Be mindful of capital guaranteed schemes

While most are happy with the fall in Interest rates, the one segment that is a worried lot are senior citizens. With fixed deposit rates falling below 6% p.a. for a year, investors are looking for products with higher and guaranteed interest rates. But all guaranteed returns are not safe.

Currently, the safest investment options for senior citizens are Senior citizen saving scheme, PM Vandana Vaya Yojana, and Post office monthly income scheme. The interest rate on these ranges from 6.5% to 7.4% (see attached table) and these are risk-free investments, but one can invest a limited amount only and the returns are taxable.

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Among the banks, Small Finance Banks are offering @8-8.5% p.a., which is almost 3% higher than older established banks. While all scheduled banks are governed by RBI, small finances bank deposits can be considered, although one must check the capital adequacy of the bank. Remember that like any other commercial bank, a deposit of up to Rs 5 lakhs per bank, is insured by the Deposit Insurance and Credit Guarantee Corp. (DICGC. Senior citizens may want to limit their exposure to Rs 5 lakhs per bank.

Compared to small finance banks, company deposits are giving @7- 8% p.a. for a one-year deposit. The company fixed deposits come with a rating and generally, non-banking financial company deposits are popular.

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Most investors tend to choose companies in existence for decades but do not take into account two risks. One of the concentration risk of having a high amount exposed to a single company.

Two, company deposits are regulated by the Ministry of Corporate Affairs under the Companies’ Act and do not have an insurance guarantee like banks do. Large AAA-rated NBFCs have failed over the last 2 years and hence just having a AAA rating is not enough. It is best to stay away from company deposits.

Capital guaranteed insurance plans are also available. However, the lock-in is too long and there is no regular income. Further, the investor returns in these products would be low and there are too many investment options. A thumb rule for all senior citizens would be to stay away from any investment-linked insurance product.

These days, many “guaranteed” return products like P2P lending, securitized loans etc. are being promoted as an alternative to fixed deposits. In P2P lending, an investor is lending money to a borrower, who may not have good credit score and is borrowing at a high cost on this platform because he/she is not getting bank loans.

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As an investor, how do you ascertain that you will get back your money?

Recently, I came across a gold loan securitized product giving a 10% return. Investors invest in believing the money is being invested in gold. However, the return is based on the receivables from the gold loans. There is credit risk i.e. the issuer defaulting on interest and principal payments.

Before getting into any of these guaranteed products, ask yourself the following questions:

Do you understand how the return is being generated? Get a deeper understanding of how the product works. In the case of the savings scheme from jewelers, you are essentially lending money to them to run their operations and your risk is that the jeweler may not payback.

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How does capital guarantee work? In cases where there is a capital guarantee, what are the collateral and the seniority level of the pledge? Typically banks and other lenders would have the first claim to any secured assets and investors would be the last. In the case of AT1 bonds issued by Yes Bank, investors were told it is a fixed deposit like the product but the reality was that it was a perpetual bond and was written off.

Who is the regulator for the product? SEBI, IRDAI, and banks have investor grievance systems wherein investors can file complaints. In the case of jewellery schemes, jewelers show your investment as an advance against a future purchase, which means there is no regulator for gold schemes from jewelers.

Do you have access to your funds anytime? Senior citizens should stay with products that are liquid and easily accessible.