Indians prefer investing in gold. However, holding gold physically leads to hoarding of gold and a balance of payments crisis because of gold imports. The Government has introduced schemes to allow people to invest in gold without physically holding gold in their possession. This can either be done through holding a gold exchange traded fund which mimics the movement of gold prices. Another scheme that people can invest in is the Sovereign Gold Bond scheme. This scheme is administered by the Reserve Bank of India.
This means the RBI issues these bonds on behalf of the Government of India.
There are several reasons to invest in the scheme over investing in corporate bonds. The way the instrument is administered gives many benefits to individual and Hindu Undivided Family (HUF) investors. The corporate bonds in India are not very lucrative and there is always a default risk in case the company does not make profits. However, the same is not the case in this scheme.
Here are some reasons to invest:
1. Capital gain benefit:
When investment in Sovereign Gold Bond scheme is made by an individual or an HUF, there is a capital gain benefit on exit. The scheme allows investment at the current market price of gold. However, on redemption, the price is the price in the market at the time of redemption. This gives rise to substantial capital gains because of the change in price of gold over a long term. However, this capital gain is not charged to tax. This gives substantial tax benefits to the investors. However, the scheme gives an income of 2.5% to the investor in the form of interest every year. This interest is taxed at regular slab rates.
2. High holding:
The holding is based on grams. Each individual and HUF can hold up to 4 kgs of gold. In case of institutional investors, the holding goes up to 20kgs. Holding such a high amount of physical gold can be quite risky. However, investing in the sovereign gold bond scheme is like holding electronic gold without the associated handling risks.
3. Less risk:
The scheme is administered by the Government of India. The bonds are issued by the Reserve Bank of India on behalf of the Government. This means the bonds have a sovereign guarantee. There is a very low default risk on the bonds. The interest on the bonds will also be paid to the holder.
4. Market linkage:
The best part of the scheme is that the holding is grams of gold. The valuation of the scheme is linked to the market value of the gold. In case the market price of gold increases, the value of the holding also automatically increases. The redemption or exit is done at the current market prices.
5. Exit options:
The investor can choose to hold the bond till maturity i.e. 8 years. However, if he wants to exit before maturity, there is an option to sell the bonds in the market from the 5th year onwards. This provides partial liquidity to the investor.