FD vs RBI floating rate bonds: At 8.05% interest, RBI Floating Rate Savings Bonds could be a better investment than bank FDs, NSC

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Fixed-income investors are in for another treat. The interest rate of RBI Floating Rate Savings Bonds 2020 (Taxable) (FRSBs) is all set to hit 8 per cent for the first time since its inception. Popularly known as RBI 7.15% Bonds, it currently offers an interest rate of 7.35 per cent. The interest rate on these bonds is reset every six months and is due on July 1, 2023, next. How interest rate of RBI Floating Rate Savings is calculated
Unlike other bonds, the interest rate of these bonds is not fixed. It is linked to the interest rate of the National Savings Certificate (NSC), a small savings scheme offered by the Union government. RBI Floating Rate Savings Bonds will pay 0.35 per cent higher than what NSC offers. The interest rate of NSC is reviewed every quarter along with other small savings schemes. If the interest rate on NSC goes up, then the RBI Floating Rate Savings Bonds 2020 (Taxable) will offer a higher interest rate accordingly. Similarly, if the interest rate of NSC goes down, the interest rate on RBI Floating Rate Savings Bonds will also come down.
Interest rate of RBI Floating Rate Savings to touch 8 per cent
The Union government hiked the interest rate of National Savings Scheme (NSC) to 7.7 per cent for the April-June quarter, of 2023. Earlier, it was 7 per cent during the January-March quarter, of 2023.

Going by the formula, the interest rate of RBI Floating Rate Savings Bonds 2020 (Taxable) will be hiked to 8.05 per cent (7.70 per cent+0.35 per cent) from July 1.

Now, an interest rate of 8.05 per cent appears attractive when compared to other fixed-income instruments of a similar nature such as fixed deposits and NSC. For instance, a five-year fixed deposit offered by the State Bank of India (SBI) — the biggest public sector bank — fetches an interest rate of 6.5 per cent. Prominent private sector banks such as HDFC Bank, ICICI Bank, Axis Bank, and YES Bank offer an interest rate of 7 per cent on fixed deposits maturing in five years. Interest rates of five-year fixed deposits in public and private sector banks are currently hovering between 6.2 per cent and 7.2 per cent.

A look at the interest rates of NSC in last five years

At present, there are two small savings schemes — Sukanya Samriddhi Yojana (SSY) and Senior Citizens’ Savings Scheme (SCSS) — which offer more than 8 per cent interest rate. Senior Citizens’ Savings Scheme is available for senior citizens or those who are above 60 years, while the Sukanya Samriddhi Yojana can be opened in the name of a girl child any time before she attains 10 years. So, other investors cannot take the benefits of these two schemes.As you can see, the interest rate of RBI Floating Rate Savings Bonds is likely to be higher than most of the fixed instrument products in the market. But do note that, unlike other instruments, the interest rate of RBI FRSB is a floating rate.

Considering its floating rate nature, even if the interest rate of these bonds increases in the next reset, will it be a good investment option now? Explaining this, Anand Dalmia, Co-founder & CBO of Fisdom, a wealthtech platform, said, “Currently, we are in an interest rate environment that is very close to the terminal rate, probably even at it. Most interest rate hikes in the current cycle are behind us. Once we reach the terminal rate, the rate environment can be expected to plateau for longer or at least not reverse in haste. In the short term, the expected rate of return of 8.05 per cent on these Floating Rate Savings Bonds, taking into account the spread over NSC rates, is quite attractive for investors looking for a safe fixed-income investment over the long term.”

RBI Floating Rate Savings Bonds 2020 (Taxable) is issued by the Reserve Bank of India (RBI) on behalf of the Government of India while NSC is also backed by the Indian government and it is distributed by India Post. Both enjoy sovereign guarantee. So, your money in these bonds is fully protected. On the other hand, bank fixed deposits are protected by the deposit insurance program to the tune of Rs 5 lakh which includes both the principal and interest amounts.

Do note that RBI Floating Rate Savings Bonds have a lock-in period of seven years, which is slightly higher than NSC and five years bank fixed deposits. So, your money will be locked in for seven years if you opt for RBI FRSB. There is no premature withdrawal option, but senior citizens get the option to prematurely withdraw money with a penalty after a minimum lock-in period. For those aged 60 to 70, the lock-in period will be six years. For those aged 70 to 80, the lock-in period will be five years. Those aged above 80 can withdraw their investment after four years from the date of investment.

Individuals have the option to break their fixed deposits prematurely with a penalty. The rate of penalty varies from one bank to another.

Regular pay-out option
One of the biggest advantages of RBI Floating Rate Savings Bonds 2020 (Taxable) is that the interest is payable semi-annually. The interest rate on these bonds will be paid in January and July 1 every year. Under NSC, the interest is cumulative and paid on maturity.

Fixed deposits at banks also offer monthly, quarterly, half-yearly, and yearly payouts. If you go for the cumulative option, your overall return will be slightly higher due to compounding while the payout option gives you regular liquidity. So, if you are looking for an investment option with a regular pay-out option, you could consider RBI Floating Rate Savings Bonds.

Investment limit
The bonds have a minimum subscription of Rs 1,000 and in multiples of Rs 1,000, thereafter. There is no maximum limit. Similarly, the investment limit in NSC has been set at Rs 1,000 and in multiples of Rs 1,000, thereafter. There is also no maximum investment limit under NSC.

You can only invest up to Rs 1.5 lakh in a tax-saving fixed deposit.

You cannot take loans against RBI Floating Rate Savings Bonds 2020 (Taxable) bonds. However, you are allowed to take the loan against NSC.

Interest earned on the RBI Floating Rate Savings Bonds 2020 (Taxable) and NSC and fixed deposits is taxable in the hands of the investors. However, you can claim an income tax deduction of up to Rs 1.5 lakh for investing in five-year bank fixed deposits and NSC. “The argument is that investing in NSC is eligible for Section 80C exemptions while RBI Floating Rate Bonds are not. It is not too relevant with the new tax regime in place,” said Nehal Mota, Co-Founder & CEO, Finnovate, a wealthtech platform.

Should you invest in RBI Floating Rate Savings Bonds 2020 (Taxable)?
The Reserve Bank of India kept the policy repo rate unchanged at 6.5 per cent in its bi-monthly monetary policy meeting held in April 2023. “The interest rates of fixed deposits are more or less at their peak now, and barring any major disturbances, the interest rates are expected to remain stable for the next few months,” said Adhil Shetty, CEO, BankBazaar.com.

In the current scenario, these RBI Floating Rate Savings Bonds 2020 (Taxable) present a compelling opportunity for investors seeking a safe fixed-income instrument with a longer-term investment horizon, said many experts. “However, investors must be aware that a quicker and prolonged reversal in interest rates could pose a risk to their returns over the holding period,” said Dalmia.

With the recent hike in the interest rate on National Savings Certificates, the Reserve Bank of India is also likely to increase the interest rate on floating-rate bonds in the forthcoming review. The floating rate bonds by the Reserve Bank of India, therefore, remain preferred over the NSC, especially for those who are opting for the new income tax regime where no tax and exemption will be allowed, said Sujan Hajra – Chief Economist and Executive Director, Anand Rathi Shares and Stock Brokers.

“Clearly, the higher yield on RBI Floating Rate Savings Bonds 2020 (Taxable) would make a lot of eminent sense to most Indian investors. It is a combination of rates, periodicity of payment, and tax regime making RBI Floating Rate bonds more attractive,” said Mota.

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