What are Debentures?
Whenever a company wants to raise money from the public it issues a debt paper for a specified tenure where it pays a fixed interest on the investment. This paper is known as a debenture.
What are Convertible Debentures?
As the name says convertible debentures are those debentures which are converted to normal equity shares after a specified term. Till that time these debentures earn regular income in form for interest but once they are converted to equity shares, they are just like normal shares.
What are Non Convertible Debentures?
A Non – Convertible debenture or NCD do not have the option of conversion into shares and on maturity the principal amount along with accumulated interest is paid to the holder of the instrument.
Types of NCD
There are two types of NCDs-secured and unsecured. A secured NCD is backed by the assets of the company and if it fails to pay the obligation, the investor holding the debenture can claim it through liquidation of these assets. Contrary to this there is no backing in unsecured NCDs if company defaults.
Ratings?
However, any company seeking to raise money through NCD has to get its issue rated by agencies such as CRISIL, ICRA, CARE and Fitch Ratings. A higher ratings (e.g. CRISIL AAA or AA-Stable) means the issuer has the ability to service its debt on time and carries lower default risk. A lower rating signifies a higher credit risk.
Features of NCD’s?
- The tenure of NCDs can be anywhere between 2 years and 20 years.
- NCDs are rated by rating agencies such as CRISIL, ICRA, CARE and Fitch.
- If you buy a NCD that pays interest then the interest will not attract TDS.
- The debentures are generally offered in four options: monthly, quarterly, annual and cumulative interest
Are NCDs Tradable?
NCDs are also listed on bourses. This allows investors to liquidate the bonds even before maturity. However, there is no active market for NCDs on the wholesale debt market segment of the stock exchanges and their liquidity is low. You might not be able to find a buyer for your NCDs if their trade volumes on bourses are insignificant.
Understanding Returns:
NCDs have a fixed coupon or interest, which is paid to the holder of the instrument at the end of maturity. If you can sell an NCD in the secondary market before maturity, the return will depend on the prevailing interest rates.
TAX IMPLICATIONS
Interest earned through NCDs, if held until maturity, is clubbed with your income and taxed at your marginal income tax rate. If you sell your NCDs on the stock exchange before a year then you will have to pay short-term capital gains at income-tax rates applicable to you. If the debenture is encased after one year but before its maturity, you will have to pay capital gains tax on the effective return.