Equity LTCG Tax Cut Could Spark Foreign Investment Surge, Boost Rupee: Jefferies
Jefferies suggests an equity LTCG tax cut could attract foreign investors, support the rupee, and benefit large-cap stocks like banks.
A potential reduction in the equity LTCG tax cut could be the catalyst needed to revitalize foreign portfolio investor (FPI) sentiment, provide much-needed support to the Indian rupee, and breathe new life into large-cap stocks, according to a recent report by brokerage firm Jefferies.
While the Indian government has not officially announced any decisions, discussions regarding a possible tax reduction have reportedly gained momentum. Jefferies suggests that such a move could reverse the current trend of foreign exits and stabilize the currency.
The Rupee Under Pressure: The FPI Exit Story
The report highlights that the Indian rupee has faced significant pressure due to weakness in the capital account. This instability has been driven largely by massive outflows from foreign investors. Since April 2025, exits by FPIs, foreign promoters, and foreign private equity investors have totaled a staggering USD 110 billion.
To put this into perspective, Jefferies analyzed 70 large emerging-market funds managing USD 380 billion. The findings reveal that India is currently "underweight" by 0.3 percentage points. This is a sharp contrast to the 10-year average, where India typically held an "overweight" position of 2.2 percentage points, indicating that foreign investors are currently positioned relatively lightly in the Indian market.
Which Sectors Stand to Gain?
If a tax cut triggers a recovery in foreign flows, certain "oversold" sectors are expected to benefit the most. The report identifies sectors that have seen the heaviest selling pressure:
- Financials: Net FPI outflows of USD 16 billion between October 2024 and September 2026.
- Information Technology: Outflows of USD 10 billion.
- Consumer Staples: Outflows of USD 10 billion.
Within these categories, Jefferies expresses a strong preference for Banks. Additionally, the brokerage favors Energy (specifically Reliance Industries Limited), Utilities, and Real Estate.
Large-Caps vs. Mid-Caps
The analysis leans toward large-cap stocks over mid-caps. Currently, large-caps are trading at a 23 per cent valuation discount compared to mid-caps, which is wider than the 10-year average discount of 20 per cent. With the earnings-growth gap expected to narrow, large-caps appear more attractive.
Possible Policy Routes and Fiscal Hurdles
Jefferies outlines several ways the government could implement a tax relief measure:
- A general reduction in both long-term and short-term capital gains taxes.
- A tax cut specifically targeted at Foreign Portfolio Investors (FPIs).
- Allowing foreign investors to calculate their gains in US dollar terms.
However, any such move must balance the need for investment with fiscal responsibility. In FY25, the combined revenue from equity LTCG tax and Securities Transaction Tax (STT) accounted for 8 per cent of direct taxes and 5 per cent of gross tax revenue. Given existing fiscal pressures, the government may need to find ways to offset the potential revenue loss resulting from a tax cut.
A Look Back: The Evolution of Equity Taxation
India's tax landscape for equities has shifted multiple times over the last two decades:
- 2004: LTCG tax on qualifying listed equity was abolished, STT was introduced, and short-term capital gains (STCG) tax was set at 10 per cent.
- 2008: The STCG rate was increased to 15 per cent.
- 2018: LTCG tax was reintroduced at 10 per cent for annual gains exceeding Rs 1 lakh.
- July 2024: The LTCG rate was raised to 12.5 per cent and the STCG rate to 20 per cent, though the annual LTCG exemption limit was increased to Rs 1.25 lakh.