A country’s stock market is attractive to local investors and a wealth-building opportunity for international investors. Developing economies rely majorly on foreign investments for the growth and expansion of the country.
Among the many modes, the two popular ways of raising funds through international sources are FPIs and FIIs. Here is everything you need to know about them.
What is FPI?
FPI stands for Foreign Portfolio Investments.
Foreign Portfolio Investments are investments made by international investors in stocks, bonds, debentures, money market instruments, and other financial assets. The purpose of such investments is simply to create an additional source of income and not to acquire the ownership of companies. FPIs are similar to local stock market investments, except that they come from investors residing in other countries.
Foreign Portfolio Investors include institutional investors and non-institutional investors (NIIs). While institutional investors cover mutual funds, hedge funds and other financial institutions, NIIs primarily include retail investors.
What is FII?
FII stands for Foreign Institutional Investors.
Foreign Institutional Investors are a part of the Foreign Portfolio Investors. They refer to institutions making investments in foreign countries. Insurance companies, mutual funds, investment banks, pension fund houses, etc., are some examples of FIIs.
Foreign Institutional Investors are important in generating foreign capital and boosting the country’s economy. Additionally, these investments help foreign investors by exposing them to foreign markets, allowing them to hold a diverse portfolio.
FPI vs FII
It is hard to jot down the list of differences between foreign portfolio investments and institutional investments because, conceptually, they mean the same. Foreign Institutional Investors are one of the categories of Foreign Portfolio Investors.
Another kind of foreign investment that is significantly different from FPIs and FIIs is the FDI. FDI stands for Foreign Direct Investment.
This is where investors invest in foreign companies with the objective of acquiring a major share in the company. They are not regular investors holding few stocks but are prominent stakeholders in the company. Mergers and acquisitions, setting up a subsidiary in a foreign country, expanding operations in a foreign country, etc., are a few examples of Foreign Direct Investments.
The key differences between foreign direct investments and foreign portfolio/institutional investments are:
- FDIs revolve around investing in a specific foreign company, whereas FPIs involve investing in the foreign country’s stock market.
- Foreign direct investments generate jobs and lead to the improvement of the economy, while FPIs infuse capital alone and do not create job opportunities.
- FDIs involve the transfer of capital, technical know-how, strategies and more. Foreign Portfolio Investments are restricted to transferring capital.
- Investors through the FDI route, become integral parts of the company’s management. Investors through FPIs are only one among many shareholders of the foreign entity.
- The restrictions and regulations to enter a foreign country’s capital market through portfolio investments are lower. Foreign Direct Investments are highly regulated and restricted.
FPIs and FIIs in income tax
Section 115AD of the Income Tax Act deals with investments from foreign investors. The rate of tax varies based on the level of income, surcharge applied and also the kind of entity that the investor invests in.
- The tax rate for dividends varies between 20.8% to 23.92%.
- Income received through interest on bonds and government securities covered under specific sections of the Income Tax Act is taxed between 5.2% to 7.12%.
- The tax rate for income other than dividends and interest for securities and mutual funds varies between 20.8% to 28.49%.
- The tax rate on short-term capital gains (Holding period less than 12 months), where Securities Transaction Tax (STT) is applicable, varies between 15.6% to 17.94%.
- The tax rate on short-term capital gains where securities transaction tax is not applicable, varies between 31.2% to 35.88%.
- The tax rate on long-term capital gains (Holding period more than 12 months), irrespective of the applicability of Securities Transaction Tax (STT), varies between 10.4% to 11.96%.
- The income on the transfer of securities is chargeable under business income, and the tax rate varies between 0% to a maximum of 43.68%, based on various parameters.
Attracting foreign investments is a win-win for both the company and the investors. While companies get access to foreign capital, investors benefit by exposing and diversifying their portfolios to include foreign stocks. Foreign investments in different forms are also said to contribute significantly to a growing economy.
FPIs is a broader term covering various kinds of foreign investors, while FII focuses on institutional investors alone. FPIs also involve active retail investors who directly invest in foreign stock markets. FIIs involve passive investors who invest in foreign capital through fund houses.
The Securities and Exchange Board of India (SEBI) is the primary regulator of foreign investments in India. The Reserve Bank of India is also involved actively in making foreign investment policies.
The overall investment from foreign institutional investors cannot exceed 24% of the Indian company’s paid-up share capital. Non-resident Indians (NRIs) and Persons of Indian Origin (PIOs) have an upper limit of 10%.
Foreign Direct Investment involves long-term investment, not only in capital but in the management of the company. This is more stable as compared to portfolio investments. FPIs and FIIs can impact the stock market’s volatility to a larger extent.
DII stands for Domestic Institutional Investors. They represent investment institutions within the country, such as mutual funds, investment banks, hedge funds, etc. FIIs represent similar institutions in a foreign country, investing in the home country’s stocks.