The government has announced a cut in small savings rates by 50-100 basis points for the first quarter of the new financial year. This is the second time that interest rates on small savings schemes have been cut in the past one year. In the April-June quarter of 2020-21, the government had slashed rates of small savings schemes by 70-140 bps. With the latest cut, interest rates on these schemes have been reduced by a total of 120-240 bps in one year.
The rate of interest on Public Provident Fund (PPF) has declined from 7.1 per cent earlier to 6.4 per cent now. The return on Senior Citizens Savings Schemes has come down from 7.4 per cent to 6.5 per cent and that on National Savings Certificates has been reduced from 6.8 per cent to 5.9 per cent.
“After keeping rates largely unchanged over the past few quarters, the government has effected a substantial lagged revision in small savings rates, mirroring the moderation in interest rates in the wider economy seen over the past year,” said Aditi Nayar, principal economist, ICRA.
The cuts are fairly steep and will hit investors hard, especially in a year when the completely tax-free nature of Employees Provident Fund (EPF) has also changed, especially for high income earners. Experts say that the practice of offering higher than market rate of interest will gradually be done away with and this is a reality that investors will have to accept.
“This was inevitable since the government has been indicating for some time that rates on small savings instruments would be aligned to the yield on the 10-year G-Sec,” says Deepesh Raghaw, founder, PersonalFinancePlan, a Securities and Exchange Board of India-registered investment advisor.
PPF’s return is still decent compared to alternatives, according to experts. Says Vishal Dhawan, chief financial planner, Plan Ahead Wealth Advisors, “While its attractiveness has reduced, a tax-free rate of 6.4 per cent is still reasonable for people in higher tax brackets, compared to, say, bank fixed deposits.” According to Raghaw, “PPF’s attractiveness will now lie mostly in its tax-free nature and the absence of credit risk.”
Among alternatives, investors may look at tax-free bonds from the secondary market. “The yields on these instruments are around 4.5 per cent, but there is no limit on how much investors can invest in them. On PPF there is a limit of Rs 1.5 lakh per annum,” says Dhawan.
Investors who are willing to take some risk may also opt for medium to longer duration bond funds. Medium duration funds have given a return of 7.25 per cent over the past year while longer-duration funds have returned 7.64 per cent.
“However, investors will have to be prepared for volatility and will have to ride it out with a longer investment horizon,” says Dhawan. Investors may also opt for target maturity debt mutual funds that fund houses have launched in recent times. The taxation—20 per cent with indexation if the fund has been held for more than three years—could result in attractive post-tax return from debt funds.