Debentures are the borrowed funds of the company that represent their debt.
Debentures usually pay a fixed rate of interest, and holders of this instrument get paid before paying dividends to shareholders.
Good money management is important to secure your future. So, people look for different investment instruments to invest their money to generate returns and create wealth. Earlier, people depend on the bank to invest their money, but nowadays, they can find different investment options like mutual funds, public provident funds, the national savings scheme, etc. If you want to use your money to make more money, then fixed deposits and debentures are two good choices. Let us check the features of both debentures and fixed deposits in this post.
Debentures vs. fixed deposits
Both debentures and fixed deposits are low-risk financial instruments ideal to invest your money for generating returns. These instruments are suitable for investors who want fixed income at low risks. Debentures are the borrowed funds of the company that represent their debt. It is a long-term secured instrument by a charge on assets. Fixed deposits are also a great financial instrument where you put a lump sum amount for a fixed period in your bank at an agreed rate of interest. An investor gets his invested amount plus compound interest at the end of the fixed deposit tenure.
Only businesses can issue debentures, and an investor should understand the specific risks of the company before investing in it. The issuing company needs to pay a fixed rate of interest to debenture holders. At the same time, both individuals and companies can invest in a fixed deposit. And investing in it does not involve any risks.
What are debentures?
Debentures are bonds, and at the same time, not all bonds can be treated as debentures. A debenture is a long term debt format that companies use to collect money. These are loans and usually paid back on a fixed date. But some of them are irredeemable securities as they do not have a fixed repayable date. Debentures usually pay a fixed rate of interest, and holders of this instrument get paid before paying dividends to shareholders. Unlike shareholders, debenture holders do not have any right to vote in the general meetings. Companies prefer debentures as it can help them to collect money at a less interest rate than overdrafts. Apart from that, they can repay it on a far off date.
Like mutual funds and debentures, fixed deposit is also a financial instrument. In a fixed deposit, an investor invests a lump sum amount in a bank or any other financial institution for a particular period. As an investor, you will get an interest for the amount that you have deposited for the duration of the deposit. The rate of interest can be varied from bank to bank. A financial institution pays interest to its investors for their deposit based on the tenure and the amount they have deposited.
High interest rate for debentures
Debentures are fixed income products, and you will get a fixed interest rate at the end of the tenure. Debentures are safe instruments and its holders bear very little risk. The amount they invested is secured and they will get the interest even if the company is in loss. If the company fails to repay the amount, debenture holders can claim to sell the assets to get their money back. One of the great attractions of debentures is that it can offer competitive rates than fixed deposits and considered more secure. Most banks offer approximately a 7% interest rate per annum for investing money for a period of 3, 5, or 10 years. At the same time, debentures offer 9% or more than that for the same tenure.
For both fixed deposits and debentures, the interest earned during the year usually added to the total income. And the income from these instruments is entirely taxable as per the income tax slab. In fact, both these investment options are suitable for those in the lower tax brackets. If your FD is getting an interest rate of 7.5%, the return after paying tax for the tax brackets of 5%, 20%, and 30% would be 7%, 5.94%, and 5.16%. Similarly, for the same tax brackets, the post-tax return for debentures would be 8.5%, 7.12% and 6.2% as this instrument offers an interest rate of 9% or more.
Many conservative investors prefer open fixed deposits. It is a more safe option to invest and can be opened quickly and easily. Another advantage of a fixed deposit is that it is not a risky investment. The return on it does not depend on the fluctuating market rates. As an investor, you can get back a guaranteed income at the end of the deposit period.
Even if fixed deposits are relatively a safe investment option for investors, debentures are a more suitable option to invest your money to generate returns. Debentures are secured debt instruments supported by assets. If the company fails to repay, investors can claim that assets to regain their money. Fixed deposits are non-tradable at exchanges and attract a 1-2% lower rate on premature withdrawals. But debentures can be traded on exchanges and can exit prematurely. In case of a change in interest, capital appreciation or depreciation is possible. TDS is applicable in the case of fixed deposits if the interest exceeds Rs.5000, whereas no TDS applies to the interest payout of debentures. So, many financial advisors recommend debentures for their clients to invest than investing in fixed deposits.
That’s why Comparte Investment team asks do you have “Nivesh Ki Aadat”.