India Waives Capital Gains Tax on Government Bonds for Foreign Investors: Ordinance Ushers in Debt Market Reforms
Union Cabinet clears ordinance amending Income Tax Act to exempt FPIs and BIS from capital gains and interest tax on G-Secs.
Move expected to boost foreign inflows, stabilize rupee, and align India with global sovereign debt norms.
By Legal Reporter
New Delhi: June 06, 2026:
1. Background of the Reform
India’s debt market has historically been under-penetrated by foreign investors due to tax barriers. Until now, foreign portfolio investors (FPIs) faced a 12.5% long-term capital gains tax on listed bonds held for more than 12 months and a 20% withholding tax on interest income from government securities. This placed India at a competitive disadvantage compared to other emerging markets.
The Union Cabinet, chaired by Prime Minister Narendra Modi, approved the ordinance route to bypass parliamentary delays, promulgated by President Droupadi Murmu. The ordinance amends Schedule IV of the Income-tax Act, 2025, exempting “any interest on Government security, and any capital gains arising from the sale, exchange or transfer of such Government security” earned by FPIs and the Bank for International Settlements (BIS). Reuters
2. Key Legal Provisions
- Income-tax (Amendment) Ordinance, 2026: Introduces exemptions for FPIs and BIS.
- Schedule IV Amendment: Adds new categories of exempt income linked to government securities.
- Effective Date: Retrospective from April 1, 2026.
- Disclosure Requirement: Investors must furnish prescribed information to tax authorities.
3. RBI’s Complementary Measures
The Reserve Bank of India (RBI) simultaneously announced steps to attract dollar inflows:
- Inclusion of 15-year, 30-year, and 40-year bonds under the Fully Accessible Route (FAR).
- Expansion of FAR to sovereign green bonds.
- Concessional forex swaps till September 30, 2026.
- Incentives for external commercial borrowings.
- Extended realization period for export proceeds to nine months.
4. Economic Rationale
- Rupee Stability: The rupee has depreciated ~5% in 2026 due to oil price shocks and equity outflows.
- Capital Inflows: FPIs withdrew over ₹2.5 lakh crore from equities in 2026, while debt inflows remained modest (~$1.4 billion).
- Global Competitiveness: India was among the few economies taxing non-resident investments in sovereign debt. Removing this barrier aligns India with global practices.
5. Market Implications
- Bond Market Development: Exemption expected to broaden investor base, improve liquidity, and smoothen yield curve.
- Foreign Participation: Pension funds, insurance companies, and sovereign wealth funds likely to increase exposure.
- Index Inclusion: FAR bonds already part of major global indices, making India more attractive for passive funds.
6. Risks and Challenges
- Revenue Loss: Short-term reduction in tax collections.
- Currency Volatility: Sudden inflows could heighten rupee fluctuations.
- Dependence on Foreign Capital: Over-reliance may expose India to global shocks.
- Implementation: Ensuring compliance with disclosure requirements will be critical.
7. Comparative Global Context
- China: Exempts foreign investors from capital gains tax on sovereign debt.
- Brazil & South Africa: Offer similar exemptions to attract long-term capital.
- India’s Reform: Brings parity with peers, enhancing competitiveness.
8. Political and Policy Dimensions
The ordinance route reflects urgency, bypassing parliamentary debate. It underscores the government’s priority to stabilize the rupee and attract capital amid geopolitical tensions (Iran war, oil price surge).
Detailed FAQ
Q1. What is the Income-tax (Amendment) Ordinance, 2026?
It is a legal instrument promulgated by the President to amend the Income-tax Act, 2025, exempting foreign investors from capital gains and interest tax on government securities.
Q2. Who benefits from the exemption?
- Foreign Portfolio Investors (FPIs)
- Foreign Institutional Investors (FIIs)
- Bank for International Settlements (BIS)
Q3. What taxes have been removed?
- 12.5% Long-term Capital Gains Tax on listed bonds held >12 months.
- 20% Withholding Tax on interest income from government securities.
Q4. From when is the exemption effective?
Retrospectively from April 1, 2026.
Q5. Why was the ordinance route chosen?
Parliament was not in session, and the government wanted immediate implementation to stabilize markets and currency.
Q6. What disclosure requirements exist?
Investors must file prescribed information forms with tax authorities to avail exemptions.
Q7. How does this impact India’s bond market?
It enhances attractiveness, improves liquidity, and aligns India with global sovereign debt norms.
Q8. What complementary steps has RBI taken?
Expanded FAR, concessional forex swaps, incentives for borrowings, and extended export realization timelines.
Q9. What risks remain?
Revenue loss, rupee volatility, and dependence on foreign capital inflows.
Q10. How does this compare globally?
India now matches peers like China and Brazil, which exempt foreign investors from sovereign debt taxation.