New Delhi: The Securities and Exchange Board of India has recommended that the central government abolish the long-term capital gains tax on foreign investors and grant tax relief to domestic mutual fund investors switching across schemes. The proposals, submitted ahead of the Union Budget scheduled for February, seek to make Indian equity markets more competitive against global peers and encourage domestic retail investors to keep their savings within the local financial system. Under the recommendations, switching investments between mutual fund schemes would no longer be treated as a taxable redemption, provided the investor has held the units for more than one year. These non-binding suggestions are part of confidential pre-Budget proposals, leaving the final fiscal policy decision to the central government.
Proposals Aim to Check Unprecedented Foreign Outflows
The market regulator’s recommendations arrive against the backdrop of sustained selling by foreign portfolio investors, who have withdrawn a record $31 billion from Indian equities in 2026. This heavy outflow has weighed on the domestic currency, while local stocks have lagged several emerging market counterparts over the past two years. During this period, the benchmark Nifty 50 fell 4.8 per cent, contrasting sharply with a roughly 40 per cent gain in the MSCI Emerging Markets Index. Subdued domestic equity performance has also led more retail participants to seek overseas investment avenues.
SEBI drafted these measures following multiple discussions with overseas institutions over the past two years, during which high tax rates and steep transaction charges were highlighted as primary deterrents. People familiar with the matter stated that the initiative is designed to reduce the upfront tax burden on foreign institutions, thereby restoring the relative appeal of the Indian stock market.
Call to Address High Capital Gains and Transaction Costs
India currently imposes a 12.5 per cent long-term capital gains tax on securities held longer than a year, alongside a 20 per cent short-term capital gains tax on holdings of one year or less. Investors also pay the Securities Transaction Tax on trades as well as tax deducted at source on dividend payouts. The regulator noted that these combined levies leave Indian equities with some of the highest transaction costs among major global financial markets.
Market analysts believe that lowering these fiscal burdens could significantly raise post-tax yields. A recent report by brokerage firm Jefferies noted that cutting capital gains taxes could improve market attractiveness and support renewed portfolio inflows. Separately, brokerage IIFL estimated that removing the capital gains levy entirely could enhance foreign investor returns by as much as 2.3 percentage points.
Relief Proposed for Domestic Mutual Fund Portfolios
Domestic mutual funds have also suffered from market underperformance, with Morningstar data indicating an average 1.6 per cent decline in returns among funds focused primarily on large-cap equities. Under current tax rules, moving capital from one mutual fund scheme to another is classified as an asset redemption followed by a fresh purchase, which immediately triggers capital gains taxation. SEBI’s proposal would remove this tax liability for units held for more than twelve months, giving investors the flexibility to rebalance their asset allocations without facing an immediate tax bill.
The domestic mutual fund sector has grown into a vital conduit for household wealth, managing roughly ₹82.6 lakh crore in assets. Systematic investment plans contribute an average of approximately ₹3,000 crore every month to these funds. By removing tax friction on scheme switches, the regulator seeks to prevent capital flight abroad and sustain retail engagement. Market participants now await the government’s presentation of the Union Budget in February to see whether these recommendations will be accepted into law.
