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What is Redemption?

Updated on July 26, 2021 , 93 views

Redemption is extensively used in the business and financial world. In the financial world, redemption refers to the repayment of the financial instrument before it reaches maturity. Traders can make redemptions by trading all the shares or portions of the shares they own to the public. In the marketing context, redemption refers to the practice of claiming the bonuses and rewards offered by the merchant. Redemptions are mainly classified into two types:

  • In-kind redemption (exchange-traded funds)
  • Mutual fund redemptions

Redemption

Note that redemption is directly associated with the Capital gains as well as losses. Those who buy fixed-Income shares and financial instruments are entitled to receive interest payments on their investment at regular intervals. The investors have the right to redeem these shares either on the maturity date or a few days before the instrument reaches maturity. If the investor makes redemption during the maturity of the security, they will get the par value of this security.

Breaking Down Redemption

Organizations that issue Mutual Funds, Bonds, and other securities can pay the bondholders the Face Value of this security when the investor sells the shares back to the company before they reach the maturity period. Most investors redeem their shares only after they have received the accrued interest on their investment. The value of redemption is significantly higher than the face value of the security. If you have invested in the mutual funds and you are planning to redeem the funds, you are supposed to inform your manager.

It takes a couple of days for the fund manager to process your request and provide you with the principal amount of the bond. You will be paid the amount equivalent to the current market price of the mutual funds or shares (excluding the fund manager’s fees and other redemption charges).

Customers often make redemptions regularly. For instance, the coupons and vouchers they receive from a company can be redeemed for specific products and services. For instance, you can redeem the voucher for a pack of chocolates at a grocery store.

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Example of Redemption

Redemptions can result in Capital Gains or a Capital Loss. The tax levied on the capital gains from the investment will be reduced if the individual suffers capital loss within the same year. Let’s understand the concept of capital gains and losses associated with redemption with an example.

Suppose you purchase the bonds that are priced at INR 50,000 at INR 40,000 (discounted price). When you redeem this bond during maturity, you make a profit of INR 10,000. This will be classified as your capital gains. Imagine you buy the bond with the par value of INR 60,000 at a premium price, i.e. INR 65,000. You redeem this bond for its face or par value during the maturity. This means you suffer a loss of INR 5,000 on this investment. Now, the capital loss will offset your gains, thus reducing your tax liabilities on this investment.

Disclaimer:
All efforts have been made to ensure the information provided here is accurate. However, no guarantees are made regarding correctness of data. Please verify with scheme information document before making any investment.
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