India weighs FPI G-sec tax break to steady rupee 2026

What the government is proposing

India is preparing steps aimed at slowing foreign capital outflows and attracting fresh overseas money into government securities as the Middle East conflict adds pressure on crude prices and the rupee. Reports indicate the government is looking to do away with capital gains tax on foreign portfolio investors’ holdings in Indian government securities (G-secs). The proposal is positioned as part of a broader effort to cushion the economy from the impact of the ongoing Iran conflict.

The policy discussion is also tied to a wider push to align India’s tax treatment of foreign bond investors with global norms. Alongside capital gains changes, the government is also evaluating whether it should eliminate the tax on interest income earned by global funds on bonds, or reduce it to a minimal level, according to people cited in reports. These potential moves come as authorities attempt to support the currency amid sustained portfolio outflows and heightened external risks.

Ordinance route and what happens next

Sources cited in reports said the Union Cabinet led by Prime Minister Narendra Modi cleared an ordinance on Wednesday to amend the Income Tax Act to enable the proposed exemption. Once the ordinance receives the President’s approval, a formal notification is expected to follow shortly after.

If implemented as described, the ordinance would completely eliminate capital gains tax on investments made by FPIs in Indian G-secs. The plan is being framed as an emergency step among several measures meant to conserve foreign exchange reserves and reduce stress on the currency market. The final contours will depend on the exact language of the ordinance and subsequent notifications.

Current tax regime for foreign investors

At present, foreign investors pay a 12.5% long-term capital gains (LTCG) tax on listed equities and bonds held for more than a year, as cited in the reports. A concessional 5% tax rate that was previously available to such investors was withdrawn by the government in 2023.

Market participants have advocated cutting both the LTCG tax and the withholding tax on interest income from government securities. In the latest set of discussions, the government is also considering whether the 20% levy on interest earned from bonds should be removed or sharply reduced, as per people familiar with the matter quoted in reports.

Why the timing has become critical

The policy review is unfolding against the backdrop of persistent foreign capital outflows from India and visible stress in the rupee. Reports said net foreign portfolio investor (FPI) outflows in the current calendar year have reached INR 247,000 crore, more than twice the INR 104,000 crore withdrawn during calendar year 2025. Separately, reports also cited a figure of about INR 250,000 crore pulled out by foreign investors from Indian stock markets this year, and that FIIs have sold Indian equities in 2026 totaling INR 222,000 crore.

The rupee has been under pressure amid the conflict in West Asia and a stronger US dollar. One report described the rupee nearing the 96 mark against the dollar. Another report cited the Reserve Bank of India’s annual report saying the rupee weakened nearly 10% in FY26 due to trade uncertainties, a wider deficit, the Middle East conflict and FII outflows. Reports also said the rupee is among Asia’s weakest-performing currencies in 2026, declining more than 6% against the US dollar so far this year.

Oil shock and external pressure from the Iran conflict

Multiple factors are being cited for the rupee’s weakness, including US tariff measures, record foreign investor withdrawals, and the oil price shock triggered by the Iran conflict. The conflict has also raised concerns around India’s import bill because oil imports are a major channel through which higher crude prices feed into the external balance.

Reports also linked the latest bout of risk aversion to weakening sentiment after US missile strikes on Iran and rising crude prices. In this context, authorities have been presented as moving from purely defensive measures to a more proactive approach that tries to attract capital inflows into rupee assets.

RBI’s role and the Fully Accessible Route option

Alongside tax changes, the Reserve Bank of India is likely to take steps to make certain bonds easier for overseas investors to buy. A Bloomberg report suggested the RBI may classify select long-duration government securities under the Fully Accessible Route (FAR), enabling overseas investors to invest in these bonds without ownership restrictions.

Bloomberg News reported earlier that India’s consideration of tax cuts followed a recommendation by the central bank. The deliberations appear to have gathered pace as authorities try to curb the rupee’s depreciation. Reports also noted policymakers have taken defensive steps such as limiting the size of trading positions, while also exploring ways to encourage inflows to support a larger import bill when oil prices rise.

What market participants have been asking for

According to the reports, market participants have been advocating a reduction in the long-term capital gains tax and in the withholding tax levied on interest income from government securities. The underlying argument is that lower taxes could make Indian bonds more attractive to global funds and potentially encourage steadier bond allocations, especially when investors are comparing post-tax returns across emerging markets.

At the same time, reports pointed out that India has agreements with dozens of countries that allow some investors to benefit from lower rates. Any broad-based change, if announced, would be closely watched for how it interacts with treaty benefits and existing investor structures.

Commentary from economists and tax experts

Teresa John, economist with Nirmal Bang Securities, was quoted in reports saying, “The government is undertaking various precautionary measures to conserve foreign exchange reserves amid pressure on the rupee.” The same set of reports described the policy moves as emergency steps to cushion the impact of the war on the economy.

Tax expert Ajay Rotti, as cited in the reports, argued that lower litigation, policy stability and smoother tax administration may matter more than headline tax cuts in attracting foreign investors back to India. Other reported commentary also cautioned that taxes are only one part of the decision for global funds, with currency risk, global interest rates and competing markets also influencing allocations.

Key facts at a glance

Market impact and what it means for investors

The immediate market relevance is that tax policy and market access rules directly affect the after-tax return for foreign bond investors. If capital gains tax on FPIs’ G-sec holdings is removed as described, it would reduce a key friction point that has been cited by market participants, particularly during periods of volatility when investors reassess carry returns against currency risk.

The tax debate is also linked to the broader goal of stabilising capital flows at a time when portfolio outflows are elevated and the currency is under stress. Reports also noted that India’s strong mutual fund SIP culture is helping absorb equity selling by foreign investors, but that the resulting exit flows still add pressure on the rupee. Jefferies was cited as saying capital flows are low rather than the current account deficit being the central issue.

Analysis: why tax and access changes are being paired

The combination of tax cuts and easier bond access through the Fully Accessible Route signals that policymakers are addressing both price and participation constraints. Tax changes can lift post-tax returns, while FAR expansion can remove ownership limits that can otherwise cap allocations in certain securities.

The reported focus on long-duration government securities also matters because these bonds are typically more sensitive to rate expectations and currency risk. Any policy tweak that reduces uncertainty around tax treatment may improve the investability of the segment, but the same reports also highlighted that taxes alone may not reverse flows if global risk sentiment remains weak.

Conclusion

India is preparing a set of measures centered on tax relief and expanded bond access to attract foreign capital at a time when the rupee is under pressure and portfolio outflows have accelerated amid the Iran conflict and higher oil prices. The next milestone is Presidential approval of the ordinance and a subsequent notification clarifying the scope of any capital gains exemption for FPIs in G-secs, alongside decisions on the tax on bond interest income and any expansion of FAR for long-tenor sovereign notes.