NCD (Non Convertible Debentures)

Most bank FDs have more liquidity, one can withdraw the amount before maturity by paying a penalty. There are also some bank FDs which do not allow any premature closure. NCDs mature according to their original period and therefore you should invest in them keeping long-term goals in mind. However, it is possible for listed NCDs to be sold in the debt market through the stock exchange platform. They can also be sold fully or partially in units by the investor. Debentures are therefore tradeable instruments that can be converted into cash at the prevailing market price at any time. In certain scenarios if the market demand is high for the NCD or in the event of fall in general interest rates subsequent to the issuance of NCD, there are chances the customer may get premium for his NCD, which is a profit over and above the principal and interest.

An NCD is secured when it is specifically mentioned as backed by the issuing company’s assets to fulfil the obligation. Secured NCDs are backed by the assets of the company and are secured by a charge on such assets. The particulars of charge created is registered with the Registrar of Companies in India. An Unsecured NCD is issued solely on the credibility of the company issuing it and are not specifically backed by the issuing company’s assets. Secured NCDs are safer and superior than Unsecured ones. However, Unsecured NCDs offer interest rates higher than Secured NCDs. Where Bank FDs are concerned, they are insured only to the extent of Rs.1 lakh regardless of the depositor’s total deposits with the bank.

Interest Rates on NCDs are generally decided based on the credit rating of the Company. Lower rated entities tend to offer higher interest rates to compensate for the higher risk the investor is taking. Higher rated entities offer lower interest rates as the risk perceived on such entities is much lower.

Credit rating is a process of providing an opinion on the relative probability of timely payment of interest and principal on the rated obligation. It is an unbiased, objective, and independent opinion as to the issuer's capacity to meet its financial obligations. It is indicated by symbols and each symbol has a standardised definition prescribed by Securities & Exchange Board of India (SEBI). However, rating is not a recommendation to buy, hold or sell a debt instrument. In India credit ratings for NCDs are given by agencies such as CRISIL, ICRA, CARE, India Ratings and Brickwork. A Listed NCD must be compulsorily rated by at least one credit rating agency.

Bank FDs and NCDs give you interest which is added to your total income and hence both are taxable as per income tax slab. Earning interest from Bank FDs and NCDs are beneficial, especially for those who are in the lower tax brackets.

For a Bank FD, interest earned (across branches) over Rs 10,000 a year will attract Tax Deducted at Source (TDS), unless Form 15 G/H is submitted. However, if you have NCDs held in Demat form tax will not be deducted at source. Here it is the investor's responsibility to pay income tax and file returns as per his total taxable income. So, investor in an NCD do not have the hassle to file income tax returns if he is not having taxable income and claim refund of tax deducted at source which otherwise would have required in case of Bank FD where TDS is deducted.

Bank FDs are available for a period as low as 7 days to as long as 10 years. Longer period offer higher rates of interest, though not significantly higher than the shorter period. Most NCDs offer periods ranging from 1 to 10 years. NCDs with longer periods offer a substantially higher return.

Once you have decided to invest, you would first need to choose the period you want. This choice will depend on when you need the money and what your long term and short-term goals are. If you want to have more stability in portfolio returns, you need to hold the NCDs till maturity. For the purpose of regular income, you can choose an option which will give regular interest. If you are not in need of regular income, it is advisable to choose the accumulated interest option since compounding results will give you a better yield. In a falling interest rate scenario, by choosing a longer tenure you can lock in at a higher interest rate for the entire period.

The regular income gained through NCDs can be instrumental in increasing your earning if it is used wisely. The surplus money after meeting your expenses may be parked in your savings bank a/c so that you earn some interest and could be accumulated. You may wait for an opportunity to subscribe to the next NCD issue of a Company and lock in at a rate of interest higher than bank fixed deposit. If the surplus money is not adequate to form a minimum lot of Rs. 10000 in an NCD issue, you may approach your broker for buying NCDs from the stock exchange for as small quantity as one unit. This way you can compound your returns rather than locking your investments in bank fixed deposits at a lower interest rate.