Category Archives: Tax saving

BHARAT BOND ETF – a better option Than NRE FD?

NRE FD has been my preferred low risk, tax free investment option since the time RBI allowed banks to offer interest rates of their choice. However, with the established banks offering only 5% or lesser rates on NRE FD’s, I have been looking for other options that can give higher returns but with same low risk.

A few banks like IndusInd still offer 6.5% rate on NRE FD but with bank deposits being insured only upto 500,000 rupees the risk of loosing money in case of a default goes up (do remember what happened to Yes Bank and other co-operative banks). A bank will only offer interest rate higher than the market rate under 2 scenarios – either they are a new player and want to build a customer base or they are unable to raise funds easily as markets believe their business to be risky.

Bharat Bond ETF is one such instrument that has been on my radar and I wanted to analyse how it stacks against the NRE FD.

What is Bharat Bond ETF?

Its a Fixed Maturity ETF that invests in AAA rated bonds of Public Sector Companies (PSU). These bonds are not the same a Government Bonds (G-Sec’s) but pretty close in terms of risk profile given that govt has majority stake in most PSU’s.

As this is an ETF, an investor can sell the investment anytime on the National Stock Exchange (NSE), thus being extremely liquid. Yes, there would be short term or long term capital gains depending upon the date of sale but calculations suggest that its a good investment even with taxes if held to maturity.

How does it compare to NRE FD?

BHARAT Bond ETF wins hands down even after providing for tax when compared to NRE FD’s from large banks.

For calculations, I have assumed that the investor holds the etf to maturity and inflation averages 3%.

The break even interest differential between the two investments is appx 0.8% with the above assumptions of maturity and inflation. What that means is, in theory, if Bharat Bond ETF yields 6.8% then an NRE FD of 6% will provide roughly the same total return.

Why is Bharat Bond ETF better than NRE FD?

One has to consider multiple factors when considering an investment and not just the yield. The most important factor would be liquidity, default risk and tax impact if you return to India. Bharat Bond ETF provides better risk protection on amounts greater than 500,000 when compared to NRE FD and more liquidity as it is traded on exchange.

Bharat Bond ETF is a better investment than NRE FD irrespective of the interest rate if you have plans to return to India over next 8 years (the tax free benefit of an NRE account ceases within 2 years of returning to India) as the interest from deposits will no longer be tax free. The sooner your plans to return to India the greater the gains from ETF would be when compared to NRE FD.

Inflation protection is the other benefit that the ETF provides – If the inflation increases and averages to say 5%, the indexation benefit will reduce the tax liability as shown in table below

Similarly, if the capital gains are removed or the tax rate is reduced in the future the gains from the ETF will be higher.

So no matter how I look at it, Bharat Bond ETF maturing in 2031 is a better investment as compared to NRE FD for long term wealth accumulation. Instead of opening a fixed deposit buying this ETF makes a lot more sense for all investors whether non resident or resident.

SRS – Should Foreigners Contribute?

In the last post Annuity via SRS increases the monthly payouts I had analysed how SRS (Supplementary Retirement Scheme) benefits Singapore Citizens and PR’s (Permanent Residents). In this post we will determine at what level the scheme becomes beneficial for foreigners, i.e. those working in Singapore on Employment Pass or have setup businesses.

Before jumping into data driven analysis let me list out the small difference in the scheme for the two groups.

  • A foreigner can withdraw the whole amount in SRS account, without paying the 5% penalty, after 10 years of making the first contribution
  • Only 50% of the withdrawn amount is taxed when withdrawn after 10 years
  • The tax is determined by adding the taxable amount to the income of the year to determine tax liability
  • If you are not a tax resident in the year of withdrawal, then a flat rate of 22% or tax resident rate whichever is higher is used to determine the tax liability (SRS income gets added under Other Income for tax purposes)

What this means is that if you started contributing on say 1 Jan 2010, then you can withdraw the accumulated amount in SRS on or after 2 Jan 2020 without paying the 5% penalty (this option is only available to foreigners so if you are planning to become a PR then do consider this option, specially if you need that lumpsum amount for a better investment opportunity or buying a house).

Next to remember is marginal rate of tax – say your income in the year of withdrawal is SGD 120,000 and you are in 11.5% tax bracket, then the SRS withdrawal will get added to 120,000 and attract tax rate of higher slabs.

If you are planning to return to your country of origin for good, then leaving Singapore in the second half of the year gives you slightly favorable tax treatment as you remain tax resident for the year and don’t get taxed at a flat non resident rate. If your destination is India, then a return between 1 Oct to 31 Dec is the sweet spot and gives you maximum tax benefits in both countries.

Is SRS really beneficial for foreigners?

To determine this, running calculations for various income levels, tax brackets and varying rates of return was the best bet. It took a while to not just run the algorithm but also verify for accuracy so that the readers get a nice matrix to use as for reference.

This time around I took a contribution period of 10 years and full contribution amount of 35,700 to SRS with the pre-requisite that the person also invests the tax saved on account of SRS in similar return generating portfolio outside of SRS. What this means is that if you contributed 35,700 and are in 11.5% tax bracket, you invest the tax saving of $4105 in similar portfolio as SRS and not spend it.

Data shows that if you are earning less than 120,000 per year the benefit of contributing to SRS are negligible though SRS does become beneficial as your earnings increase and tax rate increases. The key for me though is that SRS contributions don’t leave you worse off in any scenario.

You can decide to contribute to SRS or not based on your personal circumstances and the benefits matrix tabulated above. However, if your employer provides for CPF equivalent contribution only via SRS and to get that benefit you have to contribute to SRS then contributing to SRS is a no brainer. Foregoing that income just because you don’t want to contribute to SRS is an outright loss.

I would strongly recommend that everyone opens an SRS account the year they come to Singapore and make a small contribution to lock in your 10 year period and also the maturity age. Even if they don’t contribute in subsequent years there is nothing really to loose.

When should I withdraw from SRS?

If your SRS account is less than 10 years old then waiting for the remaining years can be beneficial. On withdrawal before completing 10 years, the whole amount gets added to your income and you also pay 5% penalty. So avoid doing this as much as possible.

If you decide to wait for SRS to mature (either 10 years target or full maturity at the age of 62) and are no longer Singapore tax resident then do think about how your country of residence treats dividends and capital gains that accumulate in SRS account during this period.

As an example, for Indian tax residents, all foreign income must be declared while filing taxes and taxes paid on, this means that any dividends or interest that you receive on your SRS account while waiting to withdraw must be detailed in your Indian tax returns. Any gains made due to sale of investments (e.g. Unit trusts, stocks) will be liable for capital gain taxes of that year. Failure to disclose may result in the entire amount being taxed when remitted back to India.

There are provisions to claim double taxation relief which may or may not apply based on each person’s circumstamces, if in doubt, get a qualified tax professional to prepare your tax return.

As with citizens and PR’s, contributing to SRS once in 15% bracket or higher is definitely worth it. Feel free to post in comments if you think there are situations where SRS does not make sense, we can analyse and debate the scenarios.

Annuity via SRS increases the monthly payouts equivalent to your tax bracket

Let me forewarn, this post is heavy on numbers but I have tried to simplify the results as much as possible so you don’t have to do the heavy crunching. However, if you love the language of numbers (like I do) then happy to discuss variations in comments.

I had always wondered, is SRS actually beneficial in the long run and how do the returns stack up when compared to investing the amount directly and not contributing to SRS thereby foregoing the tax benefits.

SRS withdrawals attract tax on 50% of the withdrawals after the maturity date which means that the accumulated capital gains and dividends in your account do get taxed. On the flip side, the capital gains and dividends outside of SRS account or through money invested in CPF are tax free. So the big question I had in my mind was – do I end up worse off if I put money in SRS by virtue of having to pay tax on half of my gains on withdrawal.

Anlysing various scenarios and coming to a conclusion was my best bet.

Methodology

For calculations, I took a contribution period of 25 years – from the age of 37 to 62, assumption being that by then the salary / earnings of an individual have grown enough to be able to put aside some extra money towards savings. Not many people would have enough surplus to contribute towards the SRS in the initial years of employment.

It is assumed that the person contributes 15,300 per year for the calculation period and is also able to invest the tax saved on account of SRS in similar return generating portfolio outside of SRS to maximise returns. What this means is that if you contributed 15,300 and are in 11.5% tax bracket, you invest the tax saving of $1759 in similar portfolio as SRS and not spend it all.

Last assumption was that on reaching withdrawal age, you have no other taxable income and the tax rates remain at the same levels in future (this is a big assumption but for comparison I did not have any other choice)

Results

The results were a relief, to say the least. Even though I would end up paying tax on half of my gains the numbers indicated overall gains by contributing to SRS. The most interesting observation was that at around 4% yearly return, contribution in SRS would generate an additional payout close to your tax bracket.

So if you are in 11.5% tax bracket and invested the money through your SRS account, then that contribution yields additional 10.88 % as compared to having invested the same amount independently. The difference comes due to the tax savings.

The percentage gains reduce as your return on investments increases (see table below) but for you to be worse off by investing through SRS you would need a portfolio that can compound at a rate of  22% or more which is a rare feat to achieve.

Looking at the table its evident that the higher the tax bracket one is in, higher are the gains by contributing to SRS. I would personally not contribute full amount to SRS if you are in a tax bracket lower than 11.5%. The gains are marginal and having money locked in for long makes it un-attractive (atleast to me) though do open an SRS account as soon as possible even if you are going to contribute 100$ once to lock in the maturity age.

Risks

SRS accounts have their drawbacks and quirks. The money is locked till you are 62 and any withdrawals before that attract penalty and the whole amount gets added to your income in the year of withdrawal.

The returns will also go down if the tax rates by the time one retires move up and if financial standing of Singapore changes.

The calculations get trickier if done for a foreigner who wants to withdraw the money when leaving the country and I will try and tackle that in a subsequent post