Discover the taxation nuances of non-convertible debentures (NCDs) – from interest income and TDS implications to capital gains and redemption proceeds. Understand the tax treatment for both listed and unlisted securities, helping you make informed investment decisions.
Investing in a fixed- income bearing securities are very popular choice for every individual if we need stable returns. Debenture are also considered to be an investment with a stable return. Debentures are a specific type of debt instrument that are used by government entities or corporations to borrow money, which are issued for a fixed tenure and at a fixed rate.
There are different categories of debentures based on properties such as convertibility, redeemability, transferability, etc. Based on convertibility, there are two kinds of debentures which are convertible and non-convertible debentures. Convertible debentures are those types of debentures that can be converted into equity of the company. Non-convertible debentures are those debentures that cannot be converted into equity shares of the company.
In this article we will understand the tax implications on interest we earn, the effect of TDS and at the time of redemption.
Further Non-convertible debentures are of two types:
1. Secured non-convertible debentures – Secured debentures are a types of debt instruments that are backed by collateral.
2. Unsecured non-convertible debentures – Unsecured debentures are a types of debt instruments that are not backed by collateral.
Tax Implication on Interest Income from Non-convertible debentures.
Non-convertible debentures’ interest income is subject to taxation under the head “Income from Other Sources“. It is included in our total taxable income and subject to taxation at our applicable slab rate.
Tax Implication on Redemption.
At the time of redemption of non-convertible debentures, the principal amount repaid is exempt from tax, but the interest received on redemption is subject to tax under “Income from Other Sources” and added to our total taxable income.
Tax Implication on Capital Gains Arising on Sale of Non-convertible debentures.
In case of Listed Securities:
If we sell our Listed debentures before maturity, the gains or losses are classified as short-term or long-term capital gains based on the holding period. If non-convertible debentures whether held for less than 12 months or more than 12 months, the gains are considered short-term and taxed @ 10% without Indexation.
In case of Unlisted Securities:
If we sell our Unlisted debentures before maturity, the gains or losses are classified as short-term or long-term capital gains based on the holding period. If non-convertible debentures are held for less than 36 months, the gains are considered short-term and taxed at our applicable slab rate.
If held for more than 36 months, then the gains arising from it are considered to be long term and we have two options
Option 1: Tax @ 20% with Indexation
or
Option 2: Tax @ 10% without Indexation
TDS on Non-convertible Debenture.
In accordance with the current tax laws, the company is required to deduct 10% of interest income from non-convertible debentures if such income exceeds Rs. 5,000 during a financial year.
Let’s understand the whole tax implication on non-convertible debenture with a simple example;
Mr. A bought a Listed Non-convertible debenture of face value Rs 5,000 from the secondary market for Rs 5,200. Annual interest was Rs 500. He bought it when it was about to mature in four months. On maturity, he got Rs 5,500.So his gain is Rs 300. How will this be taxed?
- There are two types of income that can come from Non-convertible debentures: interest income and capital gains. Mr. A got Rs 5,900 on maturity however the face value was Rs 5,000 and an additional amount received Rs 500 is his interest income. And Capital Gain depend on how long the debentures are hold in the above case it is hold for less than 12 months so it is categorized a short term.
- A’s interest come of Rs 500 will be added to his taxable income and taxed according to the applicable slab. Tds will not be deducted as his interest income does not exceed Rs 5000 during the year. As for capital gains, given that he purchased NCD for Rs 5,200 and redeemed it for Rs 5,400 following a four-month holding period, it seems that he incurred a short-term capital gain of Rs 200. As it is short term capital gain it will be taxed according to his slab rate.
Conclusion.
For those looking for a stable income, non-convertible debentures (NCDs) can be an appealing investment option. But it’s crucial to understand the tax implication. There are distinct tax consequences for interest income, TDS, capital gains, and redemption proceeds and if anyone want to sell the NCDs it can be sold in secondary markets and if anyone is ready to purchase at a quoted purchase.
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We are open for comments and suggestions. The above article has been prepared as by Ms. Shruthi Nyavanandi (Shruthi.Nyavanandi@abacussolutions.co.in) and reviewed by Mr. Suyash Tripathi (suyash.tripathi@abacussolutions.co.in)
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