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When exploring investment options, you may come across corporate bonds as an alternative to traditional savings or government bonds. These bonds offer a way to earn regular interest payments by lending money to companies. In exchange, the issuing company pays you interest and eventually returns your initial investment when the bond matures.
Figure 1: Different Types of Bonds. Source: INR Bonds
But have you ever wondered why there are so many different corporate bonds available? What do these bonds really mean? And how can you make the most of them?
This blog will explain everything you need to know about corporate bonds in India. It will cover the types, how they work, and why they could be a smart addition to your portfolio.
Corporate Bonds in India
Corporate bonds in India are debt securities issued by companies to raise capital.
Essentially, when a company needs funds for expansion, working capital, or a new project, it can either raise money by issuing shares (equity) or by borrowing through corporate bonds (debt). In the case of bonds, the company borrows money from investors and agrees to pay them interest at regular intervals (typically annually or semi-annually), along with repaying the principal amount at the bond’s maturity date.
In India, the corporate bond market is growing rapidly, with companies increasingly turning to bonds as a key source of financing.
According to data from SEBI, the corporate bond market in India crossed ₹47 lakh crore (₹47 trillion) in 2024 (see Figure 2), reflecting the rising demand for this form of investment. Corporate bonds now account for a significant portion of the country’s debt market, largely driven by infrastructure and financial sector companies seeking long-term capital.
Figure 2: Corporate Bond Market vs Total Bond Market. Source: NSE
Why Do Companies Issue Corporate Bonds?
There are several reasons why companies prefer to raise funds through corporate bonds rather than issuing equity:
Lower Cost of Capital: Issuing corporate bonds is often cheaper than raising equity. This is mainly because companies can deduct interest payments on bonds from taxes. However, they cannot do this for dividends. In India, dividends are usually lower than interest rates. Yet, the tax savings from bond interest make bonds more attractive. Moreover, bondholders do not get a share of future profits. This is different from shareholders. So, companies can better manage cash flow with fixed costs. Therefore, corporate bonds are a more affordable and flexible funding option, especially when interest rates are low.
Retain Control: When companies sell shares to raise money, they lose some control. But by issuing bonds, they can avoid this issue. Bonds let them raise funds without giving up ownership or adding new investors. This way, original owners or managers keep full control while still getting the money needed for growth or operations.
Diversified Funding Source: Relying only on bank loans or equity can be risky and limiting for a company. By issuing corporate bonds, companies can diversify their funding. This approach allows them to attract various investors, including institutions, retail investors, and pension funds. It reduces dependence on banks and spreads risk. Thus, it offers more stability and flexibility.
Long-Term Capital Needs: Corporate bonds are perfect for funding long-term projects such as infrastructure, big purchases, or research. These projects often don’t yield immediate profits. Bonds can last from a few years to decades, matching the financing needs of these projects. For instance, say, NTPC Ltd issues long-term bonds for power projects that take years to become profitable. This method lets companies secure funds without the pressure of immediate repayment.
Types of Corporate Bonds in India
Corporate bonds in India come in various forms, each offering different levels of risk and return. Here are the primary types of corporate bonds available in the Indian market:
1. Investment-Grade Corporate Bond Funds
Investment-grade corporate bonds are issued by companies with high credit ratings (typically BBB- or higher). These bonds are considered low-risk because the issuing companies are financially stable and have a lower chance of default. Investment-grade bonds usually offer lower interest rates compared to high-yield bonds but provide more security and regular, predictable income. They are ideal for conservative investors who prioritise capital preservation over high returns.
2. High-Yield Corporate Bond Funds
High-yield corporate bonds, or junk bonds, are issued by companies with lower credit ratings (below BBB-). These bonds offer significantly higher interest rates to compensate for the increased risk of default. While they can provide higher returns, they carry more risk and are suited for investors willing to accept volatility and potential losses in exchange for higher yields.
3. Sector-Specific Corporate Bond Funds
Sector-specific corporate bonds are issued by companies within a particular industry, such as technology, infrastructure, or energy. These bonds provide targeted exposure to a specific sector’s growth, which can be rewarding if that sector performs well. However, they come with higher concentration risk, as a downturn in the chosen industry can negatively impact your investment. These are best for investors with strong convictions about a sector’s future performance.
How do Corporate Bonds Work?
Corporate bonds function through a well-defined process that involves several stages. Here is how they typically work:
1. Issuance
When a company needs to raise money, it issues corporate bonds. You, as an investor, buy these bonds, which means you are lending money to the company. In return, the company agrees to pay you interest and repay the amount you invested (the principal) when the bond matures.
2. Secondary Market Trading
After a bond is issued, it can be bought and sold in the secondary market. This means you don’t have to hold the bond until it matures—you can sell it if you need to. The bond’s price can go up or down depending on interest rates and how the company is doing.
3. Interest Payments
One of the main perks of corporate bonds is the regular interest payments, often made every six months or annually. These payments give you a steady stream of income during the life of the bond.
4. Maturity and Principal Repayment
At the end of the bond’s term, known as maturity, the company repays your principal—the amount you initially invested. Depending on the bond, this could happen in a few months or several years, so it’s important to pick a bond that aligns with your financial goals.
How do Taxes work for Corporate Bonds?
Taxes on corporate bonds are pretty straightforward, but there are two key things to keep in mind:
1. Interest Income
The interest you earn from corporate bonds is added to your total income and taxed based on your income tax slab. So, if you’re in a higher tax bracket, you’ll pay more in taxes on the interest you receive. Basically, the interest from corporate bonds isn’t tax-free—it’s treated just like any other income.
2. Capital Gains Tax
Taxation of capital gains from these bonds depends on how long you hold them:
- Long-Term Capital Gains (LTCG): If you hold the bond for more than one year, any profit from selling it is taxed at 10%, excluding indexation benefits.
- Short-Term Capital Gains (STCG): If sold within a year, the profit is taxed at your applicable income tax rate.
Exceptions:
Tax-Saving Bonds
Tax-saving bonds offer special tax benefits to help reduce your tax burden. Under Section 80CCF, you can claim a deduction of up to ₹20,000 on investments in these bonds. While the interest earned is taxable according to your income tax slab, the principal repayment is exempt.
These bonds usually come with a lock-in period, so capital gains are taxed based on the holding duration, with LTCG rules applying if held beyond the lock-in period.
Tax-Free Bonds
Tax-free bonds are an attractive option for investors seeking both safety and tax advantages. The interest income from these bonds is completely exempt from taxes, making them ideal for investors in higher tax brackets. These bonds typically fund infrastructure projects like highways and urban development. The principal is returned at maturity, and the capital is not subject to tax, but any gains from selling these bonds before maturity could be taxed based on the holding period.
Zero-Coupon Bonds
Zero-coupon bonds do not pay regular interest. Instead, they are issued at a discount and redeemed at face value upon maturity. While there are no periodic interest payments to tax, any profit made from selling the bond before maturity is subject to capital gains tax.
What Is the Current Interest Rate on Corporate Bonds?
Corporate bonds usually pay more interest than government bonds because they are riskier. Government bonds are safe since the government backs them. However, corporate bonds rely on the company’s financial stability. To attract investors, companies offer higher rates to cover this risk.
Right now, interest rates on corporate bonds in India can range from 9% to 14%, depending on the company’s credit rating and market conditions. Companies with lower credit ratings or those in riskier industries typically offer higher rates to attract investors, while more stable companies might offer lower, but still competitive, rates.
Who Should Consider Corporate Bonds?
- Conservative investors should consider investment-grade corporate bonds for a steady income and low risk. These bonds are ideal for those seeking capital preservation and are close to retirement or prefer safer investments.
- Aggressive investors looking for higher returns can explore high-yield corporate bonds, which offer attractive interest rates but come with more risk. These are suited for investors with a longer time horizon who can tolerate market volatility.
- Sector-focused investors who believe in the growth of a specific industry should consider sector-specific bonds. This can provide an opportunity to capitalize on industry trends but requires a good understanding of the market.
When to Consider Corporate Bonds?
- During volatile market conditions, investment-grade bonds provide stability and consistent income.
- In a low-interest-rate environment, corporate bonds often offer better returns than traditional savings or government bonds.
- For portfolio diversification, corporate bonds are a great way to balance risk, as they typically have a low correlation with equity markets.
By making the best use of the INR Bonds section in your Vested account, you can explore various corporate bond options that align with your financial goals, risk tolerance, and investment timeline. Whether you’re after stability, higher returns, or sector-specific exposure, there’s a corporate bond to match your strategy!
