Gold ETF vs Physical Gold - Key Differences, Costs, Tax & Which to Choose

Gold can be part of a portfolio in more than one form. A Gold ETF gives investors exposure to gold through exchange traded units, whereas physical gold means owning the metal as jewellery, coins or bars. The difference goes beyond how gold is held. Purchase and holding costs, liquidity, taxation, storage, resale and the purpose of buying gold can vary materially between the two. Comparing these factors is important before choosing the format that fits an investor's requirements.

Key Takeaways

• A Gold ETF provides exchange traded, dematerialised exposure to domestic gold prices, subject to expenses and tracking differences.
• Physical gold includes jewellery, coins and bars, which have different costs and purposes.
• Gold ETFs can involve brokerage, bid ask spreads, expense ratio and tracking differences.
• Physical gold can involve GST, dealer or mint premiums, making charges, storage costs and resale deductions.
• Gold ETF units trade at market prices, which can differ from NAV.
• One Gold ETF unit does not necessarily represent one gram of gold. Unit size is scheme specific.
• The appropriate choice depends on the investor's objective, need for possession, liquidity requirements, cost sensitivity and investment horizon.

What is a Gold ETF?

A Gold ETF provides a market based route to gold investment without requiring the investor to purchase the metal directly. The gold ETF meaning can be understood through its structure, where investors hold units of the scheme rather than specific gold bars. These units are listed on a stock exchange and can be bought or sold during market hours. The scheme aims to generate returns in line with domestic gold prices, subject to expenses and tracking differences.

What is Physical Gold?

Physical gold is gold owned in a tangible form that can be directly held and stored. The common forms are jewellery, coins and bars. While all represent gold ownership, their purpose, costs and resale considerations can differ. Jewellery is generally purchased for personal use, gifting or cultural occasions. Coins and bars are more closely associated with bullion ownership. The total purchase cost may include the gold value, applicable taxes, making charges or dealer premiums.

1) Gold Jewellery

Gold jewellery combines gold ownership with personal and ornamental use. Its price can include making charges, design costs and applicable taxes in addition to the gold value.

The resale amount may differ from the purchase price based on gold prices, purity, deductions and the seller's buyback terms.

2) Gold Coins and Bars

Gold coins and bars provide physical ownership of bullion and are generally more relevant when the objective is to hold gold in a standardised form. Their cost may include GST, dealer premiums and other charges. Buyers should also consider secure storage and the difference between the purchase and resale price.

10 Key Differences between Gold ETF vs Physical Gold

Gold can be held either through a Gold ETF or in physical forms such as jewellery, coins and bars. While both provide exposure to gold, they differ in ownership, pricing, costs, liquidity, storage and regulation. Comparing these factors can help investors assess which format aligns better with their investment objective.

Gold ETF vs Physical Gold Cost Breakdown

The cost of owning gold goes beyond its purchase price. Costs can arise at purchase, during holding and at exit, with the nature and extent varying between Gold ETFs, coins, bars and jewellery. Comparing these costs helps assess the overall cost of ownership rather than focusing only on the gold price.

Are Gold ETFs Fully Backed by Physical Gold?

Gold ETFs are designed to provide exposure to gold and are required to invest 95% to 100% of their net assets in gold and instruments with gold as the underlying, as permitted under the applicable SEBI framework. The scheme also invests in physical gold of the prescribed quality and standard. The remaining 0% to 5% may be held in debt and money market instruments to meet liquidity and operational requirements, such as redemptions, recurring expenses and residual cash after gold purchases. A scheme may also use permitted gold related instruments, including Gold ETCDs, subject to applicable limits. Therefore, a Gold ETF should be viewed as a predominantly gold backed investment, rather than assumed to hold 100% of its assets in physical gold at all times. For instance, investors considering Kotak Gold ETF can refer to the scheme's latest portfolio disclosure to check its actual asset allocation.

Can Gold ETF Units Be Converted Into Physical Gold?

Gold ETFs are generally backed by physical gold held by the scheme through an appointed custodian, subject to the scheme’s investment mandate and applicable regulations. However, investors do not directly own specific gold bars against their individual ETF units. The physical gold backing is held at the scheme level, while investors hold units representing their interest in the Gold ETF. Retail investors typically exit by selling their units on the stock exchange for cash. Physical redemption, where permitted, is generally subject to the minimum creation unit size and the applicable redemption process of the fund house.

Advantages of Gold ETFs

Gold ETFs give investors a simple way to take exposure to gold without buying, storing or managing physical bullion themselves.

• Gold ETF units are traded on stock exchanges during market hours, just like listed securities.
• Investors do not need to keep gold at home or arrange for its safekeeping.
• The value of the investment is linked to domestic gold prices, after accounting for expenses and tracking differences.
• There are no making, designing or wastage charges, as the investment is made through ETF units rather than jewellery.
• Units are held electronically in a Demat account along with other investments.
• Investors avoid the practical concerns associated with buying, storing and selling physical gold.
• Gold ETFs are offered as mutual fund schemes and are governed by the applicable regulatory framework.

Gold ETFs still involve costs and market related factors. The expense ratio, brokerage, bid ask spread, tracking difference and trading liquidity can affect the overall investment experience and returns.

Disadvantages and Risks of Gold ETFs

• Gold ETFs are affected by movements in gold prices. If gold prices decline, the value of the ETF can also fall.
• The ETF may not deliver exactly the same return as gold because of expenses, cash holdings and other factors affecting the scheme.
• Gold ETF units trade on the stock exchange, so the price can differ from NAV. Limited trading activity can also affect the price at which units are bought or sold.
• The expense ratio, brokerage and bid ask spread can reduce the investor’s actual return.
• Buying Gold ETF units does not give the investor direct possession of gold for jewellery, gifting or other personal use.

Advantages of Physical Gold

Physical gold gives investors ownership of a tangible asset. Key advantages include

• Gold can be held as jewellery, coins or bars.
• Jewellery can be worn and used for personal occasions.
• Physical gold can be gifted or transferred.
• It can be purchased without a Demat or trading account.
• The owner can decide how the gold is stored, used or transferred.

Disadvantages and Risks of Physical Gold

• GST, making charges on jewellery and dealer premiums can increase the purchase cost.
• Physical gold requires appropriate safekeeping and may involve related costs.
• Buyers should check purity, hallmarking and other relevant quality details before purchase.
• The amount received on sale can differ from the original purchase price due to prevailing gold prices, deductions and the buyer’s terms.
• Jewellery, coins and bars can have different purchase and resale costs, affecting the overall return.

Gold ETF vs Physical Gold: Which May Suit You?

There is no single answer to whether Gold ETF or physical gold is more suitable. The decision should begin with the investor's objective.

When a Gold ETF May Be Considered - A Gold ETF may be considered when the objective is to add gold price exposure to an investment portfolio without taking physical delivery. It may be relevant for investors who have a Demat account, prefer exchange based transactions and do not require gold for personal use or gifting. The investor should, however, account for expenses, tracking differences and the liquidity available when buying or selling ETF units.

When Physical Gold May Be Considered - Physical gold may be considered when possession or use of the asset is important. Jewellery can serve personal, family and cultural requirements, while coins and bars may be used when tangible gold ownership is the objective. For investment purposes, coins and bars should be assessed separately from jewellery, as making charges, premiums and resale terms can differ.

Common Mistakes to Avoid

1. The gold equivalent of one unit can differ from one Gold ETF to another.
2. Gold ETF units trade on the exchange and may be priced at a premium or discount to their NAV.
3. Expense ratio, brokerage, bid ask spread and other charges can reduce the effective return.
4. Jewellery prices can include making charges and applicable taxes, making a simple price comparison misleading.
5. Jewellery, coins, bars and Gold ETFs differ in purity, costs, liquidity, ownership and resale terms.

Conclusion

Gold ETFs and physical gold provide exposure to gold, but they serve different purposes. Gold ETFs offer a convenient financial route to gold through exchange traded units, while physical gold provides direct ownership and can also meet personal, cultural or gifting needs. The choice should therefore depend on the purpose of holding gold, along with factors such as costs, liquidity, storage and the need for physical possession. More importantly, the gold allocation in portfolio should be considered as part of the investor’s overall asset allocation rather than focusing only on the form in which gold is held.

Frequently Asked Questions

1) Is Gold ETF better than physical gold?

Neither is universally better. A Gold ETF may be considered for portfolio exposure to gold without taking physical possession. Physical gold may be more relevant where jewellery, gifting or tangible ownership is the objective.

2) What is the main difference between Gold ETF and physical gold?

A Gold ETF is held as units in dematerialised form and traded on a stock exchange. Physical gold is directly owned as jewellery, coins or bars. They differ in costs, liquidity, storage and how they are bought and sold.

3) What are the disadvantages of Gold ETFs?

Gold ETFs remain subject to gold price movements and tracking differences. Investors also need to consider the expense ratio, brokerage, bid ask spread and exchange liquidity.  

4) What are the disadvantages of physical gold?

Physical gold can involve GST, making charges or dealer premiums, depending on the form purchased. It also requires safe storage and the resale amount may be affected by purity, prevailing gold prices, deductions and the buyer's terms.

5) Is GST charged on Gold ETFs?

GST is not charged to an investor in the same manner as it is on the purchase of physical gold. Buying and selling ETF units is a securities transaction. Brokerage and other applicable transaction charges may still apply.

6) Is GST charged on physical gold?

Physical gold attracts applicable GST.  

7) Are Gold ETFs backed by physical gold?

Gold ETFs are required to invest predominantly in gold and gold related instruments. Under the applicable framework, schemes can generally allocate 95% to 100% to gold and gold related instruments, with up to 5% in permitted money market instruments.

8) Is one Gold ETF unit equal to one gram of gold?

There is no standard rule that one Gold ETF unit must represent one gram of gold. The gold quantity represented by a unit is specific to the scheme and should be checked in its scheme documents.

9) Does Gold ETF price always equal its NAV?

NAV is the per unit value of the scheme, whereas the ETF's market price is determined by trading on the exchange. As a result, the market price can be above or below NAV.

10) Do Gold ETFs have making charges?

Gold ETFs do not carry jewellery making or design charges. Investors may instead incur the expense ratio, brokerage, bid ask spread and other applicable transaction costs.

11) Is physical gold safer than Gold ETF?

The risks are different. Physical gold carries risks related to storage, theft, loss and purity. A Gold ETF avoids personal custody of gold but carries market, tracking and trading related risks. Neither form can be described as universally safer.

12) Can I buy or sell Gold ETFs anytime?

Gold ETFs can generally be bought or sold on the stock exchange during trading hours. The actual execution price depends on market conditions, available orders and liquidity. They cannot necessarily be bought or sold at the desired price.

Disclaimers

Kotak Gold ETF

Investors may consult their Financial Advisors and/or Tax advisors before making any investment decision.

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