There is often confusion between tax-saving infrastructure bonds and tax-free bonds. We will explain the differences between the two.

Tax-saving infrastructure bonds are a good option in the fixed income category. These are issued by infrastructure companies approved by the government and they offer a decent rate of interest plus tax benefits.

Investment up to Rs 20,000 in these bonds is eligible for income tax deduction under Section 80 CCF of the Income-Tax Act. This is over and above the Rs 1,00,000 deduction available under Section 80C. These are long-term secured bonds which mature in 10-15 years.

Everyone should take benefit of tax-saving infra bonds especially those who are on higher income tax brackets.

Tax-free bonds are mostly issued by government enterprises and pay a fixed coupon rate (interest rate). As the proceeds from the bonds are invested in infrastructure projects, they have a long-term maturity of typically 10, 15 or 20 years.

The income by way of interest on tax-free bonds is fully exempted from income tax. The interest earned from these bonds does not form part of your total income. There is no deduction of tax at source (TDS) from the interest, which accrues to the bondholders. But remember that no tax deduction will be available for the invested amount.

Tax free bonds vs bank fixed deposits (FDs): The interest earned on bank FDs and other normal bonds are added to the income of the investor and taxed as per the income-tax slabs. As interest earned from tax-free bonds are not taxed, investors in higher tax brackets mostly earn a better post-tax return than from FDs. But remember, the bank FDs score over tax-free bonds in terms of liquidity as these bonds have a longer maturity tenure.

Tax-free bonds are suitable for investors looking for a steady source of income annually and can afford to lock-in their capital for the long term.