AIF Registration with SEBI

AIF Registration with SEBI

 ALTERNATIVE INVESTMENT FUNDS (AIF) IN INDIA

1. Introduction to AIFs

An Alternative Investment Fund (AIF), as defined by the SEBI (Alternative Investment Funds) Regulations, 2012, is a privately pooled investment vehicle that collects funds from Indian or foreign investors for defined investment objectives or policies. AIFs differ from conventional financial instruments such as mutual funds, primarily due to their targeted investment strategies, investor base, and regulatory norms.

Key Points

  • Legal Structures: AIFs may be set up as trusts, limited liability partnerships (LLPs), companies, or corporate bodies.

  • Typical Investors: High Net Worth Individuals (HNIs), institutional investors, family offices, sovereign wealth funds, and other sophisticated entities.

  • Regulatory Oversight: Governed by the Securities and Exchange Board of India (SEBI).

  • Primary Purpose: To channel investments into specialized areas (e.g., startups, private equity, hedge strategies).

2. Legal Structure for AIF Registration in India

Choosing the appropriate legal structure is critical for ensuring operational efficiency, tax benefits, and compliance ease. SEBI allows AIFs to be constituted under these structures:

  1. Trust

    • Most prevalent structure, offering flexibility and familiar legal precedents.

    • Governed by the Indian Trusts Act (if public trust) or relevant state trust laws.

  2. Limited Liability Partnership (LLP)

    • Hybrid structure providing the flexibility of a partnership with limited liability.

    • Suitable for funds seeking agile decision-making while limiting partner liabilities.

  3. Company

    • Formed under the Companies Act, 2013.

    • Typically chosen for large-scale or institutionalized funding models.

  4. Body Corporate

    • Generic term for any corporate entity formed under specific statutes.

    • Often used by foreign investors setting up an Indian investment vehicle.

Factors Influencing the Choice:

  • Taxation preferences (pass-through vs. corporate taxation).

  • Number and nature of investors (domestic or foreign).

  • Governance requirements and fund manager preferences.

3. Categories of AIFs

3.1 Category I AIF

  • Investment Focus:

    • Startups, early-stage ventures, small and medium enterprises (SMEs), social ventures, and infrastructure projects.

  • Sub-Categories:

    • Venture Capital Funds (VCFs): Invest in high-potential startups.

    • SME Funds: Focus on SMEs requiring growth capital.

    • Social Venture Funds: Support social-impact projects (e.g., education, healthcare).

    • Infrastructure Funds: Invest in highways, power, telecom, etc.

  • Policy Incentives:

    • Often granted tax exemptions or other regulatory concessions to encourage funding in priority areas.

3.2 Category II AIF

  • Investment Focus:

    • Private equity, debt funds, and funds not otherwise classified as Category I or III.

    • Typically, do not undertake substantial leverage except for day-to-day operational needs.

  • Dominant Share:

    • Constitutes the largest portion (55–60%) of total AUM among all AIF categories.

3.3 Category III AIF

  • Investment Focus:

    • Hedge funds, PIPE (Private Investment in Public Equity) funds, or any fund employing complex/leveraged trading strategies.

  • Leverage:

    • Permitted within SEBI-prescribed limits and often involves derivatives, short-selling, etc.

  • Risk & Return Profile:

    • High-risk, potentially high-return; tailored for sophisticated investors with greater risk tolerance.

4. Types of Alternative Investment Funds in India

In practice, AIFs can be further distinguished into various specialized fund types, including:

  1. Venture Capital Funds (VCFs)

  2. Private Equity Funds (PEFs)

  3. Hedge Funds

  4. Infrastructure Funds

  5. Debt Funds

  6. Social Impact Funds

(These often overlap with the SEBI classification but offer a more granular view of AIF sub-types.)

5. FDI in AIF

Foreign Direct Investment (FDI) in AIFs is allowed under the automatic route, subject to sectoral caps and adherence to FEMA (Foreign Exchange Management Act) guidelines. Key considerations:

  1. FDI Compliance:

    • Foreign investors must comply with sectoral restrictions (if investing in restricted sectors like defense, telecom, etc.).

    • Reporting of FDI inflows to the Reserve Bank of India (RBI) within specified timelines.

  2. KYC/AML Requirements:

    • Enhanced due diligence for foreign investors to mitigate anti-money-laundering (AML) risks.

  3. Repatriation & Remittance:

    • Dividend, interest, and capital gains can be repatriated subject to tax compliance and RBI regulations.

6. Taxation Rate of AIF in India

The taxation of an AIF depends on its category and the nature of income:

  • Category I & II:

    • Generally treated as pass-through vehicles; income is taxed in the hands of the investors.

    • Income could be in the form of capital gains, interest, or dividends, each taxed as per the investor’s applicable tax slab or capital gains rules.

  • Category III:

    • Taxed at the fund level (not pass-through).

    • Short-term capital gains, long-term capital gains, and other income are taxable as per applicable rates for the fund.

Typical Tax Rates

  • Long-Term Capital Gains (equity-oriented): 10% (above INR 1 lakh), subject to relevant conditions.

  • Short-Term Capital Gains (on listed equity): 15%.

  • Other Incomes: At marginal tax rates or as per specific sections of the Income Tax Act.

Note: Additional taxes (like Securities Transaction Tax, GST on management fees, etc.) also apply.

7. Eligibility Criteria for AIF Registration

To register as an AIF, the applicant must satisfy the following criteria:

  1. Legal Constitution: Must be a trust, LLP, company, or a body corporate.

  2. Minimum Corpus:

    • INR 20 crores for AIF categories.

    • INR 10 crores specifically for Angel Funds.

  3. Minimum Investment:

    • INR 1 crore per investor (except for employees/directors, where the minimum is INR 25 lakhs).

  4. “Fit and Proper” Criteria: SEBI assesses the track record, reputation, and overall suitability of the sponsor/manager.

8. Steps for Registering an Alternative Investment Fund (AIF)

  1. Formation of the Entity

    • Create the AIF as a trust (with a trust deed), LLP, company, or body corporate.

    • The constitutional documents should clearly state the investment objectives and governance framework.

  2. Application to SEBI (Form A)

    • Submit Form A along with essential documents such as the trust deed, partnership deed (for LLP), or memorandum and articles of association (for a company).

    • Provide details about the sponsor, investment manager, proposed fund strategy, and targeted investor base.

  3. Processing by SEBI

    • SEBI examines the application and may request additional clarifications.

    • The applicant must promptly address any queries or compliance issues raised.

  4. Payment for Final Fee for Grant of Registration

    • After the application is approved, the applicant must pay the registration fee as stipulated by SEBI’s fee schedule.

  5. Issuance of Certificate

    • On successful completion, SEBI grants the Certificate of Registration, allowing the AIF to commence operations.

9. Validity of Certificate

  • The Certificate of Registration remains valid throughout the tenure of the AIF.

  • For open-ended Category III AIFs, continuous compliance with SEBI norms is mandatory to retain validity.

10. AIF Registration Process – Key Requirements and Conditions

  • Placement Memorandum: A detailed document outlining the fund’s investment objectives, fee structures, risk factors, and governance.

  • Sponsor/Manager Commitment: SEBI often requires the sponsor/manager to have a certain ‘skin in the game’ (e.g., 2.5% of fund corpus or INR 5 crores, whichever is lower, for Category II AIF).

  • Governance: Appointment of a fund manager, investment committee, and adherence to the SEBI code of conduct.

11. Tenure of AIFs

  • Category I & II:

    • Typically closed-ended with a minimum tenure of 3 years (extendable with investor approval).

    • Redemptions are generally allowed only at the end of the fund’s tenure.

  • Category III:

    • Can be either open-ended (allowing periodic redemptions) or closed-ended.

    • Leverage rules apply continuously.

12. Investment Conditions for Alternative Investment Funds (AIFs)

  • Concentration Limit:

    • An AIF cannot invest more than 25% of its corpus in a single investee company (for Category I & II).

  • No Direct Lending:

    • Category I & II generally cannot lend directly but can invest in debt securities.

  • Borrowing/Leverage:

    • Category III can borrow with disclosure; Category I & II are restricted except for short-term funding needs.

13. AIF Registration – Angel Fund Investment Conditions

Angel funds are a sub-category of Venture Capital Funds under Category I. Specific conditions:

  1. Minimum Investment: INR 25 lakhs per angel investor.

  2. Startup Definition: The investee must be a startup (as recognized by the government) not more than 3 years old.

  3. Corpus Requirement: At least INR 10 crores for an angel fund.

  4. Investment Limit: An angel fund can invest a maximum of INR 10 crores in any single venture.

14. Which Entities do not Fall under AIF?

SEBI explicitly excludes certain entities from the AIF definition:

  • Mutual Funds (regulated by SEBI’s Mutual Fund Regulations).

  • Collective Investment Schemes (CIS).

  • Family Trusts (where beneficiaries are connected relatives).

  • Employee Welfare Trusts or Gratuity funds.

  • Holding Companies (primarily for corporate group investments).

15. Compliance & Regulatory Requirements for AIF

  1. Reporting to SEBI:

    • Quarterly and annual compliance reports, especially for Category III leveraged positions.

  2. Valuation Norms:

    • An independent valuer must be appointed to periodically assess illiquid assets, ensuring consistent Net Asset Value (NAV) calculations.

  3. Disclosure & Governance:

    • Fee structures, conflict of interest policies, and any related-party transactions must be disclosed to investors.

16. Annual Audit

All AIFs must undergo a comprehensive annual audit, typically covering:

  • Financial Statements: Balance sheet, P&L, cash flow.

  • Compliance: Adherence to SEBI regulations, investment concentration limits, and governance.

  • Valuation: Methodologies used for illiquid or privately held securities.

  • Investor Reporting: Distribution of audited statements to investors and submission to SEBI (if required).

17. Regulatory Landscape & Recent Amendments (2019–2023)

SEBI has introduced multiple revisions to strengthen AIF regulations:

Year

Key Regulatory Updates

Impact

2019

Enhanced disclosure norms on valuations, conflicts of interest, related-party deals.

Push for startup funding.

Increased transparency for investors; boosted Category I (VCF) activities.

2020

Relaxed concentration limits for MSME financing.

Updated “fit and proper” criteria for managers.

Encouraged AIF lending in underserved sectors; higher governance standards for fund managers.

2021

Mandated quarterly leverage disclosures for Category III.

Clarified fee and carry structures.

Bolstered investor protection, ensuring better clarity on cost and risk.

2022

Introduction of custodian requirements for Category III.

Standardized valuation norms for Category I & II.

Reduced operational risk; consistent NAV calculations, especially for illiquid assets.

2023

Co-investment guidelines ensure equitable allocation.

Growing emphasis on ESG factors in investment strategy.

Fairer investment opportunities; alignment with global sustainability trends.

 

18. Five-Year Industry Growth (2019–2023)

18.1 Number of Registered AIFs

Year

Total Registered AIFs

YoY Growth (%)

Commentary

2019

615

—

Base year; robust venture capital interest.

2020

684

11.2%

Rise in PE/debt fund registrations.

2021

785

14.8%

Pandemic resilience; digital sector focus.

2022

900

14.6%

Post-COVID economic recovery, increased compliance.

2023

1,050

16.7%

Heightened interest from HNIs and offshore investors.

Overall Growth: CAGR of around 14–15% during 2019–2023.

18.2 Assets Under Management (AUM) – Combined

Year

Estimated Total AUM (INR trillion)

YoY Growth (%)

Key Drivers

2019

2.87

—

Strong PE & VC activity.

2020

3.40

18.4%

Distressed asset opportunities; surge in debt funds.

2021

4.30

26.5%

Tech boom; post-pandemic rebound in private markets.

2022

5.28

22.8%

Infrastructure & real estate funds gained momentum.

2023

6.68

26.5%

Continued expansion in private equity & hedge fund space.

Key Insight:

  • Category II AIFs comprise 55–60% of the total AUM, making them the most substantial contributor to overall industry size.

19. Category-Wise Market Share (2023 Data)

  • Category I: ~15–20%

  • Category II: ~55–60%

  • Category III: ~20–25%

20. Key Statistics & Facts

  1. Total Capital Commitments

    • Surpassed INR 7 trillion by mid-2023.

    • Drawdown rates of 70–75%, indicating active capital deployment.

  2. Foreign vs. Domestic Investors

    • 35–40% of AIF investments come from foreign investors (pension funds, sovereign wealth funds, etc.).

    • 60–65% from domestic HNIs, corporate treasuries, and family offices.

  3. Startup & SME Funding (Category I)

    • Approx. INR 200–250 billion allocated to startups and SMEs in 2022–2023.

    • 18–20% annual growth spurred by “Startup India” initiatives.

  4. Private Equity Emphasis (Category II)

    • Typical ticket sizes range from INR 5 crores to INR 100+ crores.

    • Focus on real estate, infrastructure, consumer tech, and growth-stage ventures.

  5. Category III (Hedge Fund Strategies)

    • Estimated AUM of INR 1.5–2 trillion by end-2023.

    • Popular strategies include long-short equity, event-driven, and relative value.

21. Major Amendments & Their Impact

  1. Valuation Norms

    • Mandate: Uniform methodology for illiquid/unlisted securities.

    • Impact: Transparent NAV reporting, enhancing investor trust.

  2. Leverage Restrictions (Category III)

    • Mandate: Stricter disclosures on borrowed capital usage.

    • Impact: Reduced systemic risk, more robust risk management.

  3. Enhanced Compliance & Reporting

    • Mandate: Quarterly operational and performance reports to SEBI.

    • Impact: Strengthened oversight, better investor information.

  4. Custodian Requirement

    • Mandate: Mandatory for Category III AIFs to appoint SEBI-registered custodians.

    • Impact: Improved safekeeping of securities, minimizing fraud risk.

  5. Co-Investment Guidelines

    • Mandate: Fair treatment of co-investors vis-à-vis main fund investors.

    • Impact: Equitable allocation and consistent returns among investors.

22. Growth Drivers & Future Outlook

  1. Digital Transformation & FinTech

    • Emergence of online platforms enabling fractional or co-investment in AIF-like structures.

    • Potential for broader retail participation, subject to regulatory frameworks.

  2. ESG & Impact Investment

    • Global shift towards sustainable and socially conscious investing.

    • Category I AIFs, in particular, see increased traction for ESG projects.

  3. Increasing Global Participation

    • Foreign investors expected to raise their share to 40–45% by 2025.

    • India’s macroeconomic stability attracts pension funds, sovereign wealth funds, and endowments.

  4. Projected AUM Expansion

    • Market experts anticipate total AIF AUM could exceed INR 10 trillion by 2025–26.

    • Driven by robust economic growth, supportive policies, and rising investor confidence.

 Our Services (ASC Group)

1 AIF Registration & Structuring

  • Formation Assistance: Trust deeds, LLP incorporation, or company setup.

  • Regulatory Advisory: Aligning fund documents and strategies with SEBI requirements.

2 Compliance & Reporting

  • Quarterly & Annual Filings: Liaising with SEBI for routine disclosures.

  • Audit Coordination: Ensuring timely financial audits and valuations.

3 Regulatory Advisory

  • Policy Updates: Monitoring SEBI circulars, notifications, and industry best practices.

  • Risk Management: Guiding on leverage, conflict-of-interest policies, and co-investment structures.

4 Audit & Tax Support

  • Tax Structuring: Capital gains optimization, GST on management fees, pass-through considerations.

  • Double Taxation Avoidance: Advising on DTAA benefits for foreign investors.

Contact ASC Group for end-to-end support in setting up and managing Alternative Investment Funds (AIFs) in India—ensuring full compliance, optimal structuring, and seamless operations throughout the fund’s lifecycle.

The Alternative Investment Fund (AIF) ecosystem in India is rapidly evolving. With SEBI’s regulatory framework offering greater transparency and investor protection, and the Indian economy’s robust growth trajectory, AIFs have become a mainstream avenue for sophisticated investments—from startup funding and private equity to hedge strategies. By choosing the right legal structure, adhering to taxation norms, and fulfilling compliance meticulously, fund sponsors can leverage AIFs to unlock diverse investment opportunities in India’s dynamic capital markets.

Hi, How Can We Help You?
    Chat with us
    Call Now Chat with us