Conceptual · Article 8.4.2
Interest Rate Swaps.
The Private Market Where Institutions Trade Away Rate Risk.
Published as on 22 July 2026
An Interest Rate Swap is a private contract between two institutions to exchange interest-payment streams on a notional sum — most often one side paying a fixed rate and receiving a floating benchmark, the other doing the reverse. No principal changes hands; only the net difference between the two interest streams settles each period. It is the instrument banks, primary dealers, insurers and large corporates use to turn floating-rate exposure into fixed — or the reverse — hedging or repositioning interest-rate risk without touching the underlying loans or bonds. Unlike an exchange-traded future, it trades over-the-counter under RBI oversight, documented bilaterally under an ISDA Master Agreement and increasingly novated through the CCIL for central clearing. As of early 2024, MIBOR-linked overnight index swaps made up roughly 85% of India's outstanding rupee interest-rate derivatives. This is an institutional market — not a retail product.
OTC · RBI
Venue & Regulator
~85%
MIBOR OIS Share of IRDs
CCIL
Central Counterparty
Business Income
Tax · No 43(5)(d)
Executive Summary · Page 2
Executive Summary · 6 Findings
A swap answers a specific institutional question: I like my loan, but not the way its interest behaves — can I change that behaviour without refinancing? A treasurer whose loan floats with the benchmark can layer on a swap and pay a fixed rate instead; a bank sitting on fixed-rate bonds can swap into floating to protect its balance sheet. Nothing about the underlying debt moves. Only a thin net cash flow — the difference between two interest streams on a notional that is never itself exchanged — changes hands.
Covers what an IRS is and why it exists, who populates this institutional OTC market and why it is not retail, the MIBOR overnight-index benchmark and the MIFOR-to-SOFR transition, how trades are documented under ISDA and cleared through CCIL, the core hedging applications from bank ALM to ECB cover, how swaps are valued and what they cost, the business-income tax treatment and the Section 43(5) question, and six questions on the mechanics and the boundaries.
Key Findings
A bilateral exchange of two interest streams — no principal moves.
Two counterparties agree to swap interest payments on a stated notional for a set tenor: one pays fixed and receives a floating benchmark, the other the reverse. The notional is only a reference for the calculation — it is never exchanged. At each settlement only the net difference between the legs is paid. The plain-vanilla fixed-for-floating swap is the workhorse.
An institutional OTC market, regulated by the RBI — not SEBI.
Participants are banks, primary dealers, insurers, mutual funds, large corporates, NBFCs and FPIs. Unlike exchange-traded Interest Rate Futures, swaps are not listed and not SEBI-regulated; the RBI governs the OTC interest-rate derivatives market, with FIMMDA setting conventions. Every trade sits under an ISDA Master Agreement. There is no retail wrapper.
The floating leg is overnight MIBOR — the OIS dominates.
Most trades are Overnight Index Swaps whose floating leg is the compounded overnight MIBOR published by FBIL. MIBOR-based swaps were ~85% of outstanding INR interest-rate derivatives as of 31 January 2024. Cross-currency swaps use MIFOR, now rebuilt on Adjusted SOFR after LIBOR's retirement. The RBI has proposed a further shift to a secured repo-based rate.
Documented under ISDA, increasingly cleared through CCIL.
Trades are struck bilaterally and papered under an ISDA Master Agreement, its Schedule and a Credit Support Annex that governs collateral. CCIL acts as central counterparty for eligible INR swaps — from 2014 for MIBOR/MIOIS, from 2018 for MIFOR — novating trades and mutualising default risk. All OTC INR interest-rate derivative trades must be reported to the CCIL Trade Repository.
Built to hedge — from bank ALM to ECB cover.
A bank converts fixed-rate bond exposure to floating to protect its balance sheet; a corporate fixes a floating MCLR-linked loan; an ECB borrower pairs a cross-currency swap with an IRS to cover both currency and rate. RBI rules make hedging mandatory for many infrastructure ECBs. A swap is valued as the present value of the fixed leg minus the floating leg.
Taxed as business income — and outside the 43(5)(d) carve-out.
No STT or CTT applies, but OTC swaps do not qualify for the Section 43(5)(d) non-speculative carve-out reserved for exchange-traded derivatives. Absent it, gains and losses can be treated as speculative — losses carrying forward only four years — unless the Section 43(5)(b) hedging exception applies. Ind AS 109 hedge accounting can route effective hedges through OCI. This is litigated territory.
At A Glance
| Feature | Value | Detail |
|---|---|---|
| Instrument | OTC bilateral | Not exchange-traded |
| Regulator | RBI | Not SEBI |
| Documentation | ISDA + CSA | Bilateral |
| Dominant type | MIBOR OIS | ~85% of IRDs |
| Floating leg | Overnight MIBOR | FBIL, compounded |
| Clearing | CCIL (CCP) | Novation, netting |
| Principal | Notional only | Never exchanged |
| Tax | Business income | No 43(5)(d) |
Exhibit 01: Why an OTC Swap Is Taxed Harder Than an Exchange Future
| Feature | OTC IRS | Exchange IRF |
|---|---|---|
| Venue | OTC (RBI) | Exchange (SEBI) |
| 43(5)(d) carve-out | No | Yes |
| Default class | Speculative* | Non-speculative |
| Loss carry-forward | 4 years | 8 years |
*Unless the Section 43(5)(b) hedging exception applies — a fact-specific, litigated question. Banks typically treat swap results as part of overall banking business income. Classification, not headline yield, is where the OTC/exchange gap bites.
The Opening · Page 3
The Opening
An interest rate swap does almost nothing visible and settles almost nothing tangible. Two parties agree on a notional — say ₹500 crore — that neither will ever pay to the other. They agree on a tenor, a fixed rate for one side, and a floating benchmark for the other. Then, period after period, the only money that moves is the net gap between what the fixed leg owes and what the floating leg owes. Yet from that thin cash flow a great deal of interest-rate risk is quietly reshaped: a fixed-rate bond becomes, in economic effect, a floating one; a floating loan becomes a fixed cost — all without a single unit of the underlying debt being sold, repaid or refinanced.
"A swap separates the two decisions embedded in every loan — whom you borrow from, and how the interest behaves. Keep the first; rewrite the second. The notional is never exchanged, the debt never moves, and the character of the cash flow changes anyway."
The Economics of a Swap
What the floating leg tracks. The benchmark is the reference rate the market prices short-term money at — in India, most often the overnight rate at which banks lend to one another, published each morning as MIBOR and compounded over the settlement period. When that reference climbs, the floating leg pays more; when it falls, it pays less. The fixed leg, set once at inception, does not budge. A swap is therefore a clean way to take a view on, or protect against, the path of that reference rate — without holding the underlying instruments at all.
Why it lives off-exchange. Because tenors, notionals and reset dates are negotiated to fit each hedge, swaps are bespoke and trade over-the-counter rather than on a standardised order book. That flexibility is the reason banks and treasurers prefer them — and the reason they carry counterparty credit risk that must be papered, collateralised and, increasingly, cleared. It is also why the instrument sits with the RBI's OTC market rather than SEBI's exchanges.
Structure
Part I
What a Swap Is, How the Legs Work & Who Trades Them
Part II
The MIBOR Benchmark, the SOFR Transition & the CCIL Plumbing
Part III
Hedging Applications, Valuation & What a Swap Costs
Part IV
The Verdict: Counterparty Risk, Tax & Why It Is Not Retail
Where It Fits
✓ An institution hedging real rate exposure
✓ Has an ISDA & credit relationship
✓ ALM, loan or ECB cover
✓ Crore-scale, hold-to-purpose notionals
Where It Does Not
✕ A retail investor seeking returns
✕ No bilateral credit or collateral setup
✕ A speculative rate punt without a hedge basis
✕ Anyone needing a listed, margined venue
Part I
What a Swap Is, How the Two Legs Work, and Who Actually Trades Them
The plain-vanilla fixed-for-floating structure and why no principal is exchanged; how a pay-fixed or pay-floating position transforms an existing exposure; and the interbank, institutional cast — banks, dealers, insurers, corporates and FPIs — that makes this an OTC market rather than a retail one.
Part I · Page 4
The Two Legs
| Position | Pays | Receives |
|---|---|---|
| Pay-fixed | Fixed rate | Floating (MIBOR) |
| Pay-floating | Floating (MIBOR) | Fixed rate |
A plain-vanilla swap has exactly two sides. The pay-fixed party locks in a known rate and receives whatever the floating benchmark delivers; the pay-floating party does the reverse. Because both legs accrue on the same notional over the same period, only the net difference is settled — the notional itself is a reference, never a payment.
What It Transforms
Floating Loan → Synthetic Fixed
A company paying MCLR + spread on a bank loan enters a pay-fixed swap. The floating it receives cancels the floating it owes on the loan; what remains is the fixed rate it pays on the swap. The borrowing is now, in economic effect, fixed — without refinancing the loan itself.
Fixed Bond → Synthetic Floating
A bank holding fixed-rate bonds receives fixed on a swap to match the coupon and pays floating. The two fixed streams offset; the bank is left paying floating, converting a fixed asset into a floating one for balance-sheet management.
Who Trades Them
| Participant | Typical Use |
|---|---|
| Banks & primary dealers | ALM, market-making |
| Insurers & mutual funds | Duration, liability matching |
| Corporates & NBFCs | Loan & borrowing-cost hedging |
| FPIs | Hedging Indian fixed income |
India's swap market is fundamentally interbank. Scheduled commercial banks and primary dealers are the dominant users and market-makers; insurers and funds use swaps for duration and liability matching; corporates and NBFCs hedge loans and External Commercial Borrowings; FPIs are permitted to hedge their rupee fixed-income exposure. Every counterparty is an institution.
Part II
The MIBOR Benchmark, the Move to SOFR, and the Clearing Plumbing Behind Every Trade
How overnight MIBOR is computed and why the OIS dominates; how MIFOR was rebuilt on SOFR after LIBOR and what the RBI's secured-rate proposal would change; and how ISDA documentation, Credit Support Annexes and CCIL central clearing hold a bilateral market together.
Part II · Page 6
The Benchmark
Overnight MIBOR — The Floating Leg
Published by FBIL since 2015, overnight MIBOR is the volume-weighted average of qualifying call-money trades in the first hour of the market, subject to a minimum of ten trades aggregating ₹500 crore, with outliers beyond three standard deviations stripped out. In an Overnight Index Swap the floating leg pays this rate compounded over the period — the structure that dominates the market.
MIFOR & the SOFR Transition
MIFOR prices the floating leg of cross-currency swaps. After LIBOR's retirement, Modified MIFOR (new contracts, from June 2021) is built from Adjusted SOFR and the FBIL Forward Premia Curve; Adjusted MIFOR (legacy contracts) applies a spread adjustment under ISDA fallbacks.
The SORR Proposal — October 2024
The RBI's MIBOR Committee recommended migrating to a Secured Overnight Rupee Rate built on secured repo transactions, which make up roughly 98% of overnight money markets — a broader, more robust base than call money. It flagged the ~85% concentration of derivatives in a single benchmark as a systemic risk. Banks and FIMMDA are discussing the timeline.
The Plumbing
ISDA, the Schedule & the CSA
Every swap is papered under an ISDA Master Agreement and its Schedule, with a Credit Support Annex governing collateral. Netting reduces gross exposures to a single settlement figure; the CSA requires the out-of-the-money party to post margin as the mark-to-market moves.
CCIL as Central Counterparty
CCIL novates eligible INR swaps — becoming buyer to every seller and seller to every buyer — for MIBOR/MIOIS from 2014 and MIFOR from 2018, adding multilateral netting and default management. All OTC INR interest-rate derivative trades must be reported to the CCIL Trade Repository, giving regulators full visibility of size, tenor and composition.
Types Traded in India
| Type | Floating | Users |
|---|---|---|
| OIS | Overnight MIBOR | Banks, PDs, MFs |
| Plain vanilla | MIBOR / MCLR | Corporates, NBFCs |
| MIFOR (X-ccy) | Modified MIFOR | ECB borrowers, FPIs |
Part III
What a Swap Is For: Hedging Applications, Valuation, and Cost
From a bank protecting a bond portfolio to a corporate fixing a floating loan to an ECB borrower covering currency and rate at once; how a swap is valued as the present value of the fixed leg minus the floating; and where its real cost sits — the bid-ask spread, not a stamp duty.
Part III · Page 8
Three Hedges in Practice
Bank ALM — Protecting a Bond Book
A bank holding ₹5,000 crore of fixed-rate government bonds faces mark-to-market losses if rates rise. It enters a receive-fixed, pay-floating OIS: when rates climb, the swap's rising value offsets the bond book's losses — an ALM hedge that reshapes rate risk without selling the physical bonds.
Corporate — Fixing a Floating Loan
A manufacturer borrowing ₹500 crore at MCLR + 0.75%, reset quarterly, fears a rate rise. It enters a pay-fixed swap at, say, 7.50% and receives floating. The received floating offsets the loan's floating; the company effectively pays a fixed 7.50% whatever rates do.
ECB — Covering Currency and Rate
India's ECB stock was ~$190.4 billion as of September 2024, the private sector ~63%. RBI mandates that infrastructure borrowers hedge at least 70% of ECB exposure where average maturity is under five years. Cross-currency swaps and IRS together convert USD floating obligations into INR fixed-rate equivalents.
How a Swap Is Valued
PV(Fixed Leg) − PV(Floating Leg)
A swap's value is the present value of the fixed payments minus the present value of the projected floating payments, both discounted off the OIS curve. At inception it is priced so the value is zero — the par swap rate, where the two legs are worth the same. As rates move afterward, the swap becomes an asset to one side and a liability to the other; long-dated swaps add convexity adjustments to forward-rate projections.
What It Costs
| Component | OTC IRS |
|---|---|
| STT | Nil |
| CTT | Nil |
| SEBI turnover fee | Not applicable |
| Bid-ask spread | Primary cost |
| CCIL clearing fee | For CCP trades |
| GST | 18% on fees |
| ISDA setup | One-time |
There is no securities transaction tax and no exchange turnover fee because a swap is not exchange-traded. The real economic cost is the bid-ask spread — narrow for plain-vanilla interbank MIBOR OIS, wider for long tenors, bespoke structures and less liquid currencies.
Part IV
The Verdict
A precision hedging tool for institutions — not an asset to be bought.
Part IV: The Verdict · Page 10
30-Second Summary
An Interest Rate Swap is an OTC bilateral contract in which two institutions exchange interest-payment streams — usually fixed for floating — on a notional that is never itself exchanged; only the net difference settles each period. In India it is an RBI-regulated interbank market dominated by MIBOR-based Overnight Index Swaps (~85% of outstanding INR interest-rate derivatives as of January 2024), documented under ISDA and increasingly cleared through CCIL. It exists to transform interest-rate exposure — to hedge or reposition it — not to be held for return.
Its risks are not those of a listed future. The central one is counterparty credit risk, managed through the ISDA Master Agreement, Credit Support Annex collateral and CCIL central clearing rather than exchange margin. Its tax treatment is business income, and — because it is not exchange-traded — it falls outside the Section 43(5)(d) non-speculative carve-out, raising the speculative-classification question unless the Section 43(5)(b) hedging exception applies. For reporting entities, Ind AS 109 hedge accounting can route effective hedges through OCI. Above all, it is an institutional instrument, documented and settled bilaterally — with no retail wrapper.
"A swap does not tell you where rates are going. It lets an institution decide how much of that uncertainty it wants to carry — and hand the rest to a counterparty. Used to hedge a real exposure, it is one of the most precise tools in finance. Used as a bet with no underlying, it is simply leverage with a documentation burden."
The Final Orientation
ADWIZR · July 2026
Decision Rules
Use Correctly As
✓ A hedge of an existing rate exposure
✓ ALM, loan-fixing or ECB cover
✓ A CCIL-cleared, ISDA-papered trade
✓ A documented, business-purpose hedge
Misuse Destroys Value
✕ A retail bet on rates
✕ An unhedged, undocumented position
✕ Ignoring counterparty & collateral terms
✕ Assuming exchange-style margin safety
Three Misconceptions
What People Get Wrong
(1) "A swap is like buying a bond fund." No — it is a hedge on a notional, not an asset you own. (2) "It is exchange-margined, so it is safe." It is bilateral; protection comes from collateral and CCIL clearing, not an exchange guarantee. (3) "Gains are taxed like futures." OTC swaps miss the 43(5)(d) carve-out and can be speculative unless a hedge exception applies.
vs Interest Rate Futures
Bespoke OTC vs Standardised Exchange
Swap: privately negotiated, RBI-regulated, bespoke tenor and notional, counterparty risk managed by collateral and CCIL. Future: listed, SEBI-regulated, standardised, exchange-margined, retail-accessible. Same underlying — rates — different market, different risk, different tax.
Investor FAQ
Questions About Swaps, Answered
Six questions on the mechanics and the boundaries.
Investor FAQ · Page 12
Frequently Asked Questions
Q1 Can retail investors trade interest rate swaps in India?
Q2 How is an OTC swap different from an interest rate future?
Q3 What benchmark does the floating leg reference?
Q4 What is counterparty risk in a swap and how is it managed?
Q5 How are gains and losses on OTC swaps taxed?
Q6 Why use a swap instead of just taking a fixed-rate loan?
Key Terms & Definitions
Interest Rate Swap (IRS)
An over-the-counter bilateral contract in which two counterparties exchange interest-payment streams — typically one fixed and one floating — on a notional principal for a set tenor. No principal is exchanged; only the net interest differential settles each period. In India it is RBI-regulated and documented under an ISDA Master Agreement.
Notional Principal
The reference amount on which both legs of a swap accrue interest. It is used only to calculate the payments and is never itself exchanged between the parties — which is why a crore-scale swap moves only the small net difference between the two interest streams.
Overnight Index Swap (OIS)
The dominant swap structure in India, in which the floating leg pays the compounded overnight MIBOR accumulated over the settlement period against a fixed rate agreed at inception. MIBOR-based swaps made up roughly 85% of outstanding INR interest-rate derivatives as of early 2024.
MIBOR
The Mumbai Interbank Offer Rate — the overnight benchmark published by FBIL as the volume-weighted average of qualifying call-money trades in the first hour of the market. It is the reference rate the floating leg of most Indian swaps tracks.
ISDA Master Agreement
The standardised legal framework governing OTC derivative trades between two parties, comprising the master, a negotiated Schedule and a Credit Support Annex (CSA) that sets collateral terms. It enables netting of exposures and defines default and close-out mechanics.
CCIL Central Clearing
The Clearing Corporation of India Limited acts as central counterparty for eligible INR swaps, novating each trade so it becomes buyer to every seller and seller to every buyer. This mutualises default risk and adds multilateral netting — from 2014 for MIBOR/MIOIS and 2018 for MIFOR swaps.