What are SGBs (Sovereign gold bonds) & what are its functions?

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Sovereign gold bonds, or SGBs, are gold bonds issued on behalf of the Government of India by the Reserve Bank of India (RBI). The gold in this bond is sold per unit, with each unit deriving its value from underlying one gramme gold of 999 pure. The cost is established by averaging the closing prices of gold for the three most recent business days preceding the subscription period. The India Bullion and Jewellers Association Limited publishes these closing prices (IBJAL). The redemption price is likewise determined using the most recent base data from the same source.

SGBs are simple to purchase and manage, with a period of eight years and a half-yearly interest rate of 2.5 percent. Every individual purchase is limited to 4kgs every fiscal year, whereas trust purchases are limited to 20kgs. The only document required to buy SGBs is a PAN card, without which no investment in these bonds is possible.

How SGBs Function

Throughout the fiscal year, the RBI issues SGBs in several tranches. These securities can be obtained through banks, brokers, post offices, and online platforms. To encourage investors to acquire SGBs online, a discount of INR 50 per gramme is granted to those who do so digitally.

It is worth noting that the RBI releases new series of SGBs into the market throughout the year. So, if you missed the last one announced, you can always wait for the next one.

Bonds can be purchased in physical, digital, or dematerialized form. After purchasing these bonds in person, investors can have them credited to their demat accounts by making a special request. The RBI then performs the dematerialization at their end and determines how long the bonds will be stored in their records.

Dematerialization is also possible after allotment. Investors who do not wish to purchase directly from the RBI can do so through the secondary market, which includes stock exchanges.

The Advantages of Investing in SGBs

  • SGB is a suitable solution for those who want to buy gold solely for investment purposes. SGBs guarantee the quality of gold while protecting investors from risk.
  • They can also save money on the cost of holding actual gold because these bonds are digital and maintained in an investor’s demat account.
  • The 2.5% interest option is appealing because, unlike actual gold, investors earn a passive income on their gold, which is directly credited to bondholders’ accounts.
  • These bonds are excellent market-linked gifts.
  • These bonds’ capital gains on maturity are totally tax deductible, making them appealing to long-term investors.

The Risks of Purchasing SGBs

  • If the market price of gold goes below its cost price, there is a danger of loss. This is not a danger unique to the SGB form of gold investing, but it is applicable to all forms of investment.
  • However, the RBI guarantees that the investor will never lose the amount of gold granted to them.

What You Should Know Before Investing in SGBs

1. Exit alternatives and the issues they raise:

The series are issued for an eight-year term, although the RBI offers an early redemption option after five years from the issue date. Then, on coupon payment days, redemption is permitted. This procedure is fairly simple, since investors only need to visit the relevant bank, post office, or agent a month before the coupon payment date. They can also redeem some of their shares (the minimum quantity being one gram). The amount of the redemption is subsequently credited immediately to the bondholder’s account.

If kept in demat form, these bonds are also marketable on stock exchanges and can be bought and sold through demat accounts. However, the liquidity of the specific series will be critical in determining the value that bondholders can expect.

2. Taxation:

Before investing in SGB, an investor should thoroughly grasp the tax implications. SGBs were developed by the Indian government to facilitate gold investment. It has a one-of-a-kind tax advantage. The bond has an eight-year maturity under the SGB structure. The capital gain on the maturity amount is totally tax-free, but any sell before maturity is subject to capital gain taxes based on the holding period.

It is vital to highlight that the tax exemption also applies to bonds purchased on secondary markets, such as stock exchanges. When you purchase SGB via a stock exchange, the transaction is not regarded a redemption, but rather a transfer, and as a result, you become the bondholder and receive a tax-free sum.

If you sell a bond on the stock exchange before it matures, the profit will be subject to capital gains tax. These short-term benefits are applied to your taxable income and taxed according to your tax bracket.

If the profit is held for more than three years, it is considered a long-term capital gain, or LTCG. These benefits are taxed at a rate of 20% with indexation benefits or 10% without indexation benefits.

The yearly interest rate on these bonds is 2.5 percent. It is paid every six months. On this interest sum, no tax deducted at source (TDS) is deducted. It is added to your taxable income and taxed at the corresponding tax bracket.

3. Usage as collateral:

Another advantage of buying SGBs is that they can be used as collateral for loans. When institutions accept SGBs as collateral, it not only lowers the total cost of borrowing, but it also acts as an incentive for individuals who would otherwise purchase actual gold with the intention of using it as a support in bad times.

Because the loan-to-value (LTV) ratio is the same as it is for standard gold loans, investors are less concerned about the product’s imminent liquidation. Furthermore, unlike loans against fixed deposits, interest revenue is not withheld by the institution to whom the SGB is lent, but is transferred to the actual beneficiary.

In conclusion

SGBs are intended to make gold investment easier. It also offers tax advantages upon maturity, although it is not intended for trading. As a result, the majority of people who purchase these bonds do so with a long-term goal in mind. This is also evidenced by SBG’s low trading activity on the stock exchange.

Before purchasing SGBs, whether during the issue period or via the stock exchange, make sure you understand the benefits and drawbacks of doing so. If you want to invest in SGB, you can receive a better deal if you buy it on a stock exchange.

Remember that SGBs are an excellent way to diversify your portfolio by including gold as an asset class. However, before you invest, make sure you understand everything about them.

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