InfraStructure Bonds - Good or Bad ?

In this Union Budget Finance Minister has announced an addition of Rs. 20000 investment in Infrastructure Bonds will be allowed as deduction under Section 80C in addition to Rs.1Lakh limit. Let us analyse in what way this is beneficial to us.

We will discuss here the pros and cons of investing in Infrastructure Bonds for different tax groups after the budget. One must look for investing in Infrastructure Bonds after considering the financial planning meaning it should be goal oriented. The new tax slabs are as follows

Tax group 1: Taxable income Rs. 1.6-5 lakhs

Tax group 2: Taxable income Rs. 5-8 Lakhs

Tax group 3: Taxable income above Rs. 8 lakhs

Let us now consider some parameters on which we will analyse the investment option. There are 4 major parameters we will look into the first is the actual tax saving, second the returns from the investment considering the lock in period, third would be the opportunity cost which means what if the same money invested in some other type of investment and the last fourth parameter is the effect of inflation on the returns what we receive at maturity.

Let us now assume that the lock in period is 3 year and 5 year as most tax saving instruments are having the same lock in period. Then assume the rate of return on Infrastructure Bonds is 5.5% per annum. Consider the overall rate of inflation will be 8%. Based on the above assumptions and considering the four parameters let us now see the effect on whether shall we go in for investing the Infrastructure Bonds.

First parameter was actual tax saved on the investment; so for an individual having 10% tax slab the tax saved by him is Rs.2000/- (10% of Rs 20,000 = Rs 2000)

Now comes the return on investment at the end of the lock in period. With our above assumptions for 3 years an investment of 20000 the interest earned would be Rs. 3484. So total return on 3 year lock in period is Rs 25485 (Rs 20000+3484+2000) on our investment

Third, if you have not invested Rs 20000/- in Infrastructure Bonds and invested in other tax saving instruments like ELSS Mutual Funds which also come under 3 years lock in period which gives a return of 15% (which is very reasonable considering that the benchmark Sensex and many mutual funds have given comparatively higher returns on a long period.) the effective return will be Rs 27, 376 (Rs 20000-2000=Rs 18000 invested @15% per annum for 3 years).

At 8% inflation rate the minimum amount required to counter the inflation is Rs 25, 194.

From this it is clear that for a person in the slab of 1.6-5 lakh there is a very little amount of benefit available of only Rs 291 (Rs 25485-25194) whereas the benefit out of paying the tax and investing the balance in any decent instrument would be Rs 2182.

So it is clear from the above analysis that if you are looking for getting tax benefit for an investment locked in for 3 years in Infrastructure Bonds then people who fall in tax slabs of 1.6-5Lakhs should not invest in Infrastructure Bonds. If you are in the tax slabs of 5-8Lakhs then think of only upto 3 years period investing in Infrastructure Bonds and not for 5 years and people in the >Rs 8 lakh taxable income slab they are the highest benefited from Infrastructure Bonds and can invest for long term.