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Capital Gain Bonds

Updated: Oct 4, 2023

Capital gain bonds are also known as 54EC bonds. As the name implies, an individual can invest in these bonds after receiving capital gains from selling a residential property which was held for more than 2 years, thus availing the necessary tax exemption. The gains that arise on the sale of a long term capital asset are known as long term capital gains and capital gains tax is levied on such gains. However, such tax can be saved if this amount is invested in capital gain bonds specified under section 54EC. These are public sector bonds issued by REC (Rural Electrification Corporation Ltd), PFC (Power Finance Corporation Ltd), NHAI (National Highways Authority of India) and IRFC (Indian Railway Finance Corporation).

How to purchase them?

These capital gain bonds can be purchased either from NHAI/ REC or from authorized brokers of these bonds. There is no online mechanism of purchasing these bonds and a person would be required to physically visit their office and fill in the physical form. So, you have to buy it directly from the issuer either in physical or Demat form. The bonds issued by NHAI & REC are AAA rated bonds indicating that they are highly stable and the face value of each bond is Rs. 10,000. However the maximum number of bonds that can be purchased by an investor is 500. The maximum capital gain exemption that can be claimed by a taxpayer under section 54EC is limited to Rs. 50 Lakhs.

How do they work?

Suppose Mr. Singh sold a house in January 2020 and earned a capital gain of Rs. 40 Lakhs. Now the time limit for investment under section 54EC is 6 months i.e. he can invest in tax saving bonds till July 2020. Investment amount should not exceed Rs. 50 Lakhs. In case the capital gain was shared by partners in a real estate business, each partner is entitled to a maximum limit of Rs. 50 Lakhs. If the individual fails at investing within the specified time frame, he/she can also deposit the amount in a Public Sector Undertaking (PSU) bank. In that case, the deposit will be viewed as an investment in capital gain bonds in India upon which tax exemption will be available under the Capital Gains Account Scheme, 1988. However, if such deposit does not convert to an investment within 2 years, it will be treated as a short-term capital gain in the year of expiry.

Such investment amount can be redeemed by the investor only after 5 years. The capital gain bonds are non-transferable, non negotiable and cannot be offered as a security for any advance or loan.

How is investment in capital gain bonds better than other investments?

Suppose Mr. Singh invests Rs. 50,00,000 in bonds from NHAI or REC for 5 years with a capital gain bonds interest rate of 5% and Mr. Sharma invests the same amount in a different form of investment option for a similar period where the rate of return is 10%.The following table illustrates the comparison.

ParticularsCapital gain bonds in IndiaOther investmentsInvestment amountRs. 50,00,000Rs. 50,00,000Tax on long term capital gainNilRs. 10,40,000*Post tax amountRs. 50,00,000Rs. 39,60,000Rate of return5%10%Return received on maturity12,50,00019,80,000Total amount received on maturity62,50,00059,40,000

*Calculation of LTCG = Rs. (20.8% of 50,00,000 including cess)

Takeaway

Capital gain bonds are one of the best tax-saving financial instruments.  However, it comes at the expense of a lock-in period of 5 years. So, evaluate your liquidity situation before you decide to cross the bridge.


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