Post Office Schemes – Departure of KVP, Introduction of NSC II & Other Recent Changes

by Guest Blogger on July 4, 2012

in Fixed Deposits

This post is written by Shiv Kukreja

Once quite popular with the investing community, post office small saving schemes have recently gone out of favour with the investors. No hike in the interest rates of these schemes for quite a long period of time, higher interest rates on other instruments like bank fixed deposits, NCDs, tax free bonds etc. and aggressive marketing by the banks and other issuers have played their role in people not investing in post office schemes in large numbers as they used to do earlier.

In fact, with bank deposits giving over 9% return, NCDs of companies like Muthoot, Religare Finvest, Manappuram etc. yielding 13% plus returns and the tax free bonds giving a similar “tax-free” return, investors are switching their funds into these deposits and hence there has been a net outflow from the post office schemes.

To make these schemes catch up with other market instruments and following the recommendations of Shyamala Gopinath Committee, the government decided in November 2011 to link their interest rates with the market rate of interest. It has also been announced that the rate of interest on small savings schemes will be aligned with the rates of government securities of similar maturities on April 1 every year.

Earlier there were media reports that the interest rates on all small savings schemes have been made ‘floating’ but later on Finance Ministry clarified that the interest rates will remain fixed till the maturity of the schemes except for PPF, for which the applicable rate will remain floating and will change on April 1 every year.

PPF – Still Quite Attractive

The one thing I’m certain of is that it has made Public Provident Fund (PPF) a darling of a scheme for the investors, especially people in the 30% tax bracket who are looking for long-term investment avenues. Rate of interest on PPF has been hiked twice from 8% to 8.6% w.e.f. December 1, 2011 & then to 8.8% w.e.f. April 1, 2012. The effective rate of interest for a person in the 30% tax bracket works out to approximately 12.73%, which I think is amazing, considering it also gives you a tax deduction under section 80C. The ceiling on annual contributions to PPF has also been hiked to Rs. 1,00,000 w.e.f. December 1, 2011 from Rs. 70,000 earlier.

I think this is the first time in the history of Indian fixed income investments that the interest rate on PPF has been fixed at a higher rate of interest of 8.80% against the interest rate on Employees’ Provident Fund (EPF) of 8.60% and at the same rate of 8.80% on General Provident Fund (GPF). Though the interest chargeable on loan taken against your PPF deposits has been hiked to 2% p.a. as against 1% p.a. earlier, the idea is to discourage investors to take money out of a scheme which is meant to be used for one’s retirement years. A loan facility of up to 25% can still be availed from the 3rd financial year till the 5th financial year while a withdrawal of up to 50% is allowed from 6th financial year onwards.

Popular Schemes – KVP Discontinued & 5% Bonus Withdrawn on MIS

Monthly Income Scheme (MIS) and Kisan Vikas Patra (KVP) have been the most popular schemes of post office with approximately 35% and 25% share respectively of the total outstanding of all small saving schemes put together.

Issuance of Kisan Vikas Patra (KVP) has been discontinued w.e.f. November 30, 2011 due to apprehensions of it getting used for money laundering (parking unaccounted money). It is important to mention here that KVP was a kind of bearer instrument as it did not carry the investor’s name on it, was freely transferable and no KYC requirements were there for one to invest.

The changes have also taken the steam out of Monthly Income Scheme (MIS) by scrapping the payment of 5% bonus on maturity, which has been the most attractive feature of this scheme.

Introduction of 10-Yearly NSC (IX Issue)

Post offices now have one more dish on their menu to offer – National Savings Certificates (NSCs) with 10 years of maturity. These new NSCs carry 8.90% rate of interest p.a. and like the older NSCs, the amount invested as well as the interest earned every year qualify for a deduction under section 80C.

Interest rates offered on Senior Citizens’ Savings Scheme (SCSS), time deposits (TDs), recurring deposits (RDs) and saving bank accounts have also been hiked in line with the market rate of interest. Though interest earned on all these schemes is taxable, these schemes have been left untouched as far as TDS is concerned except SCSS on which TDS is deducted if the interest amount is more than Rs 10,000 per annum.

Interest rate on SCSS has been raised to fetch 9.30% and it is payable quarterly. MIS and SCSS are the best investments for senior investors who desire regular stream of definite cash flows either monthly or quarterly. SCSS continues to enjoy deduction under section 80C though it is likely to change once DTC comes into effect.

Maturity periods of MIS and the older version of NSCs have also been reduced from 6 years earlier to five years now. In case of premature closure of time deposits after one year, the deduction from the applicable interest rate has been reduced to 1% p.a. from 2% p.a. earlier. An interest rate equal to the post office savings bank rate of 4% p.a. will be payable if the premature closure is made after the first 6 months of opening the time deposit.

I think passive investors looking for a reasonable risk-free return, can consider parking their funds in these post office schemes. It is just a matter of time that these Post Office schemes will again become lucrative from the interest rate point of view once the inflation comes down and banks start cutting rates on their deposits seeking direction from the RBI. The fate of many of these schemes will undergo many changes with the onset of the DTC but let us see how things pan out as the applicability of DTC continues to remain in question given the way it has been deferred year after year.

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{ 23 comments… read them below or add one }

Gaurav Malik July 4, 2012 at 5:10 pm

Hi,

According to the post office they are still not very clear on the NSC IX issue which gives 8.9% interest. Does it actually come under section 80 C is not very clear. I have gone through the website of India post and below is mentioned.

“Interest on these certificates shall be liable to tax under the Income-Tax Act, 1961 (43 of 1961, on the basis of annual accrual specified in rule15, but no tax shall be deducted at the time of payment of discharge value.”

Reply

Shiv Kukreja July 4, 2012 at 6:47 pm

Hi Gaurav

These wordings suggest that the interest earned on NSC (IX Issue) certificates is taxable and no TDS will be deducted out of the interest income at the time of the payment of interest, which is after 10 years.

However, you are somewhat right in pointing it out that it is still not 100% certain whether these new 10-year certificates will qualify for 80C benefit or not. The industry players are still awaiting the finance ministry clarification regarding the same and as the interest is taxable like it is with NSC (VIII Issue), it is quite safe to assume that there will be a tax benefit u/s 80C.

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harinee July 5, 2012 at 9:53 am

I really dont appreciate the govt reducing interest rates in Post Office Schemes and doing away with schemes like KVP. This trend was started by PC. If the idea is to encourage people to invest in share markets not too happy for the people in the lower income scheme. Post office schemes are the only option outside banks for the low income group as a savings medium. What has helped the Japanese stay afloat through the decade of recession and extremely poor stock returns is their savings habit.
If KVP is used for money laundering wouldnt you enforce KYC rather than doing away with the scheme. And if unaccounted money is placed there the govt is actually getting access to money which is not disclosed, why would they complain about it.

Reply

Shiv Kukreja July 5, 2012 at 4:49 pm

KVP was giving an effective rate of return of 8.41%, doubling the investment in 8 years and 7 months. Now almost all of the schemes are giving better returns than KVP. NSCs are giving 8.60% (5 years) and 8.90% (10 years) returns respectively, MIS is giving 8.50%, PPF is giving 8.80% tax-free and these returns are not bad considering their risk-free nature.

We all know how bad is the state of our fiscal deficit. Our economy cannot afford Govt. to keep subsidising things which we can easily manage ourselves. PPF giving 8.8% tax free and qualifying for 80C benefits also, isnt it a good enough return for one’s long term investment? If somebody thinks these returns are not decent enough, then there are banks offering higher rate of interest.

India is not Japan and it should not be either. Japan gave near zero interest rate on its bank deposits in the 1990s and is still performing poorly. India is growing between 6% to 9%, gave approximately 600% index returns in less than 5 years between 2003 & 2008. Indian household savings are amongst the highest in the world and less than 4-5% goes into equity. I think Indian households should take the full advantage of India’s growth story and actively share the returns generated by the stock markets.

Govt. has acted on the recommendations of Shyamala Gopinath Committee which we all believe is an independent committee created to improve these post office schemes. I think the measures taken up by the finance ministry are good measures and the Govt. should take certain initiatives to run these post offices on some kind of banking model.

Reply

Gaurav Malik July 5, 2012 at 4:57 pm

Hi Shiv,
Well said!!! Infact I did the same mistake by investing ELSS which are giving lower returns than PPF and NSC. Now I have decided apart from continuing SIP’s in Equity funds it is very important to get returns of 8.8 and 8.6 respectively especially if they are under the EEE category

Reply

Shiv Kukreja July 6, 2012 at 1:13 am

Hi Gaurav… I think PPF is a must have investment for most of the investors. Till the time it is under EEE category, one should take its full advantage.

When it comes to ELSS, I think the returns depend on one’s timing. As I said earlier, Sensex delivered around 600% returns between 2003 and 2008, I think some top performing ELSS schemes must have given even better returns. At the same time, if you check the returns between the start of 2008 till date, the best performing scheme has given 4.62% annualised return and the worst performing scheme took 14.08% annually away from you.

Personally I think one should definitely invest in equities, either directly or through MF route but ELSS is also a good product when it comes to tax saving along with equity participation. Rest the returns mostly depend on the economy’s performance and market fortunes. SIP is just another way to invest in equities.

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S Rangan August 7, 2012 at 9:23 am

What is the meaning of EEE category, btw, that’s mentioned in the last two posts?

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Shiv Kukreja August 7, 2012 at 10:14 am

Hi… EEE stands for Exempt-Exempt -Exempt. First E signifies that your principal investment qualifies for a tax deduction. Second E signifies that the income earned out of your investment is tax free. Third E signies that the principal investment got back at the time of maturity will not be taxed.

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S Rangan August 7, 2012 at 4:22 pm

Thanks for explaining. Just so I understand this completely, could you give an example of an E-E-notE instrument — where the principal invested and the interest earned are tax exempt / free, but the principal that’s returned to you at the time of maturity isn’t?

Reply

Shiv Kukreja August 7, 2012 at 6:08 pm

Exempt-Exempt-Taxable (or EET) is proposed for many schemes once Direct Tax Code (DTC) gets implemented. At present, New Pension Scheme (NPS) falls under this taxation system.

http://m.economictimes.com/personal-finance/savings-centre/savings-news/after-a-slow-start-nps-now-in-the-fast-lane/articleshow/14380965.cms

“At present, contributions to and returns from the NPS are exempted from tax while withdrawals are taxed as normal income as it falls under the EET, or exempt, exempt, tax, regime.”

Reply

S Rangan August 9, 2012 at 2:37 pm

Ah, so that’s what NPS is about, uh! I wanted to learn more about NPS and guess this is a good entry point; thanks.

Reply

Shiv Kukreja August 9, 2012 at 3:09 pm

You are welcome!

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Soumya Pal August 9, 2012 at 10:43 am

Hi,
I have invested some amount of money in Post Office Monthly Income Scheme on 9th August 2006 and some amount on 21st August 2006. Can you tell me whether these accounts attract Bonus? If yes then at what Percentage

Hoping to hear from you soon.

Reply

Shiv Kukreja August 9, 2012 at 5:07 pm

Hi Soumya… The maturity bonus on Post Office Monthly Income Scheme (MIS) remained discontinued for the investments done on or between Febryary 13th, 2006 and December 7th, 2007. So both of your accounts are not eligible for any bonus payments.

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arun kumar October 6, 2012 at 7:14 pm

10 year nse 9th issue 1.4.2012 PREMATUR TABLE ?????????????

Reply

Shiv Kukreja October 6, 2012 at 11:22 pm
SIX SIGMA October 16, 2012 at 4:17 pm

I know about post office bonus for BPM class employee, its urgent for know me because my mother working in post office sector as branch post master.

Reply

Shiv Kukreja October 16, 2012 at 5:01 pm

Not able to understand what you want to know, please reframe your query.

Reply

Nita January 9, 2013 at 4:23 pm

Hi, I have invested in KVP in July 2010 which doubles in Feb 2019. Is it wise to continue with it or which are the other safe schemes which will get more returns?

Reply

Shiv Kukreja January 10, 2013 at 12:43 am

Hi Nita… It is difficult to comment on this as we dont know how much return it will give you if you encash it now. Please check on the back of the certificate what amount you will get now and try to calculate your returns accordingly.

Reply

c m umanath February 21, 2013 at 12:09 pm

I would like to know how to reduce my tax liability on income generated from sale of inherited property.

Reply

vignesh March 13, 2013 at 10:51 pm

HI shiv

1.did we get a clear info on the NSC 10 YR?

2. TDS is pplicable i have seen in valueresearch

http://www.valueresearchonline.com/story/h2_storyView.asp?str=18775

But they did not mention above what amount TDS will be deduccted.

3. why TDS statement is not issued?

Pls help me to understand the nuances of NSC

Regards
Vignesh

Reply

Shiv Kukreja March 14, 2013 at 12:00 am

Hi Vignesh,
1. Yes, it is clear now that investment in 10-year NSC (IX Issue) is also eligible for tax exemption u/s. 80C.
2. TDS is not applicable in case of NSCs. The VR link pasted by you states “Interest income is taxable but no TDS certificate is issued” because TDS is not applicable. You will have to add the NSC interest income in your taxable income while filing your ITR.
3. You know the answer now.

Reply

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