The local currency was trading 57 points down at 68.08 against the US currency over previous close of 67.51.
Market sentiment took a hit after the main opposition Congress party said it would form an alliance with the Janata Dal (Secular) to rival Prime Minister Narendra Modi's Bharatiya Janata Party (BJP) in the assembly elections in the southern state of Karnataka.
BJP looked set to win the largest number of seats in the assembly elections in the state, which would give Modi momentum for a re-election bid next year and open the path for more reforms, which investors view as a positive for markets.
Rupee had earlier in the day erased losses on likely Reserve Bank of Indias intervention. It had recovered to 67.60 to the dollar only to pare losses on political uncertainty in Karnataka.
The BSE Sensex closed 12.77 points, or 0.04 per cent, down at 35543.94, whereas NSE Nifty index settled 4.75 points, or 0.04 per cent, down at 10801.85.