In a move aimed at boosting foreign capital inflows and supporting the rupee, the government has abolished the long-term capital gains (LTCG) tax on investments made by foreign institutional investors (FIIs) in government securities. The exemption was introduced through an Ordinance issued on Friday, which amends the Income Tax Act to provide the tax relief.
The government believes that removing the LTCG tax burden on government securities will help attract long-term and stable foreign capital, particularly as these debt instruments typically have extended maturities and are viewed as relatively low-risk investments.
The policy change comes at a time when India has witnessed significant foreign fund outflows from the equity market. Foreign investors have pulled out nearly Rs 2.6 lakh crore from Indian equities so far in 2026, substantially exceeding the Rs 1.66 lakh crore withdrawn during the entire previous year. Market participants attribute the sharp outflows largely to heightened geopolitical uncertainties and global risk aversion.
The trend has continued into June, with overseas investors withdrawing nearly Rs 34,000 crore from equities in just the first three trading sessions of the month. The sustained selling pressure has added to concerns surrounding the rupee and broader financial markets.
While foreign investors have remained sellers in equities, debt markets have seen comparatively better participation. Overseas investors have invested more than Rs 17,000 crore in government securities through the Fully Accessible Route (FAR) this year. However, they have simultaneously withdrawn around Rs 4,000 crore under the general debt investment limit and approximately Rs 340 crore through the Voluntary Retention Route (VRR).
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Prior to the latest amendment, foreign institutional investors were required to pay a 12.5 per cent long-term capital gains tax on profits earned from both equity and debt investments held over the prescribed period. The tax rate had been increased in the Union Budget presented in July 2024, when Finance Minister Nirmala Sitharaman raised the LTCG tax on most asset classes from 10 per cent to 12.5 per cent. In comparison, short-term capital gains on listed shares continue to be taxed at 15 per cent under Section 111A of the Income Tax Act.
The government's latest move also comes against the backdrop of sustained weakness in the Indian currency. The rupee's decline to historic lows has prompted policymakers to take several measures aimed at stabilising the exchange rate and preserving investor confidence.
Last month, Prime Minister Narendra Modi urged citizens and businesses to conserve foreign exchange as rising crude oil prices and elevated import costs, driven largely by tensions in West Asia, continued to strain the country's external sector. Several factors have contributed to the rupee's depreciation, including higher oil prices, record foreign portfolio outflows, trade-related uncertainties stemming from US tariff policies and a widening import bill. To curb excessive volatility, the Reserve Bank of India (RBI) has frequently intervened in the foreign exchange market by selling dollars from its reserves.
The rupee touched a record closing low of 96.86 against the US dollar on May 20, 2026, falling 33 paise from its previous close. Once regarded as one of the more stable currencies in Asia, the rupee has emerged as one of the worst-performing emerging market currencies this year.
Analysts attribute the weakness to a combination of expensive energy imports, persistent capital outflows, widening trade deficits and the continued strength of the US dollar in global markets. The Indian currency has depreciated by around 7 per cent so far in 2026 and has lost nearly 6 per cent of its value since tensions involving Iran escalated at the end of February. At the start of the year, the rupee opened at 89.94 against the dollar and ended the first trading day at 89.98, highlighting the sharp decline witnessed over the subsequent months.
India's foreign exchange reserves have also come under pressure. The RBI reported that forex reserves declined by USD 7.511 billion to USD 681.384 billion during the week ended May 22. The reserves had previously surged to an all-time high of USD 728.494 billion during the week ended February 27, before geopolitical tensions in the Middle East triggered sustained pressure on the rupee and forced the central bank to intervene through dollar sales.
For comparison, India's forex reserves stood at USD 686.801 billion during the week ended January 2, 2026. Separately, the RBI has expanded access for overseas investors by designating additional long-tenor sovereign bonds as fully accessible under the FAR framework. The move allows foreign investors to purchase these securities without investment limits. The last major revision to the FAR list occurred in 2024, when the central bank removed 14-year and 30-year government bonds from the eligible category.
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