Sovereign Gold Bond vs Gold ETF: Which is more Suitable?

Gold has held a special place in the hearts of Indians for generations. Beyond its cultural importance, many households view gold as a long-term store of value and a way to diversify their financial portfolio. As investment choices have expanded, investors may now access gold through regulated financial instruments instead of relying only on physical forms. Two such options are Sovereign Gold Bonds (SGBs) and gold exchange traded funds (ETFs), each offering exposure to the domestic price of gold through different mechanisms.

SGBs are issued by the Reserve Bank of India on behalf of the Government of India and come with an eight-year maturity. Gold ETFs, on the other hand, are market-linked instruments traded on stock exchanges and allow buying or selling units anytime during trading hours.

This article offers you a detailed comparison between these two options helping in informed decision-making.

• Table of contents

• Understanding Sovereign Gold Bonds
• Pros and cons of investing in SGBs
• Understanding Gold ETFs
• Pros and cons of investing in ETFs
• Sovereign Gold Bonds and Gold ETFs: The differences
• Taxation on Sovereign Gold Bonds vs. Gold ETFs
• Sovereign Gold Bonds or Gold ETFs: Which is more suitable?

Understanding Sovereign Gold Bonds

The Reserve Bank of India (RBI) launched Sovereign Gold Bond (SGB) in November 2015 as an alternative to buying physical gold. It allowed investors to buy gold bonds equivalent to a certain amount of gold.

An investor can stay invested in SGBs for a maximum tenure of 8 years, with an early exit option available after 5 years. Their redemption is linked to the current market price of gold.

As of now, there are no new Sovereign Gold Bond (SGB) tranches announced or available for subscription through the RBI. The future of the SGB scheme remains uncertain, with no official updates on upcoming issuances.

However, investors looking to invest in SGBs can purchase them through the secondary market. SGBs are listed and traded on stock exchanges and can be bought or sold using a demat account. However, trading volumes typically differ across tranches, with some tranches experiencing lower liquidity. Prices may trade at a premium or discount depending on market demand and the remaining tenure.

Additionally, investors buying from the secondary market will still receive interest payouts based on the bond’s original issue price, not the current market value.

Pros and cons of investing in SGBs

Pros:

• SGBs offer returns linked to the market price of gold, and the redemption value reflects this price movement.
• The investors earn a fixed interest of 2.5% per annum on their investment. This interest is credited to the investor’s account every 6 months and is taxable.
• There are no storage or insurance considerations since the investment is held in demat or certificate form.
• SGBs may support long-term allocation towards gold in a diversified portfolio, especially for those who prefer a regulated structure.
• Redemption at maturity offers capital gains tax exemption for individual investors.

Cons:

• SGBs carry market risk because gold prices fluctuate over time.
• Investors must consider an eight-year maturity period, though RBI offers premature redemption windows after the fifth year for individuals.
• Premature sale in the secondary market may lead to capital gains tax depending on holding period and applicable tax laws.
• The minimum investment allowed in SGB is 1 gram of gold.

Understanding Gold ETFs

Gold Exchange Traded Funds or Gold ETFs are a type of mutual fund investing in gold. Just like shares of companies, these Gold ETFs are also traded on the stock exchanges like NSE and BSE. They are managed by mutual fund companies, and each unit of a Gold ETF represents a certain quantity of gold.

An investor who is interested in buying Gold ETFs needs a demat account. The value of Gold ETFs changes based on the price of gold in the market.

Pros and cons of investing in Gold ETFs

Pros:

• Gold ETFs provide exposure to the price movement of gold without concerns related to storage, purity or security.
• They offer flexibility because units may be bought or sold on stock exchanges at prevailing market prices.
• They mayform part of a diversified portfolio for investors seeking a regulated route to gold allocation.
• Since units are held in demat form, record-keeping is streamlined.

Cons:

• Gold ETFs are subject to market fluctuations because gold prices vary over time.
• Investors require a demat account and a trading account to transact.
• Liquidity on exchanges may depend on trading volumes for specific ETFs.
• Expense ratios and transaction costs may impact overall returns.
• Capital gains from selling gold ETFs are subject to taxation based on the holding period.

Sovereign Gold Bonds and Gold ETFs: The differences

Read Also: Gold ETF vs Gold Mutual Fund: Key Differences and Which is Better?

Taxation on Sovereign Gold Bonds vs. Gold ETFs

Sovereign Gold Bonds

If Sovereign Gold Bonds (SGBs) are held for 5 years or until maturity and redeemed through the RBI, there is no tax on capital gains.

But if you sell SGBs before they mature on the secondary market are as follows:

• Selling within 1 year: Profits, if any, are added to your income and taxed as per your income slab.
• Selling after 1 years: Profits count as long-term capital gains and are at 12.5% without indexation benefits.

Taxation on Gold ETFs

As per tax rules effective from April 1, 2023, the capital gains on Gold ETFs are taxed at slab rates, regardless of the holding period.

Sovereign Gold Bonds or Gold ETFs: Which is more suitable?

Sovereign Gold Bonds may be suitable if you are looking for a longer-term investment with additional fixed interest and are comfortable with reduced liquidity. If you are not concerned about short-term access to funds, SGBs may be a suitable choice.

On the other hand, Gold ETFs may be more suitable if you want more flexibility and liquidity or prefer investing small amounts regularly rather than locking up a large capital at once.

Read Also: Gold ETF vs Silver ETF: Key Differences and Where to Invest?

Conclusion

Both Sovereign Gold Bonds and Gold ETFs offer ways to invest in gold digitally, without the concerns of physical storage. While SGBs may suit long-term investors seeking potential stability and fixed interest, Gold ETFs offer more flexibility and easier access, especially for shorter holding periods.

Frequently Asked Questions

What is the minimum investment amount for Sovereign Gold Bonds?

The minimum investment is equivalent to one gram of gold. The price is decided by the RBI at the time of the issue.

Can I sell Sovereign Gold Bonds before eight years?

Yes, you can sell Sovereign Gold Bonds after the fifth year on interest payment dates, if held in certificate or demat form. However, they can be sold any time on the secondary market through a stock exchange (if held in demat form).

Do I need a demat account for Gold ETFs?

Yes, a demat account is necessary for buying and selling Gold ETFs. Without it, you cannot invest in Gold ETFs.

Which option is better for short-term investment?

Gold ETFs may be more suitable for shorter term investment because they can be bought and sold easily on the stock exchanges without any lock-in period. However, gold prices can be volatile in the short term.

Is the interest on Sovereign Gold Bonds taxable?

Yes. The 2.5% annual interest is taxable as per your income slab. Capital gains arising from selling to the RBI at maturity are tax-free. However, if sold on the stock exchange, capital gains tax applies.

What is the disadvantage of Gold ETFs?

One consideration with Gold ETFs is the expense ratio, which can reduce overall returns slightly. Also, there is no fixed interest on Gold ETFs. However, advantages include higher liquidity and the option to top up investments or redeem at any time.

Is it better to buy gold or gold ETF?

Neither is inherently ‘better’. A gold ETF is a market-linked instrument that tracks domestic gold prices and may be suitable for those who prefer electronic holding, transparent pricing, trading opportunities, and regulated market access. Physical gold involves storage and making charges and offers less liquidity. Both carry risks, and the choice depends on individual goals and due diligence.

What is better, gold bond or gold ETF?

Neither is inherently more suitable. Sovereign gold bonds (SGB) represent government-issued securities linked to domestic gold prices, while gold ETFs are exchange-traded units backed by physical gold. SGBs offer interest income that is taxable and capital gains exemption on redemption after eight years. Gold ETFs provide liquidity and market-based pricing. Suitability depends on goals, risk tolerance, and research. Moreover, as new tranches of SGB are yet to be announced, investors can only purchase them in the secondary market, subject to availability.