Government's New Gold Scheme: Should You Invest in It?

The government earlier this month launched a sovereign gold bond scheme, which is aimed at deterring people from buying physical gold for investment purpose. The scheme is not operational yet but the government has released the broad contours of the plan.

The gold bonds will be issued on payment of rupees and denominated in grams of gold. In other words, the price of the bond will be linked to that of gold, meaning upside gains and downside risks will be with the investor. The bonds will be issued on behalf of the government of India and will offer an interest to investors.

Interest Rate

Financial planners say that the gold bond scheme may be a good substitute to physical gold if a reasonable interest rate is set. Neither physical gold, gold mutual funds nor gold ETFs pay any interest rate. The government has not yet set the interest rate on this scheme.

The interest rate will be a bonus for investors, says Anil Rego, CEO of Right Horizons, a wealth management firm. The rate of interest will take into account the domestic and international market conditions when the bond is issued and may vary from one tranche to another, the government has said.

Liquidity

The tenor of the bond could be for a minimum of 5 to 7 years. On maturity, the redemption will be in rupee amount only. The government has said that the bonds will be traded on exchanges to allow early exits for investors who may so desire.

Since many investors invest in gold for need in case of an emergency, liquidity of the gold bond scheme remains an important factor and this needs to be keenly watched, say financial planners. In case of alternatives such as gold funds and ETFs, the mutual fund houses create a marketplace for buying or selling gold which helps to keep the investment liquid, said Mr Rego.

Higher Upfront Investment

The bonds could be issued in denominations of 5,10,50,100 grams of gold. This means buyers, for example, will have to fork out a minimum Rs 13,250 at current prices for 5 grams of gold, for taking exposure this bond. Many small investors may miss out of this scheme because of the higher upfront requirement, says Mr Rego. Moreover, this gold bond scheme does not offer a systematic investment option to buyers so that they can accumulate gold over a longer period on a regular basis, he added. On the other hand, the investors can invest in gold mutual funds in denominations as low as Rs 500 per month under systematic investment plans.

Taxation

The government has said that the same tax norms would apply to the gold bonds as that of the physical bond or gold funds or ETFs. This means you will have to pay long-term capital gains tax at 20 per cent with indexation benefit for holding period beyond 36 months. If the units are redeemed before completion of 36 months, the capital gain would be taxed as per your tax slab.

Overall, the gold scheme offers a good opportunity for investors who want to invest for the long term like for children’s marriage or purely for investment purpose, Mr Rego said. Also, like gold funds and ETFs, investors don’t have to worry about storage of physical gold or pay locker fees, he added.

How the Scheme Operates

The issuance of the sovereign gold bonds will be a part of within the government’s market borrowing programme. And the risk of gold price changes will be borne by a gold reserve fund what will be created by the government. The benefit to the government is in terms of reduction in its cost of borrowing will be transferred to the gold reserve fund.