New Delhi: The finance ministry has decided to halve the lock-in period for foreign portfolio investments in infrastructure bonds to one-and-a-half years, two of its officials separately said.
The move is aimed at encouraging greater interest among foreign investors in investing in such bonds and funding infrastructure projects in a country that, by some estimates, needs to spend around $1 trillion (around Rs 45 trillion) in the five years to 2017, with half of this coming from the private sector.
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Reducing the lock-in period will allow the sale and listing of these bonds, thereby deepening the debt market. One of the two officials, speaking on condition of anonymity, said that the changes would be announced soon by stock market regulator Securities and Exchange Board of India (Sebi).
The government has been considering this for some time, and in late July, while reporting the poor demand for such bonds in the first three months of this fiscal year, a few media reports had mentioned that the government was mulling a reduction in the lock-in period.
While presenting the budget for 2011-12 in February, finance minister Pranab Mukherjee hiked the ceiling for investments by foreign institutional investors (FIIs) in bonds issued by infrastructure companies to $25 billion from $5 billion, with a three-year lock-in period, although they were allowed to trade the bonds with other FIIs even within this period.
The move doesn’t seem to have had the desired response, with FIIs investing just around Rs 350 crore in such bonds in the first three months of the fiscal year.
The reduction in the lock-in period could change that, said an executive at a foreign bank, who too declined to be named. It will make their investments more liquid, he added.
The two government officials said the Reserve Bank of India (RBI) has agreed to have the same reduced lock-in period for offshore investors in the proposed infrastructure debt funds (IDFs).
In his budget speech, Mukherjee announced the creation of IDFs to accelerate the flow of long-term debt into infrastructure projects. To attract offshore funds into IDFs, the withholding tax on interest payments on the borrowings by the IDFs was reduced from 20% to 5% and their profits were exempted from income tax.
The same benefit on withholding tax (one paid by foreign firms operating in India) should be extended to corporate infrastructure bonds, said Jayesh Mehta, managing director and country treasurer (global markets group) at Bank of America Corp.
“Foreign investors are not interested to put their money into infrastructure corporate bonds because of the high withholding tax. This is a bigger irritant than the lock-in period,” he said.
Infrastructure projects require long-term financing given their long payback period and banks have been unable to provide such funding given their asset-liability mismatch and narrow exposure limits to the infrastructure sector. IDFs are expected to provide long-term, low-cost refinancing for infrastructure projects by tapping into sources of savings such as insurance and pension funds as well as offshore institutional investors, who so far have played a limited role in financing infrastructure. However, they can only provide financing a year after the project becomes operational, which means that this becomes a sort of refinancing.
By refinancing bank loans to existing projects, IDFs are expected to reduce a large volume of the existing bank debt and this, the government expects, will make that money available to fresh infrastructure projects.
An IDF may be set up either as a trust or as a company. A trust-based IDF, which will be regulated by Sebi, will normally be a mutual fund that would issue units, while a company-based IDF, which will be regulated by RBI, will normally be in the form of a non-banking financial company (NBFC) that would issue bonds.
The IDF set up as an NBFC will mainly lend to public-private partnership (PPP) projects, whereas an IDF set up as a trust will take care of the funding requirements of non-PPP projects such as those in the power sector.
While IDFs structured as companies will enjoy the benefit of a lower withholding tax, Mehta said it is still not clear from present guidelines whether trust-based IDFs will be exempted from dividend distribution tax, though he assumes it to be the case.
RBI and Sebi will issue detailed guidelines for company-based and trust-based IDFs, respectively, soon, the first official said.
Several committees, including a high-level expert panel on making Mumbai an international financial centre headed by Percy Mistry, the Deepak Parekh panel on infrastructure financing, and the R.H. Patil committee on deepening the bond market, had recommended easing of foreign fund flows into the under-developed corporate bond market to meet India’s rising infrastructure financing demands.