Non-Convertible Debenture is a financial instrument that Corporates issue with a specific term to raise funds or resources via public or private placement.
It cannot be changed into equity. It is a fixed-income instrument similar to a bank’s fixed deposits and is sold on stock exchanges.
The interest earned can be paid monthly, quarterly, or each quarter, quarterly, or annually in addition to the maturity sum paid out to the owner of the debenture.
Feature of NCD
- A higher rate of return: NCDs in the past provided interest rates that were very attractive compared to various income-based fixed options.
- Flexibility in the tenure duration of NCDs can vary from 1 to 10 years, thus giving better maturity opportunities.
- Low credit risk: NCD is held until its maturity. In that case, the investor is likely to earn the promised returns, and the risk of fluctuations in interest rates can be either eliminated or reduced.
- Rating: NCDs are rated by professionals and certified agencies for rating credit.
- Simple liquidity: NCDs are generally listed as securities, and therefore one can purchase them on the secondary market before they reach maturity.
- Capital appreciation: Because they are listed securities, they can profit from fluctuation in the stock market and have capital appreciation.
- No TDS: There aren’t any Tax deductions at Source (TDS) on NCDs offered through the DEMAT form and listed on an exchange, as per article 193 in the IT Act.
Things to consider before investing in NCDs
Secure & Non Secure NCDs:
If the business you’ve invested in is being wound down (closed down), you must understand your position when the company pays its debts. The sequence in which the company pays its debts is contingent upon the order in which the bonds are ranked following the security bond.
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Are protected by assets or unsecured. If the bonds were secured and the eventuality arises of the winding-up of the business, it would be able to take the assets from those bonds and pay the investor.
The non-secured NCDs are subordinate and do not have any charges against or assets owned by the company.
They are subordinate to the claims of the other creditors.
Debentures (convertible or non-convertible) can be listed on the stock exchange, allowing selling them to get out earlier than the debenture’s duration.
But investors need to be aware of the price movements of these instruments, which are dependent on changes in interest rates and the coupon interest rate applicable to them. The more liquid it is, the more beneficial an investment is for investors.
Interest Payment Option:
Based on the needs of investors, it is possible to consider various interest payout options provided by NCDs like monthly, quarterly, quarterly, half-yearly, or annual interest payouts.
Rating agencies utilize simple alphanumeric symbols to convey credit ratings.
For instance, they give credit ratings to debts using three fundamental scales: the long-term scale, the short-term scale, and the fixed scale.
AAA is the most prestigious Credit rating, which indicates the most safety.
A higher rating means that the debt is being serviced on time on debts by issuers, and there is less credit risk. Payback History of Company It is essential to conduct some research and background studies of the business that issues the bond; since it is your money.
Examine if the business has a history of insolvency on its payments. If it does, it’s not a good idea to invest in such instruments.
If the company has a solid track record of paying its creditors, then it’s more beneficial investing in the NCDs of that business.
In my view – above AA+ rating is best Option. Otherwise ignore NCDs
Taxation of NCD
According to subsection 193 under the Income Tax Act, 1961, it is impossible to claim a tax deduction at source (TDS) from security issued by the dematerialized business and listed on a recognized market in India. However, NCDs allocated for Non-resident Indians (NRIs) are subject to TDS by Section 195 in the Income Tax Act, 1961.
If an individual investor invests in the NCDs, if they sell the NCDs before the end of a year, the gains are added to the investor’s earnings. He must pay tax at the same rate according to the tax bracket for income. Any profit earned from selling NCDs within a year, taxes are payable at 10% if indexation is not completed and 20% when indexation has been done.
If you have to decide how to invest funds in the fixed income part of your portfolio and seek an alternative to the bank FD, you must consider an NCD. The best option is to be within the tax bracket that is lower.