual funds are better. ETFs will offer much better liquidity. However, do note not all Gold ETFs have good liquidity.
If you plan gold to accumulate gold for your daughter’s marriage which is atleast 15-20 years away, forget about all the gold investments and invest in equity funds.
A number of people start purchasing gold for their children’s marriage just after they are born. Now, think about it, the marriage of a new born is at least 20-30 years away. If you are purchasing gold only for the marriage, you can purchase gold at the time of marriage itself. Why do you need to start accumulating from day one? You should do equally well if you have enough money to purchase requisite gold at the time of marriage.
In that case, all you want is the power to purchase gold at the time of marriage. Purchase of gold jewellery for your daughter’s marriage after 25 years could be one of your goals and you can start investing for the goal just like other financial goals. As you get closer to your goal (or when gold price falls sharply), keep liquidating equity investments gradually and start purchasing gold/gold jewellery with the money. This is of course with the assumption that equity investments will outperform gold over the long term.
PersonalFinancePlan Take
Despite the fact that gold bonds offer regular interest income, these bonds somehow do not seem to fit any requirement of gold purchase or investment. For short term usage, physical gold or jewellery suits the best. To benefit from gold prices fluctuations, ETFs fit the bill. In both cases, gold scheme loses out because of liquidity constraints. For long term goal or gold usage, in my opinion, a mix of equity funds is the best way to go.
The only place where I see gold bond scheme can fit in your portfolio is where you want to invest in gold for diversifying your portfolio. That will give your portfolio some hedge against extreme economic local or global turmoil along with a regular (albeit small) interest income. Gold can be a very good against sharp rupee depreciation too. So, you can invest in Sovereign Gold Bonds to diversify your portfolio.
On a different note, sometimes, we tend to make things too complex. Not every decision can be looked at from a financial angle. Data analysis and number crunching in excel sheets can only take you so far. Emotional and psychological aspects play a crucial role in decision making. For many Indian women, gold is much more than investment. It is a tool of empowerment. I am quite sure my mother will be many times more comfortable holding physical gold than gold bonds or gold ETFs. An interest rate of 2.75% p.a. is unlikely to change to her opinion.
For more details about Sovereign Gold Bond Scheme, please read the RBI Circular and FAQs on gold bonds.
Image Credit: Jeremy Schultz, 2007. The original image and information about usage rights can be downloaded from Flickr.
Deepesh is a SEBI registered Investment Adviser and Founder, PersonalFinancePlan.in
41 thoughts on “Sovereign Gold Bond Scheme: Should you invest?”
very nicely written, thank you for guiding.
Thanks Rounak!!! Glad you found the post useful.
Well written thanks
Thanks Sylvester!!!
How many bonds have been subscribed in the first week ?
Could not find the data on RBI website.
Hello can anyone tell me how to cancel this?
Very well written. I read a no of articles including several by scheduled banks. I must say your article definitely helped influence my decision . Keep up the good work.
Thanks Sanat!!!
And what was your decision to go for it or not
I am not aware of Sanat’s decision.I will try to add to it. However, when it comes to personal finance, there is no crisp answer. Personal Finance is personal. What may be a good investment product for Sanat may not be a good product for you. In my opinion, gold as an investment shall only be for diversification. Even though Gold bond is a good product, it does not seem to meet your requirement for gold in most scenarios. Invest only if you want to diversify your portfolio.
Hi Deepesh,
Thank you very much for the post !! It is very useful…
I have a query, does Sovereign Gold Bond Scheme gives us tax exemption under Sec 80C or any other Sec.
Thanks to clarify.
Regards,
J, Giridhar
Hi Giridhar,
There are no tax benefits under Section 80C (or any other section) for investment in sovereign gold bonds.
Even the interest earned on the bonds is taxed at your marginal tax rate (as per income tax slab)
Well written article. I think in other equity based investments, the long term capital gains is exempt, whereas gold bonds are not. So I think this is one more disadvantage. Is my understanding correct?
Almost. The long term capital gains on equity investments are exempt from tax. For gold bonds, under the latest Budget proposal, there will be no capital gain on redemption (holding till maturity). However, if you sell in the secondary market before maturity, you will have to pay capital gains tax.
Actually i am little bit confused that whether the interest amount after maturity is a capital gain tax or normally taxable as other income.If it is other income then what should be the head? will it be taxed at 30%/15%/as per slab rate.Please clarify.
Thank you…the article is well written.. calls out pros and cons clearly.
Thanks Uma. Glad you liked the post. Please do share with friends and family
Thanks a lot Deepesh. Excellent clarity in the way you had presented it. Definite help for anyone who needs advice.
Thanks for your kind words!!!
Please do share the post with friends and family.
Very informative…Thanks
You are welcome, Gargi!!!
Suggest you go through my latest post on these bonds too.
There are a few additions. You might find the post useful.
http://www.personalfinanceplan.in/opinion/fourth-tranche-of-sovereign-gold-bonds-should-you-invest/
Very nice article. good Job
Thanks Sunil!!!
Hi Very Nice Article..For a person who wants to start investing (considering as of now till date he has not invested in any investment tool) ..What do you suggest ?
Should he invest directly in Equity (Shares) or Like in such bond where it seems safe due to gov & RBI involvement
Thanks Raja.
As I mentioned, gold is merely for diversification. It is not a smart decision to keep your entire invest in gold.
Moreover, sovereign guarantee has a different connotation when it comes to gold bonds. The guarantee is that the government will return the gold price prevailing at the time of maturity. That does not mean that you cannnot make a loss. If the gold price subsides in the coming 8 years, you will make a loss.
If you are a new investor, pick up a diversified portfolio.
Pick up equity mutual funds (instead of direct equity). Pick up a few debt products (such as FD, debt MF, PPF etc).
If you need professional assistance, suggest you visit offerings section on my website.
http://www.personalfinanceplan.in/our-offerings/
Good luck!!!
Actually i am little bit confused that whether the interest amount after maturity is a capital gain tax or normally taxable as other income.If it is other income then what should be the head? will it be taxed at 30%/15%/as per slab rate.Please clarify.
Dear Sandeep,
There will be no interest amount after maturity.
Interest amount before maturity is taxed at your marginal income tax rate (income tax slab).
It is just that if you hold till maturity, there will no capital gains tax liability.
Hope that clarifies your doubt.
Dear Deepesh,
Thank you very much for your kind attention. But sorry to say that i am still confused just because you told that there will be no interest after maturity.for example Now i have invested of rs 1,45,800 in sovereign gold bond for 8 years,so could you please explain what should be the tax treatment if i sale it before 8 years and treatment after 8 years.Eagerly waiting your suggestion.
Thanks!!
sandeep
Dear Sandeep,
At maturity, govt pays you back the entire amount (no. of grams X prevailing price of gold).
And the interest paying arrangement is over. There is no contract between you and Government once the bonds matures.
It is similar to a fixed deposit where the bank pays you interest only till maturity.
You can always to choose to invest redemption amount in another Sovereign Gold Bond issue but that is a different matter altogether.
Tax treatment if you sell before maturity:
1. if it is before 3 years, capital gain will be taxed at your marginal income tax rate (income tax slab)
2. If it is after 3 years, capital gain will be taxed at 20% after accounting for indexation.
Tax treatment if you redeem at maturity:
Any such won’t be considered capital gains and hence there will not be any tax liability.
Hope this clarifies your doubt.
Thanks a lot Deepesh for your kind suggestion.
A lot has been written about the tax treatment of these bonds if sold before maturity.
I would like to know what is the tax treatment if I buy in the secondary market and the hold till maturity.
As I understand, redemption of gold bonds is not considered transfer under Section 47 of the Income Tax Act.
Therefore, if you buy from secondary market, hold it till maturity and redeem from the Government, there will not be any tax liability.
Maximun limit for gold bond subscribe 500 grams .
Any limit for buying gold bond in secondary market.
I want invest 1000 grams per year .
500 grams through subscribe and 500 grams through secondary market.
Any problem for buy gold bonds more than 500 grams per year.
You are not permitted to buy more than 500 gms of gold per financial year.
Already ,Through trading account I bought 900 units secondary market.
Any problem .
Isaue 2016 -17
Subscribe 500 bought on September 2016
Another 900 bought on trading accounts between September 2016 tto March 2017.
Any problem holding 1400 units in my demat account.
I ask limit for buying gold bonds in trading accounts per year.
I bought 1400 grams in 2016 -17 financial year.
But u mention limit is 500 grams
What can I do now
Dear Vijay,
I am not sure if the limit of 500 gms is for investment or for just the application limit.
Regulation not very clear about this.
One interpretation could be that you can not apply only in the initial offer if you have invested (irrespective of mode) 500 gms in gold bonds. So you can keep purchasing in secondary market without any cap.
Please drop an e-mail to sgb[at]rbi.org.in and seek clarification from RBI itself.
Sir please tell me one thing in how many days we got our gold bonds from the date of apply
Credit to demat account may take some time. Wait for atleast a week or so.