SEBI Advocates Elimination of LTCG Tax for Foreign Investors

The Securities and Exchange Board of India (SEBI) has proposed the removal of the long-term capital gains (LTCG) tax for foreign investors, as part of efforts to invigorate India's sluggish equity markets. This recommendation, made by two sources familiar with the discussions, comes ahead of the annual budget scheduled for February, although it is not binding and the final decision rests with the government.

India's equity market has struggled compared to its emerging market counterparts over the past two years, with foreign investors selling a staggering $31 billion in Indian stocks this year alone. This decline in foreign investment has raised concerns, particularly as domestic retail investors have increased their overseas investments due to stagnant returns in the Indian market. SEBI's recommendations are a response to feedback from foreign investors who have consistently highlighted the need for a more favorable tax regime.

Currently, foreign investors face a long-term capital gains tax of 12.5% on securities held for over a year, alongside a short-term capital gains tax of 20%. Additionally, they incur securities transaction taxes and withholding taxes on dividends. Brokerage firm Jefferies noted that reducing capital gains taxes could enhance the attractiveness of the Indian market for foreign investors, potentially leading to increased portfolio inflows. IIFL estimates that eliminating the capital gains tax could improve returns for foreign investors by approximately 2.3 percentage points.

In addition to the recommendations for foreign investors, SEBI has also suggested tax relief for domestic mutual fund investors. The proposal indicates that switching between mutual fund schemes should not be considered a taxable event if the units have been held for more than a year. This move aims to encourage continued investment in domestic mutual funds, which currently manage assets worth Rs 82.6 lakh crore, with an average monthly inflow of 30 billion rupees through systematic investment plans.

As the Indian equity market continues to face challenges, SEBI's proposals could play a significant role in shaping future investment strategies. The upcoming budget discussions will be crucial in determining whether these recommendations will be adopted, potentially impacting both foreign and domestic investors in the Indian market.