What is Corporate Bond Fund? Features & Taxation

A Corporate Bond Fund is an open-ended debt scheme predominantly investing in AA+ and above rated corporate bonds. These funds are mandated by SEBI to invest a minimum of 80% of total assets in AA+ and above rated corporate bonds. To further clarify, corporate Bonds are one of the predominant sources of funds for the companies willing to borrow from the market, apart from the borrowings from banks and financial institutions.

What are Corporate Bond Funds?

Corporate Bond Funds are debt mutual funds that invest mainly in bonds issued by companies. Under SEBI’s “Corporate Bond Fund” category, at least 80% of the portfolio must be in high rated corporate bonds (AA+ and above). The goal is to deliver relatively stable potential returns with limited credit risk compared to generic debt funds that may hold lower-rated paper.

Types of corporate bond funds

• By credit quality: AAA/AA+ (high), AA, below AA- rated. SEBI Corporate Bond Funds predominantly hold AA+ and above, keeping default risk low.

• By coupon type: Fixed-rate (steady interest), floating-rate (coupon resets to a benchmark), zero/very low coupon (issued at discount).

• By security: Secured (backed by assets/charge) vs unsecured (higher risk, higher yield).

• By tenure/duration: Short, medium, or long maturity. Price sensitivity to interest rates rises with duration.

• By structure: Plain vanilla bonds, perpetuals/additional tier-1 (AT1), callable/puttable bonds, structured instruments.

• By seniority: Senior (paid first in liquidation) vs subordinated (paid after senior; carries extra risk).

Corporate Bond Mutual Funds choose from the above bond types but are constrained by the category rule to keep overall credit quality high.

Here are the salient features of Corporate Bond Funds

• High-quality portfolio: Large allocation to AAA/AA+ issuers such as PSUs, blue-chip corporates, and top NBFCs reduces credit-event risk.

• Moderate return potential: Typically, higher yields than government securities of similar maturity, but lower than credit-risk funds that generally invest in invest in lower rated securities.

• Interest-rate sensitivity (duration risk): NAVs rise when market yields fall and vice-versa. Funds can adjust duration but cannot avoid this risk.

• Better liquidity than individual bonds: Purchase/redemption on all business days (subject to exit load, if any) without hunting for a buyer in the bond market.

• Diversification: Exposure spread across issuers, sectors, and maturities reduces single-issuer impact.

• Transparent valuation: Portfolio marked to market; you see daily NAV movement rather than opaque price quotes.

• Expense ratio matters: Lower costs improve net yield; don’t ignore direct vs regular plan difference.

• Suited for short-to-medium horizons: Typically, 2–5 years, aligning with the usual duration range of portfolios.

• Use cases: Emergency-fund “second layer,” planned expenses, and the debt sleeve in asset allocation with equities or hybrid funds.

How Do Corporate Bond Funds Work?

Your money is pooled with other investors and deployed into a basket of corporate bonds that meet the fund’s mandate. The fund potentially earns coupon income and capital gains/losses as interest rates move. Fund managers balance three levers-

1. Credit quality: Staying largely in AAA/AA+ issuers to contain default risk.

2. Duration: Positioning maturities based on views of interest rates, yield curve, and liquidity.

3. Liquidity management: Holding some cash/overnight instruments for redemptions so the fund isn’t forced to sell longer bonds at poor prices.

Returns therefore come from carry (yield earned) plus price changes from rate movements. If rates fall, bond prices rise and NAVs gain; if rates rise, you’ll see mark-to-market dips that are usually recovered as bonds “accrete to par” over time.

How Should You Invest in Corporate Bond Mutual Funds?

• Start with your risk profile: If you want stability and don’t want to carry lower-rated credit risk, this category may fit better than credit-risk funds. However, it still isn’t entirely risk-free; be ready for interim NAV swings.

• Match fund duration to your horizon: For a 2–3 year goal, funds with short-to-medium duration. For 3–5 years, you can accept a bit more duration. If your goal is within a timeframe of months, liquid/ultra-short categories may be more suitable.

• Check portfolio quality and concentration: Look for diversified issuer mix, low exposure to perpetuals or complex structures, and minimal single-issuer weights.

• Review AMC discipline: Risk controls, history through stressed periods, and clear communication matter a lot.

• SIP vs lump sum:

  • SIP helps average entry during volatile rate cycles.

  • Lump sum may be suitable when you’re deploying a known cash pile; if worried about near-term rate spikes, stagger it over a few months.

• Set role in your asset allocation: Corporate Bond Funds may be suitable as a core debt component, alongside liquid/money-market funds for near-term needs.

• Monitor reasonably: Review once a quarter. Revisit only if credit quality slips, duration becomes mis-matched with your goal, or expenses creep up.

Should you invest in Corporate Bond Funds?

May be suitable if you want a quality-first debt fund with relatively predictable income and lower credit risk than generic credit-oriented products. However, expect moderate potential returns, not equity-like growth. Don’t use them as a proxy for traditional investments with guaranteed returns as they carry market risk and NAVs can fluctuate. For many investors, a Corporate Bond Fund can be a “middle path” between gilt funds (pure interest-rate risk, sovereign credit) and credit-risk funds (higher yield, higher default risk).

Taxation of Corporate Bond Funds

For investments purchased on or after April 1, 2023, Corporate Bond Funds are treated as non-equity for tax. That means -

• Capital gains on redemption are added to your income and taxed at your slab rate, irrespective of holding period; no indexation.

• Dividends (if you choose the Income/Dividend option) are taxed at slab rates in your hands; fund houses typically deduct TDS at 10% for resident individuals once annual payouts from that AMC exceed the Rs. 10,000 threshold as per law.
   

• Growth option + planned withdrawals (SWP) is often more tax-efficient for long-term goals because only the gain portion of units sold is taxed each time.

• Set-offs/carry-forward: Short-term losses can offset STCG/LTCG; long-term losses offset LTCG only. Unused capital losses may be carried forward for eight assessment years, subject to timely ITR filing.
  
  Always check the latest rules before redemption; taxation is policy-sensitive and can change.

FAQs

What is corporate bond fund?

A corporate bond fund is a debt mutual fund that invests mainly in bonds issued by companies. SEBI’s category requires at least 80% in AA+ and above rated corporate bonds, aiming for lower credit risk with moderate, market-linked return potential.

Who should invest in corporate bonds?

Investors seeking relative stability over high yield, willing to accept interest-rate-driven NAV swings but not keen on lower-rated credit exposure. May be suitable for 2–5 year goals, as the core debt sleeve in a balanced portfolio alongside equities.

What is the investment tenure of a corporate bond?

For most retail goals, align holding period to 2–5 years in a Corporate Bond Fund so rate cycles even out and coupon carry does the heavy lifting.

Are corporate bonds profitable?

They target steady, moderate return potential, typically above government securities of similar maturity and below riskier credit funds. Profitability depends on yield at entry, fund expenses, rate movements, and default-free performance.

Disclaimer: Investors should consult their financial advisers if in doubt about whether the product is suitable for them.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.