Savings Bonds Scrapped

• 30 May 2020

Why in News

Recently, the Government of India has discontinued 7.75% savings (taxable) bonds, 2018 for a subscription.

• The move comes in line with the cut in repo rate by the Reserve Bank of India (RBI) and subsequent cut in deposit rates by banks and small savings rate by the government.
  
  • Since investors were looking for safer investment rather than high returns, this led to the high demand for these bonds which led the government to discontinue this option.

Key Points

• Applicable: The government’s withdrawal of these bonds means that it is only ceasing fresh issuance and not redeeming those already invested.
• 7.75% RBI Bonds 2018:
  
  • These were issued with effect from 10^th January 2018 and were available for subscription to resident citizens/Hindu Undivided Family (HUF) to invest in a taxable bond.
    
    • These bonds were first introduced in 2003 as 8% GOI Savings (Taxable) Bonds.
    • The 8% interest rate was brought down to 7.75% in January 2018.
  • While one bond was of Rs 1,000 each, the bonds had no maximum limit for investment.
  • The bonds had a 7-year lock-in period from the date of issue but it permitted premature encashment to individuals who were 60 years and above.
  • Interest on these bonds is taxable under the Income-tax Act, 1961.
• Reasons for High Demand:
  
  • The bonds are mostly used by the High Net-worth Individuals (HNIs) to invest as the bonds offer both regular and cumulative income options.
  • These bonds were a good choice for savers, pensioners and investors who are not falling under tax liability or who have an exemption under the Income-tax Act as these are safe and generate adequate returns.
  • Their demand went up significantly over the last couple of months as investors turned risk-averse and invested in them purely for reasons of safety of their capital.
• Reasons for Cut in Rate:
  
  • The interest rates are declining after the global growth rate projections have been brought down following the spread of Covid-19.
  • The RBI first announced a 75 basis point cut in repo rate to 4.4% on 27^th March 2020 and then again announced a cut in repo rate by 40 basis points to 4% on 22^nd May 2020.
    
    • A cut in repo rates not only reduces the rate at which commercial banks borrow from RBI but also leads to a cut in deposit and lending rates for banks.
  • The RBI’s move to cut in repo rate has been to push credit growth and demand in the economy for its growth.
• Impact:
  
  • The move comes as a setback to savers and pensioners at a time when their returns from bank deposits have fallen steeply following the cut in deposit rates and reduction in the small savings rate.
  • The saving bonds were guaranteed for repayment by the RBI but now savers and pensioners are now at the mercy of banks.
  • The scrapping will deprive investors of a saving instrument that yielded relatively higher post-tax returns.
    
    • Investors and savers are already worried due to stock markets falling, the Sensex down by around 10,000 points this year and mutual funds giving negative returns.
• Comparison to Other Options:
  
  • After the cut in the small savings rate in April 2020, Public Provident Funds (PPF) interest rates were cut to 7.1% (7.9% earlier) and Sukanya Samriddhi Yojana interest rates were cut to 7.6% (8.4% earlier).
  • State Bank of India (SBI) currently offers an interest rate of 5.3% for a term deposit of 3-5 years and 5.4% on term deposits of 5-10 years.

Source: IE