Government Exempts FIIs from Interest and Capital Gains Tax on G-Sec Investments

The government has issued the Income-tax (Amendment) Ordinance, 2026, providing tax relief to Foreign Institutional Investors (FIIs) on investments in government securities. The move is aimed at attracting foreign capital into India's debt markets and enhancing the appeal of sovereign bonds among overseas investors. 

The ordinance, approved by the Union Cabinet chaired by Prime Minister Narendra Modi, amends the Income-tax Act, 2025, and comes into effect retrospectively from April 1, 2026. 

Tax Exemption on Interest Income and Capital Gains 

Under the amended provisions, FIIs will be exempt from paying tax on interest income earned from government securities. Capital gains arising from the sale, transfer, or exchange of government securities will also qualify for tax exemption. 

The benefit is subject to specified compliance requirements. Eligible investors will be required to furnish information in the prescribed format and manner to claim the exemption. 

The government expects the measure to improve the attractiveness of Indian government securities and encourage greater participation from foreign investors. 

Bank for International Settlements (BIS) 

The ordinance extends similar tax treatment to the Bank for International Settlements (BIS). 

As a result, any interest income or capital gains earned by the BIS from investments in government securities will also be exempt from tax. The move is intended to align the tax treatment of eligible institutional investors investing in India's sovereign debt market. 

Eligible Investors for Exemption 

To provide clarity on the scope of the exemption, the ordinance introduces a new Note 4 under the amended provisions. 

The amendment specifies that the term "Foreign Institutional Investor" will carry the meaning assigned under Section 210(6)(a) of the Income-tax Act, 2025. 

Further, the term "Government security" will have the same meaning as defined under Section 2(f) of the Government Securities Act, 2006. 

Current Tax Structure for Foreign Investors 

Prior to the ordinance, foreign investors were subject to a 12.5% long-term capital gains tax on listed equities and bonds held for more than 1 year. 

Interest income earned on government securities was also subject to a 20% withholding tax. A concessional tax rate of 5% that was previously available to foreign investors had been withdrawn in 2023. 

The latest tax exemption removes these liabilities for eligible investments in government securities. 

Government Aims to Boost Foreign Capital Inflows 

The ordinance comes at a time when India has been witnessing sustained foreign portfolio outflows and volatility in currency markets. 

The net foreign portfolio investor outflows have reached ₹2.47 lakh crore so far in the current calendar year, compared to ₹1.04 lakh crore during calendar year 2025. 

The rupee also came under pressure during the year, touching a record low of 96.965 against the US dollar before recovering partially following intervention by the Reserve Bank of India and softer crude oil prices. 

By removing tax hurdles on government securities investments, the government aims to attract long-term overseas capital and strengthen participation in India's sovereign debt market. 

Conclusion 

The Income-tax (Amendment) Ordinance, 2026 marks a significant policy step aimed at making Indian government securities more attractive to foreign investors. By exempting FIIs from tax on interest income and capital gains arising from government securities, the government seeks to encourage foreign capital inflows, deepen the debt market, and enhance investor participation in India's sovereign bond market. 

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