The budget proposal to include certain categories of foreign portfolio investors (FPIs) within the ambit of a higher surcharge may force them to rethink their India investment strategy.

If the steep surcharge on income comes into effect, FPIs will surely weigh the fresh tax blow against their return on investment.

The confusion around the proposal led to market capitalisation tanking Rs 3.39 lakh crore and the benchmark Sensex plummeting 793 points — its biggest single-day loss so far this year.

While there were global factors at play, the sentiment was soured by the budget fine print which spoke of a higher tax burden on FPIs, whose cumulative investments into domestic equities stood at more than Rs 75,000 crore.

In her budget, Sitharaman had proposed that those having a total annual income above Rs 2 crore and up to Rs 5 crore will be required to pay a surcharge of 25 per cent against the earlier 15 per cent. Those with a total income exceeding Rs 5 crore will be required to pay a surcharge of 37 per cent instead of the earlier 15 per cent.

While it was initially felt that this will only cover individuals, the fine print revealed that this would also bring FPIs who are earning over Rs 2 crore from equities into the net. They will now have to pay higher taxes on both their short-term (STCG) and long-term capital gains (LTCG).

Experts said it will affect those who are not registered as a company or a partnership firm.

Who are included?

Part II of the Finance Bill specified the entities that would be subject to the increased surcharge. It mentioned association of persons (AOPs) apart from individuals and HUFs as entities that will have to pay the higher tax.

Many of the FPIs are structured either as trusts or AOPs and thus they will be affected by the tax blow.

There are more than 9000 FPIs registered with Sebi and estimates vary as to the number of them who could be affected.

“The proposed change will significantly impact FPIs which are not set up as a company or as a firm. The LTCG tax rate is likely to go up to 14.25 per cent and STCG tax on equities is likely to go up to 21.37 per cent,” Suresh Swamy, partner at PwC Financial Services, told The Telegraph.

“The worst impact is on income from derivatives where the tax rate will go up to 42.74 per cent. Many overseas pension funds and mutual funds who are long term investors in equities are non-corporate entities,” Swamy said.

These pension funds and the mutuals are likely to feel the impact of the changes. “FPIs seek clarity on these provisions as they will need to decide on whether to provide for these taxes or not,’’ he added.

Earlier, they had to pay an effective tax of 17.94 per cent on short-term capital gains on equity investments and 11.96 per cent on long term capital gains.

For their investment in derivatives, the effective rate stood at 35.88 per cent.

The fresh tax comes on the back of other announcements which have met with negative reaction from the markets, including raising the minimum public shareholding limit in listed companies to 35 per cent from the current 25 per cent and a tax on the buyback of shares.

Investor wealth

Investors’ wealth on Monday got eroded Rs 3.39 lakh crore after the Sensex plummeted 793 points.

From the 30-share pack, 27 companies faced selling pressure led by Bajaj Finance, ONGC, Hero MotoCorp and Maruti Suzuki India.

On the BSE, 1,953 scrips declined and 571 advanced, while 145 remained unchanged.

All the BSE sectoral indices ended in the red, with capital goods, realty, automobile, power, industrials, finance, banking indices falling up to 3.78 per cent.

In the broader market, the BSE mid-cap and small-cap indices fell up to 2.46 per cent.