Why you should not ignore Hudco's tax free bonds

The Housing and Urban Development Corp Ltd (HUDCO) has launched its tax-free bonds (TFB). It plans to raise Rs 750 crore in the first tranche. Here’s why we think you should not ignore it:

**Features:**It is a secure, redeemable, non-convertible debenture with a face value of Rs 1,000. You get three options, with tenures of 10 years, 15 years and 20 years. The minimum application size is of five bonds.The interest payment is annual. The bond issues opened on 17 September 2013 and the issue closing date is 14 October 2013.

[caption id=“attachment_1127745” align=“alignleft” width=“380”]  Hudco bonds are available in three tenors of 10, 15 and 20 years and hence comes with a longer lock-in period. Reuters[/caption]

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The coupon rate for 10-year bonds is 8.14 percent, 15-year is 8.51 percent and 20-year 8.49 percent. As a retail investor, you will get an extra 25 basis points (bps) if your application is for less than Rs 10 lakh. It does not come with a put and call option. The trading lot is of 1 bond and as much as 40 percent of the issue is reserved for retail investor.

Rating

Rating CARE has assigned “CARE AA+” while IRRPL has assigned “IND AA+” to these bonds. Keep in mind that Hudco is a government company and this rating states low credit risk.

Finer details: You can apply for tranche-I of the bond issue in either physical or dematerialised form. The bond is to be listed on the Bombay Stock Exchange (BSE).There is a ceiling on coupon rates based on the reference government securities (G-Sec) rates. Interest earned from the bond does not form part of total income, and hence it is a tax-free bond. However, when you sell the bond on the exchange, you will have to pay capital gains tax. Sell the bond after 12 months, the capital gain will be calculated as per 10 percent without indexation.One important thing to keep in mind is that if you are not the original allottee of the bond and transfer you bonds to non-retail investors, you will not be able to enjoy the higher interest rate.

**What should you do:**For retail investors, compared with coupon rate per annum for REC TFB (closes today) at8.26 percent, 8.71 percent and 8.62 percent, Hudco is offering better rates.However, the rating for REC bonds is one notch better than these bonds, which is CARE AAA, which is stable to bonds. But still since HUDCO too is a government company the risk of default is low.

The annual interest with these bonds is better than the post-tax returns you would have earned on fixed deposits, which is 6.3-6.6 percent for highest tax bracket. That’s what you earn in a one-year FD, in today’s market. Keep in mind that the Hudco bonds are available in three tenors of 10, 15 and 20 years and hence comes with a longer lock-in period. Of course, you will be able to trade these bonds on the BSE. But, getting a buyer for the bonds may turn out to be difficult as it depends on the market conditions then.

To invest in these bonds or not is your call. But before investing, do look into your long-term fixed income allocation. Once you have exhausted your PPF and EPF, you could look at investing in these bonds. If you have a long-term investment horizon and belong to the highest tax bracket, tax-free bonds may be the most tax efficient investment option for you.