Although Sovereign Gold Bonds are tax-free if you hold them till maturity, they are taxable if you sell them before they mature. This, even if you sell after lock-in.
Sovereign Gold Bond, as one of the vehicles for investment in gold, is ahead of the other avenues. The interest of 2.5 percent per year is over and above the upside of gold, which is unique.
While the price upside in gold will be the same, whichever avenue you take, Sovereign Gold Bond (SGB) has a slight advantage here. The avenues are physical gold, digital gold, gold ETFs, gold Fund of Funds, etc. In managed vehicles, e.g. mutual funds, there would be some management charges levied every year. In SGB and other direct exposures to gold, there is no management charge. However, liquidity in SGBs is one of the aspects you have to consider, in case you require your money before eight years from your investment date.
Next to the fundamental quality, tax efficiency is an important aspect. Here as well, SGB is more efficient than the other methods for investment in gold. The interest of 2.5 percent per year is taxable at your marginal slab rate, which for most investors is 30 percent plus surcharge and cess. However, the interest, even net of tax, is a bonus, in the sense it is over and above the price movement of gold. The crux of taxation is, the gains you make, based on gold prices moving up over the period. And here, as long as you hold till maturity, which most investors will, it is free of tax. Yes, that is a big advantage: you make your returns based on the price movement of gold, but don’t have to pay tax on it.
There are certain areas of confusion about taxation of SGBs; let us get the required clarity.
It is tax-exempt if I hold it till maturity
Is the treatment the same whether I purchase it in the primary market or secondary market (through the stock exchange)?
Yes, it is the same. Often, in discussions, this doubt crops up. The reason for the doubt is, it is not mentioned in so many words in a statute that “treatment is same whether you purchase from primary or secondary market”. The basis for stating that treatment is the same, is that the statute says “the capital gains tax arising on redemption of SGB to an individual has been exempted”.
The law does not make a distinction between whether it was purchased from the primary or secondary market, the law does not state that the tax exemption is available only if it was purchased from the primary market. Hence, it may be safely said that the condition is you have to hold it till maturity, that’s all.
What it means is, if you get SGBs at the stock exchange (NSE/BSE) at a discount to the prevailing gold price / price of fresh issuance, you may avail of the opportunity. It also implies that there is no minimum holding period required, provided you hold till maturity.
When are your gains taxable?
What is the holding period required for eligibility for long-term capital gains (LTCG) tax? It is one year. If you sell before maturity, the gains are taxable.
If you are eligible for LTCG, taxation is more efficient. The probable reason for this confusion is, in debt mutual funds, the holding period required for LTCG is three years, and there may be a psychological connection with that mindset. This being a bond, and listed on the stock exchange, you have to hold it for one year for LTCG.
Indexation benefits for Sovereign Gold Bonds; not for other listed bonds
One other taxation advantage that SGBs are eligible for, is indexation. It is mentioned in as many words in the FAQs on the RBI website. This is an exception in favour of SGB; otherwise bonds/debentures are not eligible for indexation.
The tax rate, on secondary market sale prior to maturity, after one year of holding, is 20 percent plus surcharge and cess. Given the benefit of indexation, the effective tax rate will be significantly lower than 20 percent. However, SGB is not a trading product and it is expected that you hold it till maturity. Sell it prior to that, only if you must. If held for less than one year, sale will attract short-term capital gains tax at your marginal slab rate.
What is the tax treatment if I redeem post the five-year lock-in? It is not fully clear, but the spirit of the law, when it says it is tax-exempt if held till maturity, is that you hold it for eight years. If you exit prior to eight years, even after the five-year lock-in, you are not holding till eight years and the gains become taxable.