India's Big Move to Attract Foreign Investment
In a significant policy shift aimed at drawing greater overseas capital, the Union Cabinet has approved an ordinance to remove capital gains tax on foreign portfolio investors (FPIs) investing in Indian government securities. The move signals New Delhi’s intent to deepen its debt markets and enhance India’s appeal as a destination for global fixed-income investments. Currently, foreign investors pay a 12.5 per cent long-term capital gains tax (LTCG) on bonds and listed shares held for more than 12 months, in addition to a substantial withholding tax on interest income. By removing a major tax hurdle, the government hopes to encourage stronger foreign participation in the country’s sovereign bond market.
Why the Reform Became Necessary
India’s bond market has long remained underrepresented in global investment portfolios despite the country’s strong economic fundamentals and growth prospects. While successive reforms have opened the debt market to foreign investors, taxation has continued to act as a deterrent.
Foreign investors currently face a dual burden: a 12.5 per cent LTCG tax on eligible bond investments and an interest withholding tax of around 20 per cent. The withdrawal of the concessional 5 per cent withholding tax regime in 2023 further reduced the attractiveness of Indian government securities. As a result, India today imposes one of the highest tax burdens on foreign bond investors among major emerging economies.
The proposed amendment to the Income Tax Act, recommended by the Reserve Bank of India (RBI), seeks to address this long-standing concern and align India’s tax framework with global best practices.
The Strategic Logic Behind the Decision
Several economic factors have converged to make this reform a priority.
The Indian rupee has come under pressure, depreciating by more than six per cent against the US dollar in 2026. Simultaneously, rising oil import costs and broader global uncertainties have increased the need for stable foreign capital inflows. Adding to these concerns, foreign institutional investors have reportedly withdrawn nearly ₹2 lakh crore from Indian equities during the first four months of the year.
Despite being one of the world’s fastest-growing major economies, foreign investors hold only around three per cent of India’s approximately ₹1.3 trillion government bond market. This level is significantly lower than comparable emerging economies such as Indonesia, Malaysia, Mexico and South Africa, where more favourable tax structures have encouraged stronger foreign participation.
Benefits on the Cards
The removal of capital gains tax could substantially improve the attractiveness of Indian government securities by enhancing post-tax returns for global investors.
· First, greater foreign participation can increase liquidity and depth in the domestic bond market, making it more efficient and resilient.
· Second, stronger inflows into government securities can help stabilize the rupee by boosting foreign exchange availability.
· Third, a broader investor base can potentially reduce borrowing costs over time by increasing demand for sovereign debt.
The reform also strengthens India’s position in the global financial ecosystem by bringing its taxation framework closer to international norms, where many countries exempt foreign investors from capital gains tax on sovereign bonds.
A Crucial Step in Financial Market Evolution
The Cabinet’s decision represents more than a tax adjustment; it is a strategic effort to strengthen India’s financial architecture. While concerns regarding revenue foregone and fiscal sustainability remain valid, the broader objective is clear: attracting long-term global capital to support economic stability and market development. If accompanied by sustained policy consistency and investor-friendly reforms, this initiative could mark a turning point in India’s journey toward becoming a leading destination for international fixed-income investment.
(With agency inputs)
