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Capital Guarantee Plus Appreciation?


Sandeep Shanbhag explains how you can get “assured” returns: by putting a part of your capital in a fixed income instrument like National Savings Certificate (NSC) and using the remaining to invest.

The example he uses is: If you have Rs. 6 lakhs, you can put Rs. 3,78,000 in an NSC at 6% and the remaining into a mutual fund (Rs. 2,22,000). The NSC, after 6 years, yields Rs. 6 lakhs, so your capital is secure. Whatever you get from a mutual fund is a bonus!!!!

Sandeep goes on to prove that if you had done this in 2000, you would have earned Rs. 25 lakhs from that 6 lakh investment!

Is this really something you should do? Uhm. I beg to differ. There are things you need to consider before you really invest.


Prices go up about 5-10% every year, and so do rents, salaries etc. So Rs. 6 lakhs will buy you a lot lesser after 6 years than it does today. In reality, let’s take 5% as an inflation rate; what will 6 lakhs need to grow in six years, so that it buys what it can buy today?

Answer : Rs. 8.04 lakhs.

To get Rs. 8.04 lakhs in an NSC after 6 years, you have to invest Rs. 5,07,000.

Okay, you think, so what? I still have Rs. 93,000 to put in a mutual fund, right? Uhm. Yes, but you must consider:

Income Tax

(To his credit, Sandeep does mention he hasn’t considered tax)
NSC earnings are chargeable to income tax. For the top bracket of 30%, you will have to pay around Rs. 90,000 over the six year period for that Rs. 5,07,000 invested. Now NSC Income is reinvested and the extra investment is non-taxable under section 80C, but I will assume that you will have used up the 1,00,000 limit through other methods, and that this income is taxable.

That means, nearly all the extra money will go into tax!!!! But then you still can invest the 93,000 and hope it will grow so much that you can pay off the tax and still have something left over right? Tax is payable every year, so this is the schedule:

Year       Tax to be paid
1st Year : 12,168
2nd Year : 13,141
3rd Year : 14,192
4th Year : 15,328
5th Year : 16,554
6th Year : 17,878

If your Mutual fund goes up by 16% EVERY YEAR, you will just about break even after paying tax; you will end up with Rs. 99,000 after paying all the taxes.

To summarize: If you have Rs. 6,00,000 and you invested Rs. 5,07,000 in an NSC at 6% and Rs. 93,000 in a mutual fund that returned 16% a year, you will have Rs. 9,01,000 after six years (considering you pay out taxes).

Inflation means your Rs. 6,00,000 today is equivalent to Rs. 8,04,000 after 6 years. So your real gain, in six years, is only Rs. 1,00,000 (One lakh).

That’s not as attractive as the 18 lakh return Sandeep mentioned. But that is really the ONLY way have a “capital guarantee”; you should be guaranteed against inflation AND tax, not just on your money today.

What if you consider tax saving as well? The initial corpus of 6,00,000 saves you tax – at 30% of the 1,00,000 80 C limit – which can go into the mutual fund! Let’s also assume that the NSC interest is tax exempt (as part of future 80C contributions), only the last interest (Rs. 60,000) is taxable.

Then your corpus in the fund goes up to 8.04 lakhs (NSC) + 2.66 lakhs (mutual fund) totalling Rs. 10.7 lakhs. You have a tax on the last interest payable at Rs. 17,878 so your net corpus is Rs. 10.53 lakhs.

This is a much better figure – corresponding to about 10% annualised growth, and post inflation growth of about 4.8%. But that is a very positive estimate, considering your mutual fund goes up 16% – any lesser and your returns go down. Plus, now that you have all this money in 80C taken away, you lose that much opportunity to save tax elsewhere.

I hope this has provided you with more perspective about the real meaning of capital security. You have to think Post Tax, Post Inflation.


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