NABARD Zero Coupon Bonds are available for subscription right now (the offer will close on 18th July), and I think this is the first time I’m ever writing about any zero coupon bonds on offer for sale.
Zero coupon bonds have no interest payments and instead they are issued at a discount to the face value so when you redeem them at face value during maturity, you get your returns during that time.
NABARD ZCB have a face value of Rs. 20,000 and will be issued to the subscribers as part of this offer at Rs. 11,980. When you redeem them, you will get Rs. 20,000 for every bond, and the maturity date is 1st January 2019.
The NABARD brochure says that the return on this bond is 8.25% but I’m getting a slightly lower return of 8.22%.
If you invested Rs. 11,980 for 6.5 years at 8.22% you would get Rs. 20,000 back which is what the return should be in my opinion. If anyone can let me know how they are arriving at 8.25%, I’d much appreciate that. In any case, the difference is not much at 0.03%.
Even though the face value of one bond is Rs. 20,000 – the minimum investment on this issue is Rs. 6 lakhs, and that makes it out of reach for most people.
The two big benefits of this kind of offer is lack of reinvestment risk and tax advantage. When the tax free bonds were issued, a lot of people had pointed out that since these bonds pay interest every year, it’s up to you to invest that interest and find an instrument that matches the return on that instrument or else the overall return will come down. This type of instrument eliminates that reinvestment risk since the return you get are compounded.
Second benefit is tax advantage because the bonds will be taxed using the formula for long term capital gains, either indexed or not indexed and that is usually lower than the tax rate on interest income.
To that extent, this is an interesting product for someone in the higher tax bracket who wants to lock in some investments only to use them after a certain period of time.