India’s Security markets regulator SEBI (Securities Exchange Board of India) has approved the SEBI (Alternative Investment Funds) Regulations, 2012 to bring unregulated funds under its purview, ensure systemic stability, increase market efficiency and enable the formation of new capital. These regulations will be applicable to all pooled investment vehicles apart from Mutual Funds, CIS Schemes, Family Trusts, ESOP Trusts, Employee Welfare Trusts, holding companies, funds managed by Asset Reconstruction Companies, Securitisation Trust or funds directly regulated by any other regulator in India.
Some of the regulations approved by the board include:
– Registration: All Alternative Investment Funds (AIFs), whether operating as Private Equity Funds, Real Estate Funds or Hedge Funds should be registered with SEBI.
– Withdrawal of old VC Fund Regulations: The SEBI (Venture Capital Funds) Regulations of 1996 will be officially withdrawn, however existing venture capital funds will continue to be regulated by the regulations until the fund winds down its operations and they will not be allowed to raise any fresh funds, except for the previous investor commitments. That being said, Venture Capital funds can also opt to re-register themselves under the new AIF regulations, provided they receive the approval to do so from 66.67% of their investors and can seek exemption from the board from strictly adhering to these regulations, in case they are not able to comply with all the new regulations.
– Unregistered funds will not be allowed to launch new schemes without registering with SEBI under the new AIF regulations. The existing schemes which were launched by funds prior to the AIF regulation announcement, will however continue to be governed till it matures by contractual terms, with no room for a rollover or an extension.
– Corpus: AIFs should have a minimum corpus of Rs 20 crore and they shall not accept any investment less than Rs 1 crore from an investor. The fund should not have more than 1000 investors and the fund manager should have continuing interest of minimum 2.5% of the initial corpus or Rs 5 crore, whichever is lower. The fund manager is not allowed to continue the interest through the waiver of management fees.
– Filings: Funds can launch schemes, following the filing of information memorandum with the Board along with applicable fees, and fund units can be listed on the stock exchange subject to a minimum tradable lot of Rs one crore, however they are forbidden to raise funds through the exchange.
– Limits To Investment: AIFs are not allowed to invest more than 25% of the funds in one Company and are forbidden to invest in associate companies. They should also provide investors with financial information of portfolio companies as also material risks and how these are managed on an annual basis.
– All AIFs will have a Qualified Institutional Buyer (QIB) status as per SEBI’s (Issue of Capital and Disclosure Requirements) Regulations of 2009.
– SEBI will work with the Government of India to extend the tax pass-through status to these AIFs. Currently, the tax pass-through status is only enjoyed by investors who invest in select sectors such as bio-technology, nano-technology, hardware and software development and many more. The regulator also has the right to inspect or investigate any AIFs and take necessary action.
What Funds Are Under This New Regulation?
SEBI stated that the new regulations will broadly cover all types of funds under three categories. All AIFs can apply for registration under one of the categories below:
– Category I AIFs: These funds will be close ended, adhere to the investment restrictions as instructed for each category and shall not engage in leverage i.e. any activity to multiply gains and losses like borrowing money, buying fixed assets and using derivatives. SEBI stated that they or Government of India or other Indian regulators may consider certain incentives or concessions for these funds, depending upon the specific need of each type of funds. Among the funds included in this category are Venture Capital Funds, SME Funds, Social Venture Funds and Infrastructure Funds and the minimum tenure of these funds should be 3 years.
– Category II AIFs: These funds shall be close ended with no investment restrictions. However these funds are not allowed to engage in leverage other than meeting day-to-day operational requirements, as per the regulations and they will not attract any specific incentives or concessions from SEBI, Government of India or any other regulator. Among the funds included in this category include Private Equity Funds, Debt Funds, Fund of Funds and unclassified funds that don’t fall under either category I or category III and have a minimum tenure of 3 years.
– Category III AIFs: These funds can be open ended or closed ended and are allowed to engage in leverage within the prescribed board limits. Among the funds included are Hedge Funds which, according to SEBI, have negative externalities i.e. these funds make decisions which may impose a negative effect on other funds, thereby leading to inefficiencies in the market. These funds will be regulated through Board’s directions in areas such as operational standards, conduct of business rules, prudential requirements, restrictions on redemption, and conflict of interest.