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Small savings saw a year of positive regulations

Recommendations by the Shyamala Gopinath committee were accepted by the government, making small savings instruments market-linked. Abhishek Anand reports.

business Updated: Dec 30, 2011 22:15 IST
Abhishek Anand

The second half of 2011 saw a sudden rush of changes in the small savings space. Recommendations made by the Shyamala Gopinath committee to make small savings scheme market-linked got accepted and implemented from December this year. The rate of interest on various small savings instruments is now pegged to the government securities (G-sec) rates of similar maturities.

Though the government has always been at liberty to alter the rates of interest, but found changes difficult— downward would cause public uproar and upwards would just cost the government more. The status quoists would win and this kept the Public Provident Fund (PPF) rate at 8% for the last eight years — a period that saw a policy rate peak and trough of 8.50% and 4.75%, respectively. To make the return on small savings more realistic, the committee decided to link them to the average yield on G-secs of similar maturity during the preceding calendar year. But you do not get the G-sec rate, you get G-sec plus 25-100 basis points (bps) (100 basis points is 1 percentage point), depending on the instrument. A round up of what you get from which instrument.

PPF retains its edge: PPF returns are now 25 bps more than the 10-year maturity G-secs (see table). This means PPF will give a quarter of a percentage point more than the average yield on 10-year G-secs during the preceding calendar year. For the current fiscal year the rate is 8.6% against 8% earlier. Thus, the contribution you make this year as well as the entire previous balance would earn 8.6% interest during the current fiscal. At present, PPF has an undisputed edge over other small savings instruments because of the tax breaks. Your investment in PPF qualifies for a tax deduction up to Rs 1 lakh of section 80C of the Income-tax Act. On withdrawal the maturity corpus is tax exempt. A 8.6% risk free, tax-free rate makes PPF a first choice in your debt portfolio. Even if rates go up or down, at any given point in time, PPF would still remain the best product because of the spread and tax incentive. The other good news is that you can now invest another Rs 30,000 in PPF as the limit has been raised from Rs 70,000 to Rs 1 lakh.

Senior citizens get a 1% boost, but MIS loses some steam: The vehicle for retirement money, the Senior Citizen Savings Scheme (SCSS) has got the biggest boost. You now get a 100 bps more than the G-sec rate and for the current fiscal the rate is unchanged at 9%. This scheme is meant for individuals above 60 years of age. It is a five-year investment vehicle meant to provide an income stream coming every quarter at the specified rate of interest. On maturity it returns the principal. Your investment qualifies for a deduction under section 80C. However, the income is taxable. Given that specified five-year bank FDs get the same tax treatment, choose between SCSS and bank FDs to pick the one with higher interest rate. Right now five-year bank FDs are clear winners as they give 10% return. The post office monthly income scheme now gets 25 bps more than the five-year G-secs and does not compare well with bank FDs and SCSS. Accordingly, the returns have been fixed at 8.2% for the current year.

Other investment products: The Centre has done away with Kisan Vikas Patra (KVP) since there were fears that KVP was used for money laundering.

Also in order to give you more long-term options, the government has introduced a new National Savings Certificate (NSC) for 10 years. The returns on newly launched 10-year NSC has been benchmarked to 10-year G-secs with positive mark-up of 50 bps. For this year, the rate is 8.7% per annum. The tenor of the older NSC has been reduced from six years to five years now. The returns on the five-year NSC would be benchmarked to average yield of five-year government bond with a positive spread of 25 bps. During 2011-12, you would get 8.4% per annum against 8% earlier. The investments in NSC qualify for a deduction under section 80C. The reforms in the small savings scheme was long overdue and has brought the much-needed transparency in these schemes.