SEBI's AIF Master Circular: Simplified Guidelines for Investor

AIF Master Circular

On 7th May 2024, the Securities and Exchange Board of India (SEBI) released a comprehensive master circular for Alternative Investment Funds (AIFs), outlining key regulations and operational guidelines. The circular introduces a streamlined online filing system for AIF-related applications and reports, emphasizing transparency and ease of compliance. It also mandates the filing of Private Placement Memorandum (PPM) through a SEBI registered Merchant Banker, detailing fee structures and compliance requirements. Additionally, the circular clarifies registration processes, investment norms, and obligations of managers, sponsors, and trustees, providing a robust framework for AIF operations in India.

Details of Master Circular on AIFs

AIF’s Online Filing System

All AIFs related applications and reports must be submitted online through SEBI portal at https://siportal.sebi.gov.in.

Private Placement Memorandum (PPM) Filing and Compliance Requirement

Private Placement Memorandum (PPM) is a key document for AIFs, disclosing essential information to investors, following a mandated template.
PPM includes fee details, disciplinary history, and must be filed through a SEBI registered Merchant Banker.
The first close of a scheme must be declared within 12 months from SEBI communication, and annual audits of PPM compliance are mandatory.
Changes to PPM must be clearly listed, with material changes offering an exit option to dissenting investors.
The exit process for dissenting investors must be completed within 3 months, overseen by the trustee or sponsor.

Clarifications Related to AIFs Registration

In-principle approval requires timely submission of trust/partnership deeds; failure needs a fresh application.
Changing an AIF's category post-registration needs Board approval; AIFs without prior investments in the current category can apply.
Application for category change must include updated Form A, rationale, and a fee of 1 lakh rupees; no registration fees apply.

Investments in AIFs

AIFs can raise funds from Indian, foreign, and non-resident Indian investors, with certain conditions for foreign investors.
AIFs must ensure investors meet anti-money laundering and counter-terrorism financing criteria.
Marketing documents must be distributed privately, and contribution agreements must align with the PPM.
Joint investments are allowed with specified relations, and open-ended schemes have minimum investment requirements to maintain.

Operational and Regulatory Guidelines for Category III Alternative Investment Funds (AIFs)

Category III AIFs can calculate investment concentration norms based on investable funds or NAV, with disclosure requirements.
Leverage for Category III AIFs should not exceed 2 times of the NAV, with detailed calculation methods and restrictions on certain types of exposures.
AIFs employing leverage must have robust risk management and compliance frameworks, including disclosure of conflicts of interest.
Redemption norms apply to open-ended Category III AIFs, requiring liquidity management policies and disclosure of suspension possibilities.
In case of corpus falling below a certain threshold, AIFs must take action to restore the size within a specified period, failing which they must redeem units and wind up the scheme.

Norms for Special Situation Funds (SSF)

SSF requires a Rs.100 crore corpus per scheme and set minimum investments from Rs.25 lakh to Rs.10 crore. They must comply with RBI's due diligence rules when acquiring stressed loans, with a minimum six-month lock-in period.

Directives for Foreign Investments and Associated Reporting by AIFs

AIFs can invest in foreign securities, subject to RBI and SEBI guidelines.
Investment conditions include a USD 1500 million limit, 25% cap on investable funds, and compliance with FATF guidelines.
AIFs must follow FEMA regulations, not invest in joint ventures, and adhere to RBI guidelines on overseas investments.
They need SEBI approval for overseas investment allocation, must report utilization within 5 days, and divestment details within 3 days.

Investment in units of AIFs

AIFs can invest in units of other AIFs without being categorized as a Fund of Funds.
Existing AIFs can invest in securities and other AIFs' units with consent from two-thirds of unit holders.
PPMs must include details on investment allocation, fees, compliance processes, and investments in units of AIFs managed by the same Manager/Sponsor.

Participation of AIFs in Credit Default Swaps

AIFs can participate in CDS for hedging purposes, with different conditions for each category.
Selling CDS requires adherence to leverage limits, and Category III AIFs can sell by earmarking government securities.
Reporting CDS transactions to custodians is mandatory, and leverage breaches have specified actions.
AIFs must maintain transparency, comply with RBI guidelines, and limit unhedged positions.
Category I and II AIFs have borrowing limits and cooling-off periods between borrowing and engaging in leverage.

Corporate Bond Transactions via Request for Quote (RFQ) Platform by AIFs

AIFs must conduct 10% of their total secondary market trades in Corporate Bonds monthly on the RFQ platform, using 'one-to-one' mode for trades where they are on both sides.

Additional Prudential and Operational Standards and Relevant Clarification

Clarifications related to investments: The sponsor/manager's loss sharing in the AIF should be pro rata to their holding vis-à-vis other unit holders. Continuing interest should be pro rata to funds raised from other investors. Investee companies in real estate or infrastructure projects should hold at least one project.
Investment regulations: Prior approval is needed for investments in associates or AIFs managed by the sponsor/manager. Category II AIFs are encouraged to focus on investments in unlisted securities. Schemes with priority distribution among investors cannot accept new commitments until further SEBI guidance.
Tenure calculation for close-ended schemes: Tenure is calculated from the date of the First Close. The scheme can modify its tenure before the First Close, and existing schemes as of November 17, 2022, can calculate tenure from the date of Final Close.

Framework for Accredited Investors

Framework for Accredited Investors: AIs may get flexibility in investment amounts and regulatory concessions. Accreditation is done by Accreditation Agencies based on KYC and financial information, valid for two to three years.
LVF Schemes: Large Value Funds for Accredited Investors (LVF) are exempt from filing placement memorandums with SEBI. LVFs can launch schemes under SEBI intimation and must adhere to specific conditions.
Extension of Tenure: Close-ended AIFs can extend up to two years with approval from two-thirds of unit holders. LVFs can extend beyond two years with specified conditions; otherwise, they must liquidate.

Responsibilities of AIF Managers, Sponsors, and Trustees

Appointment and Designation: A Compliance Officer must monitor compliance, separate from the CEO. Key management personnel must be disclosed in the PPM.
Appointment of Custodian: A custodian must be appointed before the first investment. Existing AIFs meeting criteria must appoint a custodian by a specified date.
Code of Conduct: Managers must operate in the interest of unitholders, follow the placement memorandum, and maintain scheme-wise segregation of accounts. They must not make exaggerated statements.
Stewardship Code: All AIFs must follow the Stewardship Code for investments in listed equities. Other obligations include compliance with SEBI guidelines on KYC, Anti-Money Laundering, and Outsourcing.

Constitution of investment committee

Investment Committee: Managers can form an Investment Committee to approve AIF decisions, with a waiver option for committee members' responsibilities. Changes in ex-officio external members of the committee may not require investor consent.
Regulatory Compliance: Applications for AIF registration and new schemes involving Investment Committees with non-resident Indian external members are pending clarification regarding foreign exchange management rules.

Reporting by AIFs

Reporting of Investment Activities: AIFs must submit quarterly reports on their activities to SEBI within 15 days from the end of each quarter, using a format provided by industry associations. Compliance Test Reports are required at the end of each financial year.
Compliance Test Report (CTR): Managers must prepare and submit a CTR on compliance with AIF Regulations and circulars within 30 days from the end of the financial year. Trustees or sponsors must review and provide feedback within 30 days of receipt.

Performance Benchmarking of AIFs

Mandatory benchmarking of AIF performance introduced to compare with other investments. Associations of AIFs can appoint Benchmarking Agencies for performance analysis, with agreements covering data reporting and confidentiality.

Investor Charter and Handling of Complaints by AIFs

Investor Charter and Complaint Disclosure: AIFs must provide an Investor Charter to investors, detailing services, grievance mechanisms, and investor responsibilities, and disclose complaints and their redressal status in the PPM.

Levy of Stamp Duty on the Issuance, Transfer, and Sale of AIF Unit

AIFs must comply with Indian Stamp Act provisions on stamp duty collection for unit issue, transfer, and sale effective from July 01, 2020. Stamp duty on transactions via recognized Stock Exchange or Depository is collected by them.

Change in Sponsor and/or Manager or Change in Control of Sponsor and/or Manager of an AIF

Fee for Change: AIFs need SEBI approval and must pay a fee equal to the registration fee for the respective category/sub-category for changes in sponsor or manager, with exceptions for specific scenarios.
Change in Control: Streamlined process for SEBI approval before NCLT filing for changes in control of sponsor/manager involving a scheme of arrangement under the Companies Act, 2013, with a three-month validity for SEBI's in-principle approval.

Issuance and Crediting of AIF Units in Dematerialized Form

Dematerialization: AIFs must issue units in dematerialized form, with specific timelines for schemes based on corpus size and issuance only in demat form from November 1, 2023, onwards.
Credit Process: AIFs must credit units to investors' demat accounts, and for investors without demat account details, units are credited to an "Aggregate Escrow Demat Account" until details are provided.
Completion Timeline: Units issued after October 31, 2023, must be in demat form, and for investors not providing demat details by April 30, 2024, units must be credited to the Aggregate Escrow Demat Account by May 10, 2024.
Redemption and Reporting: Units in the Aggregate Escrow Demat Account can be redeemed with proceeds distributed to investors' bank accounts, with stringent reporting and KYC maintenance requirements.

Maintaining AIF Investments in Dematerialized Form

AIFs must hold investments in dematerialized form from October 1, 2024, onwards, with exemptions for investments made prior to this date, subject to certain conditions, and specific timelines for compliance.

Uniform Valuation Method for Alternative Investment Funds' (AIFs) Investment Portfolios

AIFs must value their investments as per SEBI norms, with disclosure of valuation methodology in the PPM; managers are responsible for ensuring fair valuation and reporting any deviations; independent valuers must meet SEBI's criteria and be appointed to value AIF investments, with reporting requirements to performance benchmarking agencies.

Procedures for Initiating a Liquidation Scheme and Distributing Alternative Investment Funds' (AIFs) Investments In-Kind

AIFs can launch a Liquidation Scheme with 75% investor consent, selling unliquidated investments to it or distributing them in-specie; dissenting investors can exit with bid value, while others get pro-rata exit; in-specie distribution must be bid for at 25% minimum, with unsold portions providing pro-rata exit; failure to obtain consent leads to mandatory in-specie distribution at One Rupee value. Managers are responsible for compliance and must report to SEBI.

Guidelines Regarding Exempting or Excluding an Investor from an AIF Investment

AIFs can excuse or exclude investors from investments if it violates laws, regulations, or internal policies; managers must record rationale and any supporting documents.

Direct Scheme for Alternative Investment Funds (AIFs) and Commission Distribution Model in AIFs

AIFs can offer a 'Direct Plan' without distribution fees, and must disclose any distribution fees to investors; Category III AIFs can only charge equal trail fees, while Category I and II AIFs can pay up to one-third upfront with the rest as trail fees.

Conclusion

Investors benefit from Alternative Investment Funds (AIFs) by accessing diverse, specialized opportunities like start-ups and real estate, offering higher returns than traditional avenues. Managed by experts, AIFs provide well-managed portfolios and adapt to market changes, aiding in diversification and risk management. The SEBI Master Circular on AIFs (7th May 2024) establishes a comprehensive framework, clarifying registration, investment norms, and managerial obligations. This aims to enhance investor protection, market integrity, and industry growth, reflecting SEBI's commitment to a conducive AIF regulatory environment for Indian financial markets.

Frequently Asked Questions

What is an AIF?

AIF stands for Alternative Investment Fund. It is a privately pooled investment fund that collects funds from investors, whether Indian or foreign, for investing in accordance with a defined investment policy for the benefit of its investors.

What are the different categories of AIFs?

AIFs are categorized into three categories based on their investment strategies: Category I, Category II, and Category III. Each category has its own investment restrictions and regulations.

Category I AIFs include funds that invest in start-up or early-stage ventures, social ventures, SMEs, infrastructure, or other sectors or areas which the government or regulators consider as socially or economically desirable.

Category II AIFs comprise funds that do not fit into Category I or III, and they do not engage in leverage or borrowing except for meeting daily operational needs.

Category III AIFs include funds that employ diverse or complex trading strategies and may employ leverage including through investment in listed or unlisted derivatives.

Can retail investors invest in AIFs?

AIFs are typically designed for professional, well-informed investors. However, certain AIFs may be open to investment by retail investors subject to certain conditions.

How are AIFs different from mutual funds?

AIFs and mutual funds are both pooled investment vehicles, but they differ in terms of their regulatory framework, investment strategies, and target investors. AIFs are subject to fewer regulatory restrictions compared to mutual funds and are aimed at sophisticated investors.

How are AIFs taxed in India?

The tax treatment of AIFs varies based on their category and the nature of their income. Generally, AIFs are subject to income tax on their profits, and investors in AIFs are taxed based on the nature of income they receive from the AIF.