India's foreign investment dynamics are experiencing a significant shift as the country transitions from attracting capital to focusing on retention strategies. Despite maintaining its position as the world's fourth-largest economy by GDP and among the fastest-growing developing economies, the nation faces challenges in keeping foreign capital invested domestically.

Current Investment Landscape Shows Concerning Trends

The foreign investment scenario in India has witnessed a notable reversal during the recent period. Foreign Portfolio Investment flows have turned negative, creating pressure on domestic financial markets and currency stability.

Foreign Portfolio Investors, overseen by Sebi, predominantly engage in India's listed markets across various sectors, while Foreign Direct Investment remains the preferred avenue for long-term investments in unlisted sectors subject to sectoral caps. However, effective returns to foreign investors, once adjusted for applicable taxes and depreciation of the rupee via inflation, are materially lower than returns on risk-free securities offered in foreign markets.

Tax Policy Reforms for Investment Retention

Experts suggest that Budget 2026 should prioritize retention strategies over attraction mechanisms. The current tax framework presents several areas for potential reform to incentivize longer investment tenures.

The existing tax regime for Foreign Portfolio Investors has evolved significantly. The erstwhile tax provisions granted exemption on long-term gains derived from listed equity instruments. However, tax rates have scaled up from discontinuing the exemption to taxing long-term gains at 12.50%, followed by surcharge and cess.

Proposed Incentive Framework

To retain foreign capital within the Indian economy, Budget 2026 could consider several strategic measures:

• Tenure-based Tax Reduction: Lower the existing 12.50% tax rate for foreign investors if gains are derived from investments held for two to three years
• Category-specific Benefits: Offer preferential rates to Category I FPIs comprising foreign banks, insurance companies, pension and sovereign funds
• FDI Sector Incentives: Provide lower tax rates for FDI investments in specific sectors with exit periods of three to five years
• Dividend Tax Relief: Reduce the current 20% dividend tax rate to motivate sustained investment

Debt Market Revival Strategies

A significant portion of corporate bonds and government securities remains underutilized by Foreign Portfolio Investors. To address the overall reduction in debt inflows, policymakers could make the Indian debt market more attractive through regulatory and fundamental changes.

Budget 2026 could provide tax incentives by reintroducing lower tax rates of 5% on interest income earned by foreign investors, thereby encouraging steady, long-term debt inflows. This approach would help stabilize foreign investment patterns and strengthen foreign currency reserves.

Regulatory Clarity and Treaty Dependence

The upcoming budget presents an opportunity to establish a transparent and lower tax regime for foreign investors. Enhanced domestic tax law mechanisms could reduce reliance on tax treaties, providing assurance to foreign investors and minimizing prolonged litigation risks associated with beneficial tax treatment under various international agreements.

As India's economy matures, the focus must shift toward creating sustainable frameworks that encourage long-term foreign investment commitments while maintaining the country's competitive position in the global investment landscape.

As the Union Budget 2026 approaches, tax experts are mounting pressure on the government to significantly expand the scope of deductions under the new tax regime. Home loans, medical insurance, and preventive healthcare benefits have emerged as the top priorities for reform, with industry leaders arguing that enhanced deductions would provide much-needed relief to Indian households facing rising living costs.

Medical Insurance and Healthcare Priorities

Medical inflation continues to pose significant challenges for India's healthcare system, with projections indicating rates of 11.5%-14%, among the highest in Asia. This inflationary pressure has intensified calls for comprehensive tax reforms in the healthcare sector.

Prashant Mishra, founder and CEO of Agnam Advisors, advocates for simplifying the new tax regime by integrating key deductions. "Simplifying the new tax regime by integrating key deductions such as housing loan interest, medical insurance under Section 80D (raised to Rs 50,000 for self/family and Rs 1 lakh for seniors), and a potential 25% slab for Rs 30-50 lakh earners would ease compliance burdens and provide equitable relief amid rising living costs," he stated.

Preventive Healthcare Focus

Srikanth Kandikonda, Chief Financial Officer at ManipalCigna Health Insurance, emphasizes the critical need for increased public health spending. "Currently, public health expenditure in India remains below global benchmarks and even short of the National Health Policy target of 2.5% of GDP in 2025," he noted.

The proposal for separate tax benefits for preventive healthcare represents a significant policy shift:

• Enhanced tax benefits for OPD services beyond current Section 80D limits
• Separate deductions for preventive health screenings
• Incentives to encourage wider adoption of preventive care
• Focus on reducing long-term hospitalization costs

Comprehensive Tax Reform Recommendations

Experts are proposing a multi-faceted approach to tax reform that extends beyond healthcare. The recommendations include enhanced retirement savings deductions and incentives for sustainable investments.

Mishra further suggests that "enhancing retirement savings deductions and incentives for green projects or AIFs in GIFT City aligns with sustainable, long-term strategies tailored for HNIs."

Industry Expectations and Market Impact

Shubham Gupta, CFA and Co-founder of Growthvine Capital, highlights the broader economic implications of these proposed changes. "As we get closer to the 2026 Union Budget, the focus of both taxpayers and businesses is on developing a fairer, more simplified, and predictable new tax regime, which many believe will improve household consumption and savings," he observed.

With the new tax regime now serving as the default option, expectations are mounting that Finance Minister Nirmala Sitharaman will use Budget 2026 to balance lower tax rates with meaningful incentives. The proposed reforms aim to boost home ownership, encourage insurance adoption, and strengthen overall household financial security while addressing demographic shifts and unlocking productivity for working professionals.