Gold ETFs versus sovereign bonds: Where should you invest?

Looking to invest in paper gold? Well, one can do that either through gold exchange-traded funds (ETFs) or sovereign gold bonds (SGBs). With these avenues, investors do not get any physical possession of the yellow metal. Instead, these investments are required to be redeemed to get returns.

Unlike physical gold, gold ETFs and bonds earn handsome returns and on top of it give tax benefits, according to experts.

SGBs are issued by the government, for which investors get a holding certificate. It comprises government securities denominated in gold wherein investors are required to pay the issue price in cash. The bonds are redeemed in cash on maturity and are also eligible for conversion into demat form.  These bonds provide an interest of 2.5 percent on the initial investment, payable half-yearly till maturity period of 8 years. The market price of the bond moves in line with domestic gold prices.

Gold ETFs, on the other hand, are listed instruments whose market price is linked to domestic gold prices.

The maximum subscription limit for SGBs is 4 kg for individual, 4 kg for HUF, and 20 kg for trusts and similar entities per fiscal (April-March).

"There is no such limit for Gold ETFs, however,  investors would have to bear large bid-ask spread on the exchange due to low volumes," explains Ashish Shanker, Head Investment, Motilal Oswal Private Wealth Management.

According to Shanker, interest from SGBs is taxable as per the investor’s income slab. The capital gains on SGB is tax-exempt if held till maturity, and if exited post 5 years and before maturity, the capital gain is subject to tax at 20 percent with indexation benefit.

Gold ETFs, meanwhile, are taxed at 20 percent with indexation benefit if held for equal to or more than 3 years, and at the marginal rate if held for less than 3 years.

The rates of ETF and SGB are linked to physical gold rates.

"So, the capital appreciation benefit of both the investment products are the same. However, in addition to capital gain benefit, SGB also offers interest at 2.5 percent on the invested value to its investors. So, those who are investing for a very long period, 2.5 percent interest can make a big difference to the overall return," as per BankBazaar.

Loan against gold is a very popular borrowing product. The loan facility is allowed against SGB. However, such a loan facility is not allowed against the ETF.