By Mohamed Ali
Sri Lanka’s most ambitious foreign direct investment project, Port City Colombo, is currently focused on attracting foreign investment to accelerate its infrastructure development. In September 2025, President Anura Kumara Dissanayake, in his capacity as Minister of Finance, Planning, and Economic Development, introduced new regulations under Gazette No. 2454/62 to establish a more transparent framework for investment. The revised regulations have attracted considerable attention because they significantly reduced several fiscal incentives granted under the previous framework. While these reforms are viewed as necessary to support fiscal sustainability and align with Sri Lanka’s IMF programme, they also raise important questions about the country’s investment competitiveness.
Port City Regulations No. 2 of 2023, issued under the Colombo Port City Economic Commission Act No. 11 of 2021, offered generous tax holidays to both Primary and Secondary Businesses of Strategic Importance (BSIs). Primary BSIs received a 25-year corporate tax holiday, followed by a 50% reduction if investments exceeded USD 100 million per plot or USD 25 million in marina or social infrastructure. In addition, Scheme B permitted tax deductions of up to 300% of long-term asset costs over 40 years, while Secondary BSIs also qualified for a 25-year tax holiday. The new regulations completely changed this framework.
The revised regulations significantly reduce previous tax incentives while introducing investment and employment thresholds. Secondary businesses will now pay a concessionary corporate tax of 7.5% instead of receiving complete tax holidays. However, the broader fiscal and regulatory framework remains largely unchanged. Primary and Secondary BSIs continue to receive exemptions from the Customs Ordinance, the Ports and Airports Development Levy Act, and the Sri Lanka Export Development Act during project implementation. They also remain exempt from the Foreign Exchange Act No. 12 of 2017 and the Termination of Employment of Workmen Act upon qualifying as BSIs, while personal income tax within the Port City remains at zero. Nevertheless, several of these exemptions are expected to be reviewed in 2026.
The previous regulatory framework clearly favoured investors by offering lower effective tax rates than competing special economic zones such as the UAE, Singapore, and India’s GIFT City. Combined with lower operating costs, these incentives strengthened Port City’s attractiveness during Sri Lanka’s economic crisis. At the same time, Sri Lanka competes with jurisdictions such as the UAE that provide low corporate tax rates alongside 100% foreign ownership within numerous free zones. Previous exemptions reduced customs duties, shipment costs, and compliance burdens while providing greater flexibility in labour regulations, inward remittances, and selected outward transfers. These measures lowered operational costs, simplified administrative procedures, and enhanced trade and investment mobility during a period of economic uncertainty.
The revised incentives also affect a wide range of stakeholders. Foreign investors continue to benefit from regulatory exemptions, streamlined administrative procedures, and a more transparent investment framework. However, shorter tax holidays and the possible revision of exemptions after 2026 may reduce long-term profitability and investment certainty.
For the government, shorter tax holidays could improve revenue generation while supporting commitments under the IMF programme. However, continued exemptions from legislation such as the Customs Ordinance and the Ports and Airports Development Levy may reduce potential revenue and create accountability risks if oversight mechanisms remain weak. Strengthening regulatory monitoring will therefore be essential to maintaining investor confidence while protecting the public interest.
Local businesses may benefit through partnerships with foreign firms by supplying goods and outsourced services. However, lower tax rates within Port City compared with Colombo’s corporate tax regime may intensify competition and contribute to a two-tier economy, while skilled workers may migrate towards businesses operating inside the zone. Port City is also expected to generate employment opportunities with salaries paid in foreign currency and zero personal income tax. Nevertheless, exemptions from the Termination of Employment Act could reduce job security for employees. Likewise, the financial sector stands to benefit from more flexible foreign exchange arrangements and expanded banking and fintech services, although domestic financial institutions may face stronger competition from international firms.
The wider public may benefit indirectly through increased economic activity, employment, and higher living standards generated by spillover effects. However, risks, including speculative real estate markets, regional inequality, and weak economic linkages with the wider economy, remain. Ultimately, the distribution of these benefits will depend on Sri Lanka’s ability to maintain transparency, strengthen regulation, and ensure that Port City contributes to broader national economic development rather than functioning as an isolated enclave.
Compared with competing SEZs, Sri Lanka continues to face structural challenges beyond tax policy. It ranks significantly lower than countries such as the UAE and Singapore on both the Fragile States Index and political stability indicators. Economically, the country is still recovering from the sovereign debt crisis and foreign exchange shortages that resulted in Fitch assigning a Restricted Default (RD) rating in 2022. Although Sri Lanka’s credit rating had improved to the C category by 2025, it remains highly speculative, reflecting continued vulnerability rather than sustained stability. For investors, this means that Sri Lanka’s creditworthiness and investment climate remain closely tied to broader macroeconomic conditions.
Despite these challenges, Sri Lanka possesses an important comparative advantage: its strategic location along one of the world’s busiest maritime routes. This advantage becomes even more significant during regional disruptions, such as tensions affecting the Strait of Hormuz, when shipping routes between Asia and Europe rely heavily on waters surrounding Sri Lanka. At the same time, recent geopolitical instability and supply chain disruptions have increased uncertainty among global investors, highlighting the importance of strengthening macroeconomic stability and policy credibility across the country rather than relying solely on incentives offered within Port City.
Reducing tax holidays alone is unlikely to discourage investment. Modern investors increasingly evaluate market stability, institutional quality, regulatory consistency, and long-term economic resilience alongside fiscal incentives. Sri Lanka continues to face weaknesses in many of these areas, suggesting that structural reforms are more important than generous tax concessions. Dani Rodrik argues in Industrial Policy for the 21st Century that credible institutions and policy consistency are stronger drivers of investment than tax incentives alone. Likewise, UNCTAD consistently finds that market size, macroeconomic stability, and governance play a greater role in attracting foreign investment than fiscal incentives.
This suggests that Port City’s success will not ultimately be determined by the generosity of its tax regime but by Sri Lanka’s ability to maintain macroeconomic stability and policy consistency throughout its post-crisis recovery. As a lower-middle-income country implementing IMF-supported reforms, Sri Lanka faces the difficult task of attracting investment while simultaneously restoring fiscal discipline and rebuilding investor confidence.
Competition is particularly intense given that investment hubs such as Singapore, the UAE, and India’s GIFT City offer not only competitive tax regimes but also stronger institutions, efficient public administration, political stability, and well-established financial markets. Tax incentives alone cannot compensate for weaknesses in these broader fundamentals.
The lesson is therefore clear: tax holidays are only one component of an effective investment strategy. To attract and retain long-term investors, Sri Lanka must build confidence through credible institutions, policy consistency, sound governance, and stronger economic fundamentals. Port City should be viewed as one component of the national economy rather than an isolated investment enclave. Its long-term success will depend on whether Sri Lanka can create a stable and predictable investment environment across the country. Without that broader foundation, even the most competitive fiscal incentives are unlikely to secure sustainable investment. Ultimately, Port City’s future will depend less on tax generosity than on whether Sri Lanka can build lasting investor confidence, determining whether it becomes the country’s “Dubai dream” or another Hambantota 2.0.
The following are some recommendations to improve the overall investment and governance system within which Port City operates.
- Strengthen institutions alongside investment incentives to enhance long-term investor confidence.
- Introduce an Investment Protection Act with clear and predictable regulatory safeguards.
- Limit exemptions from selected regulations to minimise transparency and accountability risks while preventing the emergence of a two-tier economy.
- Strengthen audit, compliance, and anti-money laundering frameworks within Port City.
- Continue improving digital, logistical, and transport infrastructure to increase accessibility and competitiveness.
- Expand bilateral and multilateral investment agreements to diversify sources of foreign investment.
- Maintain prudent and consistent macroeconomic policymaking, recognising that investors evaluate the overall national investment environment rather than the performance of a single economic zone.
Mohamed Ali is a researcher in political economy, public policy, and governance. He holds a BSc in Economics and Politics and has worked on economic development and democratic institutions.
Factum is an Asia Pacific-focused think tank/consultancy on Diplomacy, Tech-Plomacy, Digital and Energy Futures accessible via www.factum.lk.
The views expressed here are the author’s own and do not necessarily reflect the organization’s.
