FPIs get tax break on bonds

Manoj Yadav

mumbai

In one of its biggest efforts to attract overseas investment in recent years, the government on Friday announced a series of reforms aimed at bringing long-term foreign capital into India’s financial markets, strengthening the rupee and deepening the government bond market.

The centrepiece of the package is the removal of long-term capital gains (LTCG) tax on investments made by Foreign Institutional Investors (FIIs) in government securities. The exemption, introduced through an Ordinance amending the Income Tax Act, is expected to make Indian sovereign bonds significantly more attractive to global investors seeking stable and predictable returns.

The move assumes greater significance as India had raised capital gains taxes in recent years. In the Union Budget presented in July 2024, the government increased the LTCG tax rate on most assets to 12.5% from 10%. Short-term capital gains (STCG) on listed shares continue to be taxed at 15% under Section 111A of the Income Tax Act. By exempting gains from government securities for foreign investors, policymakers are effectively creating a special incentive to channel overseas capital into the sovereign bond market.

The reforms come at a time when foreign investors have withdrawn nearly ₹2.6 lakh crore from Indian equities in 2026, sharply higher than the ₹1.66 lakh crore withdrawn during the whole of 2025. In the first three days of June alone, overseas investors sold equities worth about ₹34,000 crore, adding pressure on domestic markets and the rupee.

The government is seeking to attract long-term investors such as pension funds, sovereign wealth funds, insurance companies and other large institutional investors. Such investors typically have a longer investment horizon and are less influenced by short-term market volatility, making them an important source of stable capital.

The measures also come as the rupee faces pressure from rising crude oil prices, geopolitical tensions and persistent foreign fund outflows. The currency touched a record closing low of 96.86 against the US dollar on May 20. India’s foreign exchange reserves, which had climbed to an all-time high of $728.49 billion in February, stood at $681.38 billion in the week ended May 22 after RBI interventions to smooth currency volatility.

Alongside the tax exemption, the government and the RBI have widened access to government bonds through the Fully Accessible Route (FAR), allowing foreign investors to invest in additional long-tenor securities without restrictions.