Non Convertible Debentures: How are NCDs taxed?

While bank interest rates are at multi-year lows, Non-Convertible Debentures or NCDs have been flooding the market offering high-interest rates to investors. NCDs are debentures that cannot be converted into equity shares at the time of maturity. Moreover, they are classified as secured and unsecured where secured NCDs have an advantage over unsecured NCDs at the time of liquidation but they carry a lower rate of interest compared to unsecured ones. But before investing one should know about the risks factors and taxability of NCDs.

Ongoing NCDs

Recently many companies announced the launch of NCDs. for example, Muthoot Fincorp, the NBFC arm of the Muthoot Pappachan Group has announced the public issue of secured and unsecured non-convertible debentures (NCDs) with effective yield ranging from 8.57% to 10.19% per annum. The issue opens on September 30, 2021, and will close on October 26, 2021.

Similarly, KLM Axiva, a Kochi-based NBFC, has come out with the public issue of secured and unsecured non-convertible debentures (NCDs) with an interest rate ranging from 10% to 11.25% per annum. This is the 5th issue in the series, which opened on September 30, 2021 and will close on October 26, 2021.

Taxability

There are two elements of NCDs that need to be considered from a taxation perspective. One, if you sell it before maturity and second when you redeem it on maturity. There is capital gain on NCD at the time of sale and interest earned. When it is held till maturity, the investor gets back their face value hence that investment does not attract any capital gain. However, the interest earned will be charged to tax as “Income from Other Sources” at the rates applicable to the investor.

If sold before maturity within one year of buying then short-term capital gain tax is levied, which is taxed according to the marginal tax rate. If sold after a year, then it is considered as long term capital gain and is taxable at 10% without indexation.

NCDs carry a higher risk than fixed deposits. Therefore, before investing, do check the post-tax return and their credit ratings.