Tax Overhaul: Government Grants Major Capital Gains Relief to FPIs, Aiming to Boost $30 Billion Inflows

Tax Overhaul: Government Grants Major Capital Gains Relief to FPIs, Aiming to Boost $30 Billion Inflows​

Tax Relief Shields Foreign Investors​

The government has granted significant tax relief to Foreign Portfolio Investors (FPIs) regarding their investments in government securities. This move is intended to bolster capital flows into Indian debt instruments and encourage sustained foreign investment. Government sources have stated that while the exchequer may incur a revenue loss of around ₹10,000 crore following this policy change, the benefits derived are assessed as far outweighing the cost.

Mechanics of FPI Tax Exemption​

Effective June 5, the Central government exempted FPIs from paying capital gains tax on both long-term and short-term gains generated from the sale, exchange, or transfer of government securities (G-secs). Furthermore, the policy removed the existing 20 percent withholding tax that was levied on interest income derived from these investments.

Previously, foreign investors were subject to a 12.5 percent long-term capital gains tax on G-secs held for over 12 months, alongside the 20 percent withholding tax on accrued interest. The relief provides immediate buoyancy and increased yield potential for international debt holders.

Valuation vs. Potential: The Economic Calculus​

A detailed SBI Research report reveals that FPIs currently hold approximately ₹380,487 crore (about $46 billion) worth of Indian government bonds across the fully accessible route (FAR) and general investment routes. These holdings generate substantial annual interest income, estimated at ₹26,000–27,000 crore.

The report calculated that if the previous 20 percent withholding tax were applied to this interest income alone, it would constitute a deduction of ₹5,200–5,400 crore. When accounting for the annual capital gains levy, which is estimated at approximately ₹500–1,000 crore, the total potential revenue loss from existing holdings is estimated between ₹5,700 and ₹6,400 crore.

Economists, however, maintain a robust view on future inflows. While no concrete number has been set by the government regarding expected FPI influx, economists estimate that these tax measures, combined with other actions taken by the Reserve Bank of India (RBI), could attract approximately $20 to $30 billion in inflows this year.

Central Bank Support Bolsters Debt Market Stability​

The RBI has simultaneously introduced several measures to support stability and liquidity within the debt markets. The central bank extended specific support mechanisms related to hedging costs for FCNR(B) deposits, which is designed to encourage banks to mobilize more foreign currency deposits from Non-Resident Indians (NRIs).

Additionally, the government introduced a concessional forex swap window targeted at public sector external commercial borrowings (ECBs). This measure allows state-run firms enhanced access to necessary foreign-currency funding by providing stable and predictable hedging costs.

In related market developments, the Finance Minister Nirmala Sitharaman suggested on June 15 that the government is prepared to announce further measures in an effort to boost capital flows into key financial sectors. As context, FY27 has recorded a debt outflow of around ₹3,200 crore from FPIs.