FII flows in debt to sustain as govt extends concessional rate of 5% withholding taxes

Foreign flows in debt papers are seen continuing with the government extending the concessional rate of 5% for withholding taxes on debt investments by foreign investors by two years until June 30, 2017.

The concessional rate of 5% for foreign investors was due to expire in May and the government had cut the withholding tax to 5% from 20% in 2013. The continuation of this concession was mentioned in the budget document within the Finance Bill issued on Saturday.

“The idea is to encourage long-term investors to invest in India. If this would not have been done then foreign investors would have looked for selling debt because their returns would have gone down. This comes as a great relief to them and we may see more foreign investors putting money actively in Indian debt. Since G-sec limit is full, flows in corporate bonds will continue,” said Ajay Manglunia, senior vice-president (fixed income), Edelweiss Securities.

Besides that in the Union Budget it was decided that in order to rationalise the Minimum Alternative Tax (MAT) provisions for Foreign Institutional Investors (FIIs), profits corresponding to their income from capital gains on transactions in securities which are liable to tax at a lower rate, shall not be subject to MAT. “Removal of ambiguity around applicability of MAT on FIIs shall attract more inflows,” said Manglunia.

In the current fiscal the net inflows by FIIs in debt stood at $ 25.95 billion so far compared with net outflows of $ 4.51 billion in the previous fiscal. The flows started picking up from May 2014 after Bharatiya Janata Party (BJP) won the elections. The FII limit in government bond is full while for corporate bonds over 70% has been exhausted.

“If we put together all emerging markets and look at some of the macro key parameters, India rates very high. International Monetary Fund (IMF) has cut growth forecast for most of the countries but India has retained its upward trajectory. For India even inflation is coming down. Besides that our policy rates are among the highest. The combination of strong government and strong macro is making India more attractive on a relative basis,” said Amandeep Singh Chopra, group president and head of fixed income at UTI Mutual Fund.

Chopra too expects that India will be the favoured market for these FIIs for some more time. “FIIs may soon hit the 90% limit in corporate bonds as that is the only limit which is available,” said Chopra.