What are tax-free bonds?

Tax-free bonds are instruments that give tax-free income to investors. What this means is that the interest income earned is exempted from income tax in India. At the moment, there is no instrument, except the PPF, whose interest income is exempted. So, tax free bonds are a good bet, especially, if you get them at good rates. Remember, you do not get Sec 80C benefits from these tax-free bonds. All of the bonds issued are government owned companies and are hence very safe.

Where to buy the tax-free bonds?

You can buy these tax-free bonds, from the secondary market, where they are listed. So, in short, you can buy them from the BSE and NSE, just like you buy shares. The whole problem, however, with buying listed tax-free bonds, is that they are not very liquid. So, if you want to buy say 500 numbers at a time, you may not get the same. The price discovery is also not good, in the sense that if a buyer is quoting Rs 1100 per bond, the seller wants Rs 1200. A Rs 100 difference is really not the best. In any case take a look at some of the tax-free bond offerings.

NHAI I Tax-Free Bonds

The NHAI I Tax-Free Bonds, gives you an interest rate of 8.2 per and expires in January 2022. However, if you buy the bonds above the face value of Rs 1,000, the yields will fall. The company gives you a tax free interest every year in the month of Feb. NHAI is the National Highways Authority of India and is owned by the government of India. We are not able to give you the yields, because it is difficult to determine at what rates investors will buy the bonds.

IRFC N2 Bonds

The Indian Railways Finance Corporation N2 Bonds are also not a bad bet, given the fact that the interest rates on these bonds are 8.1 per cent. The interest is payable every year in Feb. The Bonds expire in Feb 2027 and are traded near the Rs 1,170 levels. It is important to note that if you buy these bonds at that price, your returns would fall, as the bonds were issued at a price of Rs 1,000. The interest next payable is in October 2017.

HUDCO N2 Bonds

The HUDCO N2 Bonds are also not a bad bet since they give you an interest rate of 8.2 per cent. HUDCO like all other institutions issuing bonds, is a government of India owned enterprise. The interest on these bonds is payable on March 5 every year. The bonds are traded at around Rs 1,148 and the interest earned is tax-free for investors. The bonds are slated for maturity in March 2017.

HUDCO N3 Bonds

These bonds are also not a bad bet as you are getting it at a slightly lower rate of Rs 1,095 and you get an interest of 8.1 per cent. Again, the interest earned is tax-free in the hands of the investors. The bonds have a AA+ rating, though you should not worry too much of the rating, given the fact that this is a government of Indian owned enterprise.

With interest rates rising all over again, bond prices are also rising. 

Problems with tax-free bonds

While we have mentioned just three of the best tax-free bonds to buy from the secondary market, there are many others. However, we have not chosen them as the prices are high or the interest rates lower. One problem with tax free bonds is that the liquidity on them is rather low and hence you might not be able to sell large quantities. Also, the quotes for buying and selling are rather ridiculous, and hence you may at times not get an apt price. In any case, they help you save tax and hence are a desirable investment.