Investment portfolio of an individual must have instruments that offer different risk return profiles. Investors must have a proper mix of fixed income instruments as well as equity linked instruments to ensure the portfolio allocation reduces risk and optimises returns in the long term.
In the rising interest rate scenario as we are facing right now, equity linked investment leads to underperformance as fixed income products offer better returns. We have seen all the banks and NBFCs raising interest rates on their deposits to attract investors. Most of the fixed income allocation of investors is done through fixed deposits or debt mutual funds.
Apart from above, Indian Postal Service or Post Offices in India offer multiple fixed income instruments like Post Office Monthly Income Scheme, Post Office Fixed Deposit, Kisan Vikas Patra, National Savings Certificate, Senior Citizens Savings Scheme. All the products are backed by the Government of India and have sovereign guarantee.
In this article, we are going to discuss a relatively lesser-known investment avenue that offers sovereign guarantee and is issued by the Reserve Bank of India.
RBI Floating Rate Savings Bonds are fixed income bonds offered by Reserve Bank of India to retail investors. These bonds are designed to offer a flexible investment option with interest rates that are linked to prevailing market rates. Interest rate is linked to a benchmark rate.
This benchmark rate is the rate of interest on national savings certificates offered by Indian Postal Service. RBI Floating Rate Savings Bonds offer a spread of 0.35% over the prevailing national savings certificate rate.
Example: If the rate of interest on national savings certificates is 7% then the rate of interest on Floating Rate Savings Bonds is 7.35%.
Let’s deep dive into various features of this bond.
Interest rate: The interest rate on Floating Rate Savings Bond is linked to the prevailing National Saving Certificate (NSC) rate and is reset every six months. Interest on the bonds is payable on a half yearly basis. Interest is compulsorily paid out and compounding option is not available. Interest payment dates are 1st January and 1st July.
Investment Amount: The minimum investment amount is Rs. 1,000 and there is no maximum limit for investment. The investment can be made in multiples of Rs. 1,000. No upper limit is a great feature for HNI and UHNIs to lock-in their money into this product.
Who can invest: Individuals can invest in both, single as well as joint holding mode, and Hindu Undivided Families (HUFs) are also eligible to invest in Floating Rate Savings Bonds. Non Resident Indians (NRIs) are not allowed to invest in these bonds.
Taxation: Interest earned on Floating Rate Savings Bond is taxable under Income Tax Act. This interest income is taxable at normal slab rates applicable to an individual. However, no tax is deducted at source while making payment of interest from RBI. Further note that investment in Floating Rate Savings Bond is not eligible for deduction in the Income Tax Act.
Tenure: The tenure of Floating Rate Savings Bond is 7 years. However, these bonds can be prematurely redeemed after the completion of 5 years from the date of issue subject to certain conditions. The bonds cannot be redeemed before the completion of 5 years.
Mode of holding: Floating Rate Savings Bond can be held in dematerialized form or in physical form. If the investor holds the bond in dematerialized form, then he/she will receive a Statement of Account instead of a physical certificate. It is important to note that Floating Rate Savings Bonds are not tradable in the secondary market even if they are held in demat form.
Collateral for loan: Floating Rate Savings Bond can be used as security or collateral to obtain a loan.
Nomination facility: Nomination facility is available for floating rate savings bonds; Form C is the prescribed form that needs to be filed and submitted to register nomination.
Few important points to consider before investing in Floating Rate Savings Bond:
Interest rate on these bonds is floating, this means that interest on these bonds is guaranteed but the interest rate is not fixed and can fluctuate on upside and downside. There are various alternatives that offer fixed interest rates for a longer tenure, post office national savings certificate is one such alternative.
Liquidity is not available for the first 5 years and is available post 5 years on certain conditions only. An investor looking for a fixed income opportunity along with liquidity would shy away from this investment avenue.
Compounding of interest is not permitted and interest payout is compulsory. A Senior Citizens Savings Scheme offers a higher interest rate with the same features. In case of senior citizens, it is suggested to first allocate the maximum permissible amount to the post office senior citizens savings scheme and then look at RBI Floating Rate Savings bonds for remaining fixed income allocation.
Rohit Gyanchandani is Managing Director at Nandi Nivesh Private Limited