Sovereign Gold Bonds: From 'Golden Goose' To Golden Noose

Has the government decided that the issue of sovereign gold bonds (SGBs) is no longer worth it?

The fact that till mid-August it has not issued any new tranche (earlier, it was issuing one every quarter), and has further made drastic changes to gold-related taxation in the July budget, suggests that it may be done with SGBs, at least in their current form.

In her budget for fiscal 2024-25, Finance Minister Nirmala Sitharaman made several changes to the government’s policies on taxing gold, both at the level of imports and on the capital gains made on paper gold instruments. The three changes are:

One, a drastic cut in the gold import duty from 15 per cent to 6 per cent. In short, this is a cut from the highest rate ever to the lowest in a decade. Sitharaman said matter-of-factly that this was intended “to enhance domestic value addition in gold and precious metal jewellery in the country”. Ho-hum.

Two, she reduced the holding period for gold to qualify as a long-term asset, and hence entitled to lower rates of long term capital gains (LTCG) tax, from 36 months to 24. The rate of LTCG was also cut from 20 per cent with indexation to 12.5 per cent without indexation.

Three, the capital gains rate is also being cut for gold exchange traded funds (ETFs) and gold mutual funds. This is a U-turn from last year’s proposal to tax these gains at the slab rate of the taxpayer (which could be 30 per cent plus cesses and surcharge for those in the highest brackets), to 12.5 per cent for listed ETFs and funds, and 20 per cent for unlisted funds. This change will be effective from 1 April 2026.

What the Finance Minister left unsaid was what she would do with SGBs, which are entirely exempt from capital gains tax if held till redemption.

Some analysts have interpreted it as a move to abandon the issue of SGBs altogether. The fact that this year the government is yet to announce a fresh issue of SGBs is seen to bolster this hypothesis. In the past, the government has issued one tranche every quarter. 

An article by Ateesh Tankha and Ganga N Rath in The Economic Times claimed that the government was effectively killing its 'golden goose', if it was giving up on SGBs. They point out that between 2015 and early 2024, 147 tonnes equivalent of gold were mobilised in the form of SGBs, raising Rs 72,275 crore.

The moot point is: was this a golden goose for the government or only for investors?

In November 2023, when the government paid out Rs 6,132 per gram when the first lot of SGBs were redeemed (they were issued at Rs 2,684 per gram in November 2015), the compounded annual return was just under 11 per cent, and free from LTCG.

Add the taxable interest of 2.75 per cent paid semi-annually (later reduced to 2.5 per cent), and the real returns would be even higher.

It hardly looks like smart fiscal economics when government can raise 10-year money at less than 7 per cent today (versus the last payout of over 11 per cent on eight-year SGBs). 

Of course, it can be argued that the government never thought gold prices would rise this high over eight years. But this is faulty logic.

Over the last 15 years since 2009, the average annual increase in gold prices in rupee terms has been over 11 per cent. There have been only three years in which gold prices actually fell, but these were made up during the boom years.

In 2011, gold prices vaulted by 31 per cent, and this calendar year it has already risen 22 per cent, according to data from www.goldprice.org.

Secondly, gold prices are highly influenced by global political and economic uncertainties.

In 2024, with two major wars underway and which show no signs of ending, and with the US, Japan and Europe running high fiscal deficits, both gold and crypto currencies are serving as hedges against inflation.

So, there is no way the government of India can assume, given this history and current price trends, that it is going to borrow cheaply using SGBs.

Third, why would any citizen believe a government which wants citizens to shun gold but ends up doing the exact opposite itself? A business chamber report says that the Reserve Bank of India has been buying gold at the average rate of 40 tonnes a year in the last five years. 

Moreover, with few governments anywhere showing signs of actually reining in fiscal and monetary profligacy, gold will remain a safe haven.

The budget proposals on import duty cuts and changes to the LTCG regime indicate that the Finance Ministry is wising up to the real costs of SGBs.

SGBs may look like golden geese in the short run, but could turn out to be a golden noose around the fisc. If at all they make a comeback, SGBs should be treated on a par with gold ETFs and mutual funds on LTCG.