Markets are approaching Budget 2026 with measured expectations amid elevated geopolitical risks and uneven global growth, with investor focus firmly on policy clarity and taxation reforms. Rohit Agarwal, Executive Vice President and Senior Fund Manager at Kotak Mahindra Life Insurance, believes the upcoming budget may offer significant relief on capital gains taxation while creating opportunities for positive market surprises.

Budget 2026 Expectations and Tax Relief Prospects

The market is entering the budget cycle with measured expectations after experiencing muted returns in recent months, creating scope for positive policy developments. Following submissions made by foreign institutional investors regarding capital gains taxation complexity, there is a strong possibility that some relief may be considered in Budget 2026.

Foreign investors have argued that the current taxation method is overly complex, leading market participants to expect meaningful announcements addressing these concerns. The government is also expected to announce a glide path towards bringing the debt-to-GDP ratio below 50.00%.

December Quarter Earnings and Market Outlook

December quarter earnings are expected to show single-digit growth on a year-on-year basis, aligning with market expectations. Several sectors are experiencing positive sentiment due to improving demand following recent GST cuts. The rupee's depreciation is expected to provide temporary margin benefits for IT companies, though this advantage may diminish as pricing adjustments occur over time.

Geopolitical risks are likely to persist, already reflected in movements of gold and other safe-haven assets. The pending trade deal with the USA, delayed for various reasons, could continue to create market sentiment uncertainty in the near term.

Domestic SIP Flows and Currency Dynamics

Domestic SIP inflows have served as a crucial buffer against foreign sell-offs and are expected to maintain their steady rise throughout 2026. Investors are increasingly viewing SIPs as a long-term investment approach, with reduced churning and aggressive fund switching behavior.

The rupee at ₹90.00 has provided relief to exporters facing tariff pressures. On an inflation-adjusted basis, the Indian rupee appears undervalued against the US dollar, with expectations of partial correction once the trade deal materializes.

Sectoral Recommendations and Banking Focus

Private sector banks are positioned to perform well in 2026 as they shift focus back to growth with the rate cut cycle nearing completion. During the declining interest rate environment of recent periods, NBFCs held advantages as their liabilities repriced faster while many loans remained at fixed rates, supporting margins.

With one more rate cut expected in February or April, private banks are likely to deliver mid-teen operating profit growth as margins near the end of their decline phase.

Economic Growth Projections

The Indian government has projected economic growth of 7.40% for fiscal 2025-26, with nominal GDP expected to grow by 8.00% in the current fiscal against 9.70% last year. Despite geopolitical concerns and trade tensions, India should maintain growth of around 6.00% to 7.00%. Government initiatives including large GST rate cuts have begun reviving demand, while RBI's liquidity support has moved the banking system to a surplus position, helping credit growth increase by 200-300 basis points from below 10.00%.

Tax policy experts have presented comprehensive recommendations for Budget 2026 to enhance India's mergers and acquisitions environment, particularly with the Income-tax Act, 2025 scheduled for implementation from April 1, 2026. The suggestions aim to address existing regulatory gaps and improve the ease of doing business for M&A transactions.

Fast-Track Demerger Tax Neutrality

A primary recommendation involves extending tax neutrality to fast-track demergers under Section 233 of the Companies Act, 2013. Currently, the Income-tax Act, 2025 provides tax neutrality only to NCLT-approved demergers under Sections 230 to 232, excluding fast-track demergers that enable small or closely held companies to undertake demergers without court approval.

The finance ministry's rationale for excluding fast-track demergers centers on concerns about potential valuation manipulation without court oversight. However, experts argue this approach contradicts the ease of doing business agenda, forcing genuine taxpayers to choose between transaction efficiency and tax benefits.

Contingent Consideration Clarity

Experts emphasize the need for clear taxation guidelines on earn-out, profit-linked, or contingent consideration arrangements that have become increasingly common in M&A transactions. These arrangements tie part of the sale consideration to achieving specific profitability or financial milestones.

The current legal framework lacks clarity on:

• Taxability of contingent payments
• Timing of taxation for such arrangements
• Treatment of milestone-based considerations

Foreign Company Merger Anomalies

The recommendations address existing inconsistencies in foreign company merger taxation. While foreign companies enjoy capital gains tax exemptions on direct or indirect share transfers during mergers with other foreign companies, shareholders of the amalgamating company face potential capital gains liability on share swaps.

This creates an anomaly compared to domestic mergers, which provide exemptions at both company and shareholder levels.

Capital Gains Tax Rate Concerns

The recent capital gains tax regime rationalization introduced higher long-term capital gains tax rates, which experts suggest adversely impacts investor returns and exit efficiency. The increased rates potentially drive investors toward jurisdictions with more favorable tax regimes.

Key concerns include:

• Reduced post-tax returns for investors
• Decreased competitiveness with other investment destinations
• Impact on foreign capital attraction

Experts recommend reducing capital gains tax rates, suggesting restoration of the earlier 10.00% rate to improve India's competitive position in attracting foreign investment.

Strategic Implementation Timeline

With the Income-tax Act, 2025 set for April 1, 2026 implementation, Budget 2026 represents the final opportunity to incorporate these amendments before the new framework takes effect. The recommendations aim to position India as a preferred destination for cross-border M&A activities while maintaining regulatory integrity and supporting corporate growth objectives.