Foreign Portfolio Investors (FPIs) are asking India to reduce the Securities Transaction Tax (STT), particularly on derivatives, and reconsider the long-term capital gains tax on listed securities. The demand has come up in discussions between foreign investment firms, SEBI, and government officials as investors look at the cost of trading in Indian markets.
The issue matters because STT is charged on transactions regardless of whether an investor makes a profit, while capital gains tax applies separately to profits. For investors that trade frequently, these costs can add up quickly. But woulda lower STT actually bring more foreign money into Indian markets?
Here’s what FPI taxation looks like today, why foreign investors want changes, and what a possible reduction in STT could mean for Indian markets and investors.
What Is FPI Tax?
FPI stands for Foreign Portfolio Investment. It refers to money that comes into India from overseas funds, banks, pension funds, and similar institutions, which is used to buy Indian shares, bonds,s and other listed securities.
The key difference is that an FPI generally invests for financial returns rather than seeking control or management of the company. Compare that to Foreign Direct Investment, or FDI, where a foreign company buys a factory in India or takes a controlling stake in an Indian business;s, that’s a long-term, hands-on commitment.
A useful way to think about it: if a global fund buys 2% of an Indian bank’s shares on the stock exchange, that’s FPI. If a foreign company builds and operates a manufacturing plant in Pune, that’s FDI.
FPI money matters a great deal to Indian markets because these investors are big and active. Because FPIs invest large amounts, their buying and selling can influence market liquidity and prices, particularly in large-cap stocks. Domestic mutual funds and retail investors have grown large enough to cushion this over the past few years, but FPI flows are still watched closely by everyone from traders to the Finance Ministry.
What Is STT? And How Is It Different From Capital Gains Tax?
This is where a lot of people get confused, so it’s worth being precise.
STT is a tax on the transaction itself. It is charged on certain transactions in securities traded on recognised stock exchanges, shares, futures, options, and equity mutual fund units among them, and the rate depends on the type of transaction. It doesn’t matter whether you made a profit or a loss on that trade; where STT applies, it’s charged either way, because it’s tied to the act of trading, not the outcome.
Capital gains tax, on the other hand, is a tax on profit. If you buy a share for ₹100 and sell it for ₹150, you’ve made a ₹50 gain, and that gain is what gets taxed, separately from any STT you already paid on the trade itself.
So a single trade can involve both types of cost: STT is charged as part of the transaction, while capital gains tax applies separately to taxable profits.
The Union Budget for 2026-27 raised STT rates on derivatives trading, effective April 1, 2026. Here are the current rates:
| Transaction type | STT rate |
| Delivery-based equity (buy and sell) | 0.1% on each side |
| Intraday equity (sell side) | 0.025% |
| Futures (sell side) | 0.05% (up from 0.02%) |
| Options: on premium (sell side) | 0.15% (up from 0.10%) |
| Options: on exercise | 0.15% on intrinsic value (up from 0.125%) |
The government said the higher rates were intended in part to discourage excessive derivatives trading, particularly among retail investors. SEBI data has shown that a large majority of individual traders in futures and options lose money, and the higher STT has been framed as a way to discourage that kind of trading. But the side effect is that it also raised costs for large institutional and foreign trading desks that operate heavily in derivatives.
How Are FPIs Actually Taxed on Their Gains?
FPIs are taxed under Section 115AD of the Income-tax Act, which provides specific tax treatment for certain income earned from Indian securities.
For listed equity shares and equity mutual funds, where STT has already been paid on the transaction:
- Short-term gains (holding period of 12 months or less): taxed at 20%
- Long-term gains (holding period of more than 12 months): taxed at 12.5%, with the first ₹1.25 lakh of gains in a year exempt
This is the combination that matters most for this article: STT on the trade, plus capital gains tax on whatever profit follows. Other types of securities, such as debt instruments and unlisted shares, follow different rates under the same provision, and derivatives have their own treatment as well; those details go beyond what a general reader needs here.
Dividend income earned by FPIs is taxed at 20%, though this can be reduced if a tax treaty between India and the investor’s home country offers a better rate.
Here’s a simple example. Say a foreign fund buys shares in an Indian company through the stock exchange, holds them for eight months, and sells at a profit. The transaction may attract STT at the applicable rate, while the profit from the sale may also be subject to capital gains tax. Because the holding period here was under 12 months, that profit would be taxed as a short-term capital gain at 20%.
If the same fund had held the shares for 14 months instead, the gain would qualify as long-term, taxed at 12.5% instead of 20%, with a bit of that gain exempt altogether. The transaction-level STT would still apply regardless of how long the shares were held.
This is roughly the tax picture a foreign investor is working with before they even start thinking about currency movements, market direction, or where else in the world they could park that money.
Why Are FPIs Asking India to Cut STT?
According to reports on recent government-SEBI meetings with foreign investors, the central ask has two parts: lower STT, particularly on derivatives, and removal of long-term capital gains tax on listed securities altogether.
Here’s the reasoning. For a long-term investor who buys shares and holds them for years, a 0.1% transaction tax barely registers when spread across the life of the investment. But for high-frequency traders, market makers and liquidity providers, funds that might enter and exit positions dozens or hundreds of times in a single day, that same small percentage gets charged over and over again. It adds up fast, and it eats directly into the thin margins these strategies depend on.
The doubling of derivative STT in the 2026 Budget made this sharper. Because the STT rate on futures was raised from 0.02% to 0.05% from April 2026, the transaction cost has increased substantially for investors trading large volumes of futures. For a retail trader doing this occasionally, that’s a manageable increase. For an institutional desk running high-volume strategies across thousands of contracts, that difference compounds into real money.
Foreign investors have also pointed to something closer to home as a comparison. Earlier in 2026, the government provided tax exemptions for eligible FPIs on interest income and capital gains from government securities; more on that below. Some fund managers have argued that if a similar approach worked for the debt market, comparable relief in equities could encourage more foreign participation there too.
It’s worth being clear about what this is: a request, not a policy change. As of now, the government has not announced any reduction in equity STT or any removal of long-term capital gains tax for FPIs. The Budget for 2026-27 actually moved in the opposite direction on derivatives STT.
Why Cutting STT Isn’t a Simple Decision?
There are real trade-offs on the other side of this conversation, and they’re not about being unfriendly to foreign capital.
STT is valued by policymakers partly because it’s simple to collect; it’s deducted automatically at the exchange level, with no complicated assessment or paperwork, and virtually no scope for evasion. That’s rare in tax administration, and it matters.
It’s also become a meaningful revenue source. STT collected from futures and options trading alone rose sharply, from roughly ₹7,893 crore to about ₹27,695 crore in a single year, according to figures shared in Parliament. Giving that up, or cutting it substantially, means finding that revenue somewhere else, at a time when the government is also trying to keep its fiscal deficit under control.
There’s also the retail-trading angle. The government has been explicit that part of the reason for raising derivative STT was to cool down excessive options and futures trading among individual investors, given how many of them were losing money. Lowering STT broadly, including for the retail F&O segment, would work against that goal.
None of this means the government is opposed to attracting foreign capital. It has, in fact, made several moves in that direction recently, just not through equity STT.
What Tax Relief Did FPIs Get in 2026?
The relief applies to eligible investments in Government Securities, not Indian equities. That distinction matters, because headlines often blur it.
In June 2026, the government provided tax exemptions for eligible FPIs on interest income and capital gains earned from government securities, retroactive to April 1, 2026. This was done through an ordinance, since Parliament wasn’t in session at the time. Previously, FPIs paid 12.5% long-term capital gains tax on G-Secs held over a year, along with withholding tax on interest income; both of those are now gone for eligible government bonds.
Alongside that, the RBI removed several investment caps for FPIs in the government securities market, and expanded the list of bonds, including new 15-year, 30-year and 40-year issuances, and sovereign green bonds that foreign investors can access without restriction.
This relief applies to debt, specifically government bonds. It does not extend to equities. An FPI buying and selling shares of an Indian company still pays STT on every trade and capital gains tax on any profit, exactly as described above. The government’s target with this move was clearly the bond market deepening it, supporting the rupee, and making Indian sovereign debt more attractive for potential inclusion in global bond indices. Equity STT and equity capital gains tax were left untouched.
So when foreign fund managers point to the debt exemption and ask for something similar in equities, they’re asking for an extension of a policy that currently exists in one part of the market to another part where it doesn’t yet exist.
Would Cutting STT Actually Bring More FPI Money Into Indian Equities?
Lower STT could help, particularly for high-volume traders, but it would not be enough on its own to determine where foreign investors put their money.
The case for it helping:
Lower transaction costs directly improve returns for high-frequency and high-turnover strategies. Cheaper trading could make India more attractive specifically to market makers, quant funds and liquidity providers, the kind of participants who add depth and tighter spreads to a market. It could also nudge some trading volume back from derivatives into cash equities, or vice versa, depending on how any change is structured. And symbolically, it would signal that India is listening to industry feedback, which matters for sentiment.
The case for why it wouldn’t be enough on its own:
FPIs don’t decide where to put money based on transaction tax alone. They’re weighing Indian stock valuations against earnings growth, comparing India’s interest rate environment to what they can get in the US, Europe or other emerging markets, watching the rupee’s stability, and factoring in global risk appetite generally. A recurring theme in recent commentary has been that global capital has been chasing AI-linked opportunities in markets like the US, Taiwan and South Korea, and India, not seen as a primary beneficiary of that trend,d has had to compete for attention regardless of its tax structure.
There’s also a practical point: the funds that care most about STT are a specific subset of FPIs high-frequency traders and derivative-heavy strategies. A large long-term pension fund or sovereign wealth fund buying and holding Indian shares for years is barely affected by a percentage point or two of transaction tax. For that investor, valuations and growth outlook matter far more.
Put simply: lower STT could improve India’s competitiveness at the edges and make certain trading strategies more viable here. It’s unlikely to be the single factor that turns outflows into sustained inflows.
Is Tax the Real Reason FPIs Have Been Selling?
Not by itself. FPI selling in Indian equities can be driven by several factors, including stretched valuations relative to other markets, global capital rotating toward AI-related opportunities elsewhere, interest rate differences between India and other economies, currency movements, crude oil prices and broader risk appetite.
As an example, according to data available in August 2026, foreign investors had pulled out nearly ₹2.4 lakh crore from Indian equities so far that year, already surpassing the roughly ₹1.66 lakh crore withdrawn during the whole of 2025.
That selling eased by July and August 2026, when FPIs turned net buyers, investing roughly ₹20,000 crore in July and continuing to buy into August, as expectations of US rate cuts, softer crude prices and a more stable rupee improved sentiment. The shift came even though there had been no change in STT or equity capital gains tax, suggesting that broader market and macroeconomic factors were also playing an important role.
The takeaway is that tax can influence FPI decisions, but it is only one factor behind large changes in foreign investment flows.
What Does This Mean for Indian Retail Investors?
If you’re investing in Indian markets yourself, here’s why any of this is relevant to you, beyond just being interesting policy news.
Heavy and sustained FPI buying tends to support market liquidity and can push prices up, particularly in large-cap stocks where foreign ownership is significant. Heavy selling can do the reverse, at least temporarily. If STT were lowered and it did draw in more foreign trading activity, that could mean somewhat better liquidity and tighter bid-ask spreads in the stocks FPIs are active in.
But it’s worth resisting the urge to treat FPI flows as a clean buy or sell signal for your own portfolio. Domestic investors, through mutual fund SIPs, insurance flows and direct retail participation, have grown large enough in recent years to absorb a lot of FPI selling without the market collapsing, something that wasn’t as true a decade ago. FPI data is one input among many, not a standalone trading signal.
Final Verdict
The FPI tax debate is ultimately about the cost of investing in India. Foreign investors argue that high STT, particularly on derivatives, can reduce the attractiveness of frequent trading, while the government has to balance market competitiveness with tax revenue and its concerns around excessive F&O activity. A lower STT could make Indian markets more attractive for some foreign investors, but it would not guarantee stronger FPI inflows. Valuations, earnings, interest rates, currency movements and global risk appetite will continue to play a major role.
FAQs
What is FPI?
Foreign Portfolio Investment refers to money that overseas funds and institutions invest in Indian shares, bonds and other listed securities, without seeking to control or manage the companies they invest in.
What is STT?
Securities Transaction Tax is a tax charged on the value of a trade, buying or selling shares, futures, options or equity fund units on an Indian stock exchange, regardless of whether the trade was profitable.
Why are FPIs asking India to cut STT?
It raises the cost of every trade, which matters most to investors who trade frequently. Long-term investors who trade rarely are affected much less by STT and more by capital gains tax on their eventual profit.
How does STT affect foreign investors?
It raises the cost of every trade, which matters most to investors who trade frequently. Long-term investors who trade rarely are affected much less by STT and more by capital gains tax on their eventual profit.
Do FPIs pay capital gains tax in India?
Yes. For qualifying listed equity transactions, FPIs pay short-term or long-term capital gains tax on profits under Section 115AD, at rates of 20% and 12.5% respectively, in addition to STT on the underlying trades. Government securities are now an exception, having been exempted from this tax since April 2026.
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