FPI Income Tax: A Detailed Overview of Taxability of Foreign Portfolio Investment
- Asharam Swain
- Sep 8
- 8 min read
The Indian financial markets rely heavily on Foreign Portfolio Investment (FPI), which brings in international capital, improves liquidity, and stimulates the economy of the nation. The liberalised laws and easy access to one of the world's largest financial markets make FPI investments in India alluring. The Indian government has been attempting to make it easier for foreign investors to comply with Indian Income Tax Return (ITR) filing requirements, tax implications, and investment regulations.
Table of Contents
What is Foreign Portfolio Investment?
FPIs refer to the investments by foreign investors in Indian markets. FPI enters the Indian financial markets passively, as opposed to foreign direct investment (FDI), which entails owning and controlling a business. An example of an FPI would be a US-based mutual fund purchasing shares of the Indian company Infosys on the Indian stock exchange. Foreign portfolio investments are subject to regulation by the Securities and Exchange Board of India. Furthermore, FPI must comply with the Indian Income Tax Act of 1961 and the Foreign Management Act of 1999.
Regulation of Foreign Portfolio Investments
Foreign portfolio investments are governed by the Securities and Exchange Board of India (Foreign Portfolio Investors) Regulations, 2014, which are commonly referred to as the "FPI Regulations."
Reporting requirements, acceptable securities for investment, and other criteria for FPI registration are all outlined in FPI regulations.
According to the FPI Regulations, a foreign portfolio investment must register as an FPI with a designated depository participant (DDP) and meet the eligibility requirements outlined in Regulation 4. The certificate of registration will be granted by the Designated Depositary Participant after receiving the application from the FPI.
An FPI is only permitted to invest in the securities listed in Regulation 20 of the regulations.
Agents in the Chain of FPIs
Foreign Portfolio Investor- An individual with a certification from the Securities Exchange Board of India (SEBI) permitting him to purchase, sell, or engage in other securities transactions in India. On behalf of SEBI, this certificate is provided by a Designated Depository Participant.
Depository Designation Participant- This organisation serves as a liaison between the Foreign Portfolio Investor and the FPI Fund, safeguarding the foreign portfolio investor's investments in the securities managed by the FPI fund.
Foreign Portfolio Investment Fund- Investment opportunities beyond the domestic securities network are offered by these funds, which are floated to diversify the investment portfolio.
The Designated Depository Participants' registration is final unless SEBI suspends or cancels it or the FPI voluntarily surrenders it. FPIs or global custodians acting on their behalf must appoint an Indian custodian of securities before investing in Indian securities. FPIs must have an account in rupees and foreign currencies with a bank approved by the RBI before making any investments in India. FPIs are only allowed to invest through stockbrokers who are registered with SEBI.
FPI Investment Avenues
In India, FPIs are permitted to invest in the following securities:
Corporate bodies' shares, debentures, and warrants, whether they are listed on an official Indian stock market
Alternative Investment Fund (AIF) category III units
Infrastructure Investment Trusts and Real Estate Investment Trusts (REITs) that are registered with SEBI.
Mutual fund units
Scheme units offered by a collective investment scheme are exchanged on a reputable stock market.
Taxability of FPI Income in India
In India, FPIs fall under the category of "Foreign Institutional Investors" (FII). Section 115AD of the Income Tax Act governs the tax provisions. FPIs are required to use Indian rupees to calculate their income tax obligations. Before they can return the profits outside of India, they must pay income taxes. FPIs' tax effects on their income can be broadly divided into two categories: income from specified funds and other sources. It may include listed and unlisted capital gains, dividends, or other income from securities, or income from sources other than securities. It should be mentioned that, provided certain requirements are met, some income from specific securities may be considered exempt. Furthermore, additional tax rates apply to transactions of unlisted equity shares.
FPI Tax Structure
FPI funds are invested in India to generate substantial profits. This type of investment is made in bonds, fixed deposits, securities (listed or unlisted), etc.
A. Capital Gains
Any security held by the FPI, whether listed or not, is regarded as a capital asset, and any profit or loss resulting from its transfer is subject to capital gains tax. The type of capital gain will be taxed as either a long-term or short-term capital gain, depending on how long the capital asset was held. Capital assets must be categorised as either long-term or short-term capital assets using the following criteria:
Nature of Capital Asset
| Short-Term
| Long-Term
|
Security listed on recognised stock exchanges/Units of equity oriented mutual funds subject to STT | Held for 12 Months | Held for more than 12 months |
Unlisted securities | Held for 24 Months | Held for more than 24 months |
Other Capital Assets | Held for 36 Months | Held for more than 36 months |
However, starting on July 23, 2024, the following standards will be used to determine whether capital assets are classified as long-term or short-term capital assets under the Finance Act, 2024.
Nature of Capital Asset
| Short-Term
| Long-Term
|
Long-Term Capital Asset | Held for 12 Months | Held for more than 12 months |
Other capital Assets | Held for 24 months | Held for more than 24 months |
Any capital gain from the transfer of the capital assets will be subject to the following rates of taxation, which vary based on the kind of capital asset, in accordance with Section 115AD of the Income Tax Act:
Nature of Capital Asset
| Long-Term Capital Gain
| Short-Term Capital Gain
|
Long Term Capital Gain | 15% | 10% on such capital exceeding Rs. 1,00,000 |
Other Capital Assets | 30% | 10% |
Any capital gain resulting from the transfer of the capital assets will be subject to the following rates of taxation, which are contingent on the kind of capital asset, as per the Finance Act, 2024, and will take effect on July 23, 2024:
B. Other sources of income
Interest, dividend income, and other income received by the FPI from its investment will all be taxed as income from other sources. Any income received by FPI is subject to the following tax rate under Section 115AD of the Income Tax Act. On such income, TDS will be subtracted at the appropriate rates.
Nature of Income | Tax Rate |
Any income from securities (Interest, Dividend etc) | 20% |
Income as interest on certain bonds and Government securities | 5% |
C. Surcharge and cess
Along with the income tax already mentioned, there is also a levied relevant surcharge (which can range from 2 to 37%) and a health and education cess of 4%.
D. Agreement to Avoid Double Taxation
The previously mentioned tax rates depend on whether the respective nation's Double Taxation Avoidance Agreement (DTAA) with India is applicable. The benefits of the applicable country's DTAA are available to an FPI. To the extent that the DTAA's provisions benefit FPI, they will take precedence over Indian tax rules.
TDS on Funds Transferred to FPI
The Income Tax Act of 1961 states that while sending money to the payee, the payer is required to deduct a specific proportion of the entire amount as TDS, depending on the source of income. As a result, FPI will get interest and dividend income once TDS is deducted at the appropriate rate. However, when the fiscal year ends, the advantages of such TDS can be claimed when submitting an income tax return.
Tax Payment Before Sending Money Outside of India
Tax on the income must be paid by the FPI by the earliest of the following dates:
Quarterly as Advance Tax
Money is being transferred outside of India
Income Tax Return Filing for FPIs
FPIs must file their income tax returns by the deadline that applies to them, which is either July 31, October 31, or November 30.
According to the terms of the Income Tax Act, FPI must, if applicable, have its audit completed.
Additionally, Form 10F must be submitted before filing the income tax return if an FPI is claiming the benefit of DTAA.
FPIs Benefit From DTAA
More than 100 nations around the world have DTAA agreements signed by Indians. The purpose of DTAA agreements is to prevent double taxation of the same income, increase a nation's appeal as a travel destination, and allow non-resident Indians (NRIs) to avoid paying taxes more than once.
Under the DTAA, FPIs can receive lower tax rates by providing:
Their native country's Tax Residency Certificate (TRC)
Form 10F
Beneficial ownership self-declaration
For instance, depending on the asset and circumstances, capital gains under the India-U.S. DTAA may be exempt from taxes or subject to lower tax rates.
Conclusion
Foreign investors from all over the world are drawn to the Indian economy because they can invest there and get good returns. However, Indian income tax applies to income earned within India. As a result, FPIs must consult experts regarding potential tax liabilities in India on income from these assets, including interest, dividends, capital gains, etc., as well as the paperwork that they must submit in India. Furthermore, FPIs can only send money outside of India after obtaining a tax clearance certificate from certain Indian professionals.
FAQs
What is the purpose of FPI?
FPI, or foreign portfolio investment, is one of the most important forms of foreign exchange investment. Securities and other financial assets owned by investors in foreign countries are included. Securities that foreign private investors (FPIs) trade include stocks and other securities of companies based in countries other than their own.
Who regulates FPI in India?
In India, FPIs are governed by the Securities and Exchange Board of India (SEBI). Furthermore, the Income-tax Act of 1961 establishes the entire framework for FPI taxes in India.
What is the difference between FDI and FPI?
Foreign direct investment, or FDI, is the term used to describe an investment made by a corporation or individual in one country into commercial enterprises located in another. On the other hand, foreign portfolio investments, or FPIs, are investments in securities and other financial assets issued in another country.
What is FPI Taxation in India?
Under SEBI's basic rule, FPIs are allowed to invest in securities in India, including listed firm shares, non-convertible debentures, and other assets. According to Indian law, investments made by an FPI are not considered foreign direct investment or external economic borrowing. FPIs benefit from favourable tax treatment under the domestic investment umbrella's regulatory framework. In summary, the previous sections have addressed the regulatory and tax aspects. For listed shares, short-term capital gains are taxed at 15%, while other assets are taxed at 30%. However, shares and securities with long-term capital gains are taxed at a rate of 10% (without the benefit of indexation).
How does FPI impact the Indian economy?
When businesses don't have enough money to keep running, they have to make investments. Businesses anticipate getting foreign investment in the form of FPIs when the pool of domestic investors is limited. Furthermore, FPIs are the ones who encourage large investments in Infrastructure Investment Trusts (InvITs) and Real Estate Investment Trusts (REITs), two of the most recent investment product types in India.
What are the benefits and risks related to FPIs in India?
FPI investments in India offer several significant benefits, including foreign exchange inflow, surplus balance of payments, currency appreciation, increased import coverage, lower import bills, and more. However, there are a few things to think about before investing in FPIs. These include short-term investment, forex stress, rupee depreciation in the event of an abrupt dumping of FPIs into the economy, ease of entry and departure, etc. Evaluating the benefits and drawbacks of FPI investments is essential to striking the right balance.
Is dividend income taxable for FPIs?
Yes. FPIs are subject to 20% tax on dividend income under the "Income from Other Sources" title, along with a surcharge and cess.
Can FPIs claim DTAA benefits?
Yes, if the income is eligible for treaty-based relief and both the Indian and the FPI's country of origin have signed the DTAA agreement and supplied a Tax Residency Certificate (TRC) and Form 10F.
Are FPIs treated as business income holders?
The guidelines set forth by SEBI and CBDT classify FPIs' income from securities transactions and transfers as capital gains rather than company income.
Do FPIs get the benefit of indexation on capital gains?
No, FPIs are not eligible for exchange rate fluctuation or capital gain indexation advantages.
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