Key things to keep in mind before investing in corporate bond funds

Amid credit events and poor liquidity management, the debt mutual funds have been in news for all the wrong reasons. These events have hit some mutual fund schemes severely. As a result, a few categories such as credit risk funds have seen major outflows in the past one year. However, in the same timeframe, assets of corporate bond funds surged to Rs 1,18,000 crore as of July 2020 from Rs 67,000 crore as of July 2019, registering a rise of over 75 per cent. Indeed, this might have tempted you to invest in them. So, here are a few things that you should know before investing in them.

What are corporate bond funds?

Corporate bond funds are open-ended debt schemes that predominantly invest in high rate corporate bonds. As per the mandate of Securities and Exchange Board of India (SEBI), corporate bonds need to dedicate 80 per cent of its assets to the highest-rated bonds. Compared to credit risk funds, they are less risky for obvious reasons that they hold high-rated papers. However, they are not risk-free investments. Remember, IL&FS, Zee, DHFL have set a great example of how even the highest-rated bonds can default on their payments.

How they have performed?

In the last one-year, corporate bond funds on an average have generated returns of 10.74 per cent. Further, the best-performed fund in the category delivered 13.16 per cent returns in the last one-year and the worst-performed fund in the last one-year gave returns of 2.44 per cent. Here we can see that the difference between the worst and the best is quite high. Hence, fund selection must not go wrong.

How are they taxed?

If the investment is sold before three years, then the gain from that investment is considered as short-term and short-term capital gains (STCG) tax is applicable. And if the investment is sold after three years, then it is considered as long-term and long-term capital gains (LTCG) tax would be applicable. If the STCG tax is applicable, then the realised gains from such investments are added to the income of the investor and taxed as per an individual’s tax slab rates. If it is LTCG tax, then it is taxed at the rate of 20 per cent with indexation benefit.