Third Tranche of Sovereign Gold Bonds: Should you invest?

The third tranche of Sovereign Gold Bonds is out. The bonds will be open for subscription from March 8, 2014 till March 14, 2016. The bonds will be issued on March 29, 2016. RBI came out with earlier tranches in November and January this fiscal.  The issuance in the first and second tranche was done at Rs 2,684/gm and Rs 2,600/gm respectively. The bonds worth Rs 1,050 crores have already been issued in the first two tranches.

The issuance of bond in this tranche will be done at Rs 2,916 /gm of gold. The gold prices have run up in the last month and a half. Hence, the issuance price is much higher in this tranche. I have done a detailed post on Sovereign gold bonds earlier.

Must Read: Sovereign Gold Bonds: Should you invest?

In this post, I will concentrate only a few important points about this issue of gold bonds. I will also discuss a beneficial tax proposal in the latest budget about capital gains on redemption of gold bonds. You can refer to RBI Notification for more details.

Points to Note

1. Sale of the bonds is limited to resident Indians including individuals, HUFs, trusts, Universities and charitable trusts.
2. NRIs cannot invest in this tranche of Sovereign Gold Bonds.
3. Sovereign Gold Bonds are denominated in grams of gold.
4. Minimum investment limit is 2 grams of gold (2 bonds).
5. Maximum investment limit is 500 gm of gold per financial year.
6. In case of joint investment, the investment limit will be applied to first applicant only.
7. Interest will be paid at the rate of 2.75% per annum on a semi-annual basis (same as in the first tranche). No other form of gold investment will give you this interest income.
8. The Sovereign Gold Bonds will mature in 8 years though you will have an option to exit the position (by selling it back to the Government) after 5 years. Option to exit after the 5^th year can be exercised on interest payment dates (twice a year).
9. The bonds are proposed to be listed on exchanges. Hence, exit before 5 years is a possibility. A lot will depend on liquidity.
10. At the time of maturity, you will get back the price of gold prevailing at the time. Hence, if the gold prices decline, you may get back less than what you invested. You will not get physical gold.
11. The bonds have been issued by RBI on behalf of the Government of India. Hence, there is little default risk.
12. Since the redemption price is linked to price of gold, there is price risk. You would have borne the same risk if you had bought physical gold.
13. The Sovereign Gold Bonds can be used as collateral for loans just like physical gold.
14. These bonds can be purchased from banks and designated post offices. You can also invest online through portals such as ICICIDirect.

Tax Treatment of Sovereign Gold Bonds

There is no tax benefit on investment in these bonds.

Interest income will be taxed at your marginal income tax rate (income tax slab).

There is an interesting change proposed in the latest budget for capital gains taxation of Sovereign Gold Bonds

If you hold the bonds till maturity and then redeem the bonds, there shall be no Capital Gains tax liability.

However, if you choose to sell these bonds in the secondary market, you will have to pay capital gains tax.

Short term gains (holding period <= 3 years) shall be taxed at the marginal income tax rate (as per income tax slab of the investor). Long Term Capital Gains shall be taxed at 20% less indexation.

The idea is to make capital gains taxation of Sovereign Gold Bonds at par with physical gold investments. In case of physical gold, there is no tax liability till such time you decide to part with it and sell it. However, in case of Sovereign Gold Bonds, you will have to compulsorily redeem investment after 8 years (even if you want to be invested in gold). Earlier, this was giving rise to capital gains tax liability. Now, with the latest budget proposal, this has been done away with.

Do note there is still capital gains tax implication if you sell (and not redeem) the bonds.

Must Read: PFP Primer: How are your investments taxed?

Should you invest in Sovereign Gold Bonds?

You must look at why you want to purchase gold (or take exposure to gold). You will get the answer yourself.

1. If you want to use as jewellery, gold bonds are no use. You cannot wear these bonds around your neck.
2. If you want to trade in gold (and speculate on gold prices), gold ETFs are better suited.
3. If you are saving for your kids’ marriage in 2-3 years, gold bonds serve little purpose. Your money is locked in for 5 years. You have option to exit in the secondary market but liquidity in the secondary markets can be a problem. You are better off purchasing physical gold and jewellery.
4. If you are saving for your kids’ marriage in 15-20 years, you can explore equity mutual funds. You can gradually shift your investments to physical gold as you move closer to goal. However, investing in gold bonds for this purpose is still acceptable to me.
5. If you are looking to purchase gold for diversifying your portfolio, Sovereign Gold Bonds are a good fit. Moreover, you earn interest at the rate of 2.75% p.a. No other form of gold investment will give you this benefit.

With no capital gains tax liability for redemption (and not sale) of gold bonds, Sovereign gold bonds can be a good instrument for portfolio diversification.

I don’t know where gold prices are headed. Hence, I can’t tell if Rs 2,916/gm of gold is cheap or not. Decide if you need gold or why you need gold. If you feel the price is too high, you can invest a small portion of your gold requirement in this third tranche and hope for lower prices in the subsequent tranches.