Tax Free Bonds

As an investor, would you choose taxable investments or those that generate tax-free returns for you? The answer is simple. Nothing attracts an investor more than a tax-free investment. Similarly, bonds can be both taxable and tax-free. The difference is that you do not need to pay taxes on income from tax free bonds.

Not only are these bonds secured, but they are also lucrative. So, if you want a secured investment that increases your returns, you should invest in tax-free bonds.

Apply for Tax Free Bonds

What are Tax Free Bonds?

Tax-free bonds are government bonds that aim to provide a regular tax-free coupon income. Also known as tax-free government bonds, these bonds can only be issued by government bodies, such as municipal corporations, NHAI, etc., to raise funds for development projects. These bonds are issued for the long term only. Hence, they can also be called tax-free municipal bonds.

However, you must ensure that you do not need to withdraw the invested money soon. This is because the lock-in period for such bonds is more than 10 years since the government raises the money for big projects. You can alternatively trade these bonds on the bond markets if they are listed.

The interest payout on tax-free bonds is lesser than on regular bonds due to tax relaxation. The coupon rate at which interest is paid can also be called tax-free bond yield. The following table depicts the difference between the returns of a tax-free and a regular bond.

However, it must be noted that only the interest on such bonds is tax-free. The capital gains arising from selling the bonds or through redemption after the tenure are taxable. Tax-free bonds in India issued by agencies like NHAI or REC are very popular.

Popular Tax-Free Bonds in 2022

Here is the list of the most popular tax-free bonds of 2022:

  • Power Finance Corporation tax-free bond
  • Housing and Urban Development Corporation tax-free bond
  • National Thermal Power Corporation tax-free bond
  • National Bank for Agriculture and Rural Development tax-free bond
  • Indian Railway Finance Corporation tax-free bond
  • National Highways Authority of India tax-free bond
  • Rural Electrification Corporation tax-free bond
  • Indian Renewable Energy Development Agency tax-free bond

Features & Benefits of Tax-Free Bonds

✓ Fixed Interest Rate: The interest on non-taxable bonds is fixed and is payable at regular intervals. You will receive this amount until the maturity of the bond. The interest amount is usually risk-free due to the involvement of government corporations. The interest payout on these bonds is usually made half-yearly or yearly.

✓ Tax-Free Returns: You do not have to pay any taxes on the interest received by you on these bonds. Hence, the interest rates can be called the tax-free bond’s rate. Although, the capital gain on sale or redemption of these bonds is taxable under the Income Tax Act, 1961.

✓ Highly Secure: The investment in these bonds is highly secure. There are hardly any chances for default on a government bond. This quality makes them the most attractive bonds for investment.

✓ Less Liquid: There is a minimum lock-in period on tax-free infrastructure bonds. You cannot withdraw money from these bonds before the completion of this tenure. Hence, these bonds are less liquid as compared to other investments.

✓ Long Tenure: Bonds related to infrastructure are issued by government departments like NHAI, REC, etc. Since the projects undertaken by these departments are for a long time, the tenure is usually more than 10 years.

How Can You Invest in Tax-Free Bonds?

You can invest in a tax-free bond in 2 ways:

Bond Issue: You can apply for these bonds while the subscription is open. Both online and offline applications can be filed by filling a form and submitting your KYC details, including your PAN Card.

Through Trading: Post-issuance, tax-free bonds can be purchased online using a trading account through a broker.

These bonds are tradable in the stock market through your Demat account.

Government Departments issue tax-free bonds for various projects from time to time. Hence, you must keep track of the upcoming tax-free bonds issue. Investing in such bonds at the issue price is beneficial because as the bond prices rise, it becomes less feasible to invest in them due to lesser interest payouts remaining.

Why Should You Invest in Tax-Free Bonds?

Tax-free bonds are a much better option than volatile markets and risky investments if you are highly risk-averse. It can help you earn a regular income for an extended period and benefit capital gains.

Online Fintech platforms like Yubi build a nexus between the investors and the borrowers to carry out transactions smoothly within a highly secure environment. With 100% transparency and simplicity, you can easily invest in your favourite tax-free bonds and track your investments in real time.

How are Tax-Free Bonds Taxed? – Tax Implications on Tax-Free Bonds

  • The interest accumulated from tax-free bonds is considered tax-free if you can hold the bond until maturity. Hence, there is no TDS.
  • If the bonds are sold in the secondary markets, the transactions are entitled to tax deductions.
  • If you sell your particular bond in the secondary market after 12 months, your profit will be taxed at 10%.
  • If the bond is sold in the secondary markets within 12 months, the capital gains will be taxed according to the Income Tax slab.
  • Tax-free bonds are suggested to individuals who can fit under the high-tax category.

For instance, Arun and Jay earn Rs. 20 lakhs per annum. Arun spends 2 lakhs in a fixed deposit where interest earned is 6% annually. Jay spends Rs. 1 lakh on tax-free bonds that offers 5.5% interest annually for 10 years. In such a scenario, both Arun and Jay fall under the 30% tax slab.

How to Redeem Your Tax-Free Bonds

Tax-free bonds are very easy to redeem. The holder of these bonds has to hold these bonds till maturity. Once the bonds are matured, they can be sold to the issuer bank/corporate and pave the way for a fixed income tax-free.

Further, such tax-saving bonds can be traded in the secondary market, and the holder can earn profit. But these profits are liable to be taxed by the govt.

Short-term gains: When the holder sells these bonds in the market before the 12 months of its purchase will attract tax as per the holder’s income slab under section 112.

However, while trading it after 12 months, it will attract capital gains without the benefit of indexation at a flat rate of 10%.

Things to Remember before Opting for Tax-free Bonds

Free Bonds are the safest means of investment with a long lock-in period. Hence, investors must be aware of their financials before diving into these bonds.

Fund managers suggest these bonds to minimise tax liability and to diversify the riskiness of the portfolio. That is the reason free bonds are most suitable for high-income group people.

Thus, it is imperative to know a few things before investing:

  • Tax-free bonds are issued with a lock-in period of 10-15-20 years. You cannot redeem it before the expiry date of the period applicable to the security.
  • The interest income earned on these bonds is tax-free and is credited directly into your bank account annually. You will get the initial amount invested on maturity.
  • Tax-free bonds can be traded in the exchanges. Anyone can trade these free bonds in the secondary market.
  • If the holder sells the bonds within a year, the profit booked will be taxed as per the slab they fall in. If you sell these bonds after a year, a flat 10% tax will be applicable for the profit booked.
  • Most of the tax-free bonds are issued by PSU (Public Sector Units); hence credit risk or risk of non-payment is very low.
  • Tax-free bonds are issued both in physical and de-mat form.

Who should Invest in Tax-Free Bonds?

Tax-free bonds offer longer tenure, fixed income for an extended tenure, and a low risk of default. Hence, they make the ideal choice of investment for senior citizens.

 Such investors who fall in the category of the high-tax bracket should invest in tax-free bonds. The entities that fall under the category of the high-tax bracket include HUF members, high net-worth individuals (HNI), cooperative banks, trusts, and certified institutional investors who are qualified to invest in such bonds.

What are the Commonly Found Tax-Free Bonds?

Several public sector undertakings offer tax-free bonds, some of which include:

  • NTPC Limited
  • Rural Electrification Corporation
  • National Highway Authority of India
  • Indian Railways
  • Indian Renewable Energy Development Agency
  • Power Finance Corporation
  • Housing and Urban Development Corporation
  • Rural Electrification Limited

Note: It is always recommended to verify the authenticity before purchasing.

How are Tax-Free Bonds and Tax-Saving Bonds different?

There are key differences between tax-savings bonds and tax-free bonds. Here is the list of the prime differences between the two bonds:

Tax-Saving BondsTax-Free Bonds
In such bonds, the interest earned from taxation is tax-free. In such bonds, only the first investment is not liable to pay tax.In such bonds, the interest earned from an investment are not subjected to taxation, according to section 10 of the India Income Tax act 1967.
In tax-saving bonds, the investment option is limited.Any retail investor can spend money on tax-free bonds up to 5 lakhs.
Tax-savings bonds provide a buyback option after every 5 or 7 years, allowing you to get your investments.Such bonds have a lock-in period.
Tax-saving bonds offer a low-rate of interest compared to tax-free bonds.The rate of interest offered in tax-free bonds is higher compared to tax-savings bonds.
Such bonds are deemed to be investment instruments for individual investors who receive a tax exemption on spending an amount of Rs. 20000, as per section 80CCF of the Income Tax Act.Tax-free bonds are completely free. Such bonds do not have caps, in regard to investment.


Tax-free bonds listed on NSE can only be issued by government authorities or departments to raise capital for infrastructure development. The bonds issued by NHAI, REC, HUDCO, NABARD, etc., are popular among investors.

No. Only the interest amount is allowed as an exemption. You have to pay taxes on any capital gain earned by selling or redemption of these bonds.

You can apply for REC bonds through your broker in offline mode. Alternatively, you can apply online directly through a broker or bank.

Usually, the interest payouts are made on a half-yearly or yearly basis.

Yes, Tax-free bonds are considered a safe investment. Such a form of investment provides capital protection and a reliable source of fixed-income earnings.

Yes, Tax-free bonds are not taxable. According to the Indian Tax Act 1961, income from tax-free bonds are not taxable.

Yes, You can book a call with our experts at Yubi and clear all your doubts about investment in tax-free bonds.

Yubi is a professional online platform where investors can put their faith into trading different bonds.

It is possible to invest a maximum amount of Rs. 500000. For an investment of Rs. 20000 every year, tax exemption is available.

Redeeming tax-free bonds is quite simple. However, it is applicable only after you have completed the period. Withdrawing bonds is not possible before 10-20 years; however, it can be traded on stock exchanges along with different other investors.