Investors participating in Indian capital markets through Participatory-notes (P-notes) are likely to come in directly as FPIs, with Sebi's new proposals expected to make investment via these instruments costlier.

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P-notes or Offshore Derivative Instruments (ODIs) are issued by registered FPIs to overseas investors who wish to be a part of the Indian stock markets without registering themselves directly. They, however, need to go through a proper due diligence process.

Sebi has proposed to levy a regulatory fee of $1,000 for each P-note issued by foreign portfolio investors and bar issuance of such derivative-based instruments for speculative purposes to check any misuse of these products for channelising black money.

It said note-holders will have exposure to the derivatives market only for hedging and not for speculation.

The move will encourage the existing ODI subscribers to come in directly as a Foreign Portfolio Investors (FPI), Orbis Financial Services CEO Rajesh Sharma said.

"It is expected that P-note investors would now invest in derivatives through their own FPIs and will have to pay taxes in India unless they are headquartered in treaty jurisdictions, which exempt capital gains tax on derivatives," said Bhavin Shah, Partner and Leader Financial Services Tax at PwC.

"Most ODI issuers are based in tax efficient jurisdictions, which do not levy tax on capital gains on sale of derivatives," he added.

The proposed measures, which follow a slew of other steps taken by the regulator in the recent past, have come at a time when the value of foreign investments through P-notes has already fallen to a four-month low of about Rs 1.68 lakh crore at the end of April.

While such investments used to account for more than half of overall foreign portfolio investments at one point of time, their share has now fallen to just 6%. Still, concerns remain that

P-Notes are misused by some to channelise black money from abroad into the country through the stock markets.

"It is proposed that beginning April 1, 2017, for a period of every three years, regulatory fees of $1,000 be levied on each ODI issuing FPI for each and every ODI subscriber coming through such FPI," Sebi said.

The regulator said quite a few ODI subscribers invest through multiple issuers and the proposed fee will discourage the ODI subscribers from taking ODI route and encourage them to directly take registration as an FPI.

ODIs are currently being issued against derivatives along with equity and debt. At the end of last month, outstanding p-note investments in derivatives stood at Rs 40,165 crore (notional value), which was 24% of the total outstanding p-note investments.