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What are Tax-Free Bonds?

Writer # Indiabonds | November 23, 2022

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Tax-free bonds are the only fixed-income form with no associated tax liability on the interest earned. You can invest in tax-free bonds and keep 100% of the interest you receive each year. In India, the government or any public sector undertaking can issue tax-free bonds to the public. These bonds are a safe choice for your portfolio. Find out what tax-free bonds are and how you can invest in them.

What are Tax-Free Bonds?

Tax-free bonds are fixed-income securities issued by government undertakings. They don’t attract tax on the income they generate. You get a fixed interest each year without having to pay taxes on it. They also pay back the principal amount when they mature, just like other bonds. Tax-free bonds historically have been issued by government developmental agencies. The purpose was to raise long-term capital to mostly support building of infrastructure and essential utilities. They were issued as tax-free bonds so that the interest required to be paid would be lower than usual taxable bonds and help to lower the financing cost of such projects. For the investor they are attractive due to tax benefits from earned interest.

Large government-owned entities such as NTPC Limited, Power Finance Corporation (PFC), Rural Electrification Corporation (REC), Indian Railways Finance Corporation Limited (IRFC), National Highways Authority of India (NHAI), etc., are some of the companies that have issued tax-free bonds in India. These bonds can be held in demat account and are also freely tradeable in the secondary market.

What are the Benefits of Investing in Tax-Free Bonds?


As the name suggests, the interest earned on tax-free bonds are tax exempted. As an investor, you should report the interest as exempt income while filing your income tax return. However, any capital gains made on secondary sale of the bonds would carry the appropriate capital gains tax.

Low Risk

Since these bonds are issued by the government and its agencies, the chances of not paying back the principal and interest are very low. It also protects your capital and gives a fixed income at regular and periodic intervals. So, it is relatively a very safe investment avenue for investors.


As tax-free bonds are very popular and sought after, there is ample liquidity in the secondary market in case investor needs to sell and raise cash immediately. They are a much better option than other fixed income instruments like FDs  that have a lock-in period and are taxable instruments.


Tax-free bonds usually have a long maturity or tenor. This is beneficial for investors having a longer investment horizon and do not want to bother with regular re-investment opportunities. Ideally suited when planning for a life-event in future or for retirement as well.

What are the Common Tax-Free Bonds?

Bonds from many public-sector companies are not taxed. Some of the common tax-free bonds in India are issued by entities like, NTPC Limited, Indian Railways, National Highway Authority of India, and Rural Electrification Corporation. Other examples are the Housing and Urban Development Corporation, Rural Electrification Limited, the Indian Renewable Energy Development Agency, and the Power Finance Corporation.

Tax-free bonds are popular among investors because they don’t attract taxes. These bonds are excellent for you if you want to take minimal risk. These are the safe way to invest money because government undertakings issue them.

How to Invest in Tax-Free Bonds?

Primarily, you can invest in tax-free bonds only when the government or any PSU opens the issue to the public at large. You can also invest in the same in the secondary market as they are highly liquid.

One way you can invest in tax-free bonds is through the primary market which is Bond Public Issue where the specific bond issue is issued for the first time directly by the entity to the investor. The alternative method of investing in tax-free bonds are through secondary markets, that is via stock exchanges.

Invest in tax-free Bonds with ease in just 3 simple steps:

  • Sign up on IndiaBonds.com
  • Complete your KYC online in under 3 minutes without any paperwork and uploads.
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For more clarification read our blog on How to Invest in Bonds.


Tax-free bonds are an excellent option if you want to invest and get a steady, tax-free income. If you are thinking about corporate bonds and fixed deposits as possible investments, you should also consider tax-free government bonds. It is a safe fallback option that doesn’t require you to be concerned about liquidity.

Bonds that don’t attract taxes are an excellent choice for investors, especially senior citizens who need a steady income. Since government undertakings back them, tax-free bonds have a low risk of going bad. The interest on tax-free bonds is another big reason for their popularity.  Are you still paying taxes on your bond income? If yes, then it’s time to go tax-free! You can see some current tax-free bond offers here.


1. Why are tax-free bonds an excellent way to put your money to work?

Tax-free bonds are a good investment tool for many investors because they attract zero taxes on interest income and offer a reasonable interest rate.

2. Can an individual investor buy bonds that don’t have to pay taxes?

Yes, anyone can buy tax-free bonds, and that includes senior citizens.

3. Is it safe to make investments in tax-free bonds?

Yes, tax-free bonds are a safe way to put your money to work because they protect your capital and give you a steady income. Further, they are backed by government undertakings that further make them less risky.

4. Are tax-free bonds not subject to taxes?

Yes, according to the Income Tax Act of 1961, interest income on tax-free bonds does not attract tax. However, if the bonds are sold in the secondary markets, then they will attract capital gains tax on any profits made on such sale.

5. How do you cash in your tax-free bonds?

At maturity, you can cash in your tax-free bonds. Until maturity, users can sell the bond to other buyers in secondary markets like the stock exchange.