- What are Alternative Investment Funds (AIFs)?
- Are you eligible to invest in the Alternative Investment Funds?
- Types of Alternative Investment Funds (AIFs)
- Does the Alternative Investment Fund have a Sponsor?
- Flip sides of Alternative Investment Funds (AIFs)
- Tax Implications for AIFs
- Is there a redressal unit to tackle the complaints against AIFs?
- The current state of India focussed Offshore Funds and Exchange Traded Funds (ETFs)
What are Alternative Investment Funds (AIFs)?
Alternative Investment Fund or AIF refers to any private fund established in India, not available through Initial Public Offerings (IPOs) or any other forms of a public issue that are applicable under the Mutual Funds and Collective Investment Schemes that are registered with SEBI.
They deal in funds like real estate, private equity and hedge funds, pooled from both Indian or foreign sophisticated investors, for investing it, in accordance with specific investment policy for the benefit of its investors.
These funds do not comprise of any funds registered under the SEBI (Mutual Funds) Regulations, 1996, SEBI (Collective Investment Schemes) Regulations, 1999 to regulate the fund management activities.
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AIFs have been gaining widespread acceptance in India especially amongst the higher class as very strong investible platforms, though they were registered by the Securities and Exchange Board of India (SEBI) only six years back.
With gaining popularity, the total principal amount raised by AIFs rose to nearly INR 1.1 trillion in Q12019, a growth of nearly 79% than what it was in Q12018.
Are you eligible to invest in the Alternative Investment Funds?
If you are a risk-loving investor who likes to diversify risk amidst the asset portfolio and is eligible to invest, you can invest in the Alternative Investment Funds.
Usually, the resident Indians, Indians who have settled abroad (NRIs) and foreigners are eligible to make investments in Alternative Investment Funds.
For general investors, the permissible limit is INR 1 crore. Whereas for angel investors, the minimum investment is INR 25 lakhs.
Likewise, the minimum amount for investment is INR 25 lakhs for the senior management like the directors, fund managers and all the people working for the AIF.
Any investor willing to invest in these unlisted and illiquid securities should be prepared to undertake the underlying risk.
As per SEBI guidelines, any AIF will have not more than 1000 investors.
Whereas, in case of an angel fund, no scheme should have more than forty-nine angel investors.
An AIF cannot openly invite the public to subscribe its units, rather can only raise funds from the esteemed investors through a private placement.
Launch of schemes by AIF is supported by the filling of placement memorandum with SEBI. It is a norm to pay a scheme fee of INR 1 lakh to SEBI, while filing the placement memorandum, prior to at least 30 days of the due date of the launch of the scheme.
However, this payment is exempted for the angel fund investors and the first time schemes launched by the AIF.
Once the payment is made, SEBI evaluates the application and intimates the investor within twenty-one days about the status of the application and its success rate.
Once it is informed to the investor that its registration is successful from SEBI, an amount of INR 5 lakhs have to be submitted as the registration fees for being classified as an Alternative Investment Fund in India.
Once SEBI certifies that the AIF has been registered, the AIF contacts the stock exchanges for a listing of the funds by submitting an investment management agreement, draft information or a placement memorandum, a custodian agreement, a trust deed, memorandum & articles of association of the issuer and an undertaking from the CEO/ compliance officer that AIF is in accordance with Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012.
You need to submit your income proof, ID proof and the PAN card to invest in an AIF.
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Types of Alternative Investment Funds (AIFs)
SEBI classifies the private investment funds into three distinct categories – the first, second and third category funds, with the minimum investable amount being INR 20 crores. However, the angel fund, a subcategory of AIF-I, has a lesser fund corpus of INR 10 crores.
Let us discuss each of these fund types to get a better understanding of the categories:
- Category I –This category consists of Venture Capital Funds, Infrastructure Funds, Startup or Early-stage funds, beneficial and lucrative to the Indian market thereby enhancing growth.These funds are entitled to receive incentive benefits or concessions from the SEBI and the Indian Government.These funds generally make investments in social set-ups like NGOs, new ventures, Small and Medium Enterprises, infrastructure and other sectors which are considered crucial for the country from an economic or social viewpoint.So if you are looking to invest in any of these ventures, Category I funds are the best option.
- Category II –This category has private equity funds, real estate funds and funds for distressed assets, which are essentially the real estate PE funds.They usually reduce the exposure to risk by giving diversified fund portfolios managed by seasoned fund managers.Hence, it is a very lucrative investment option for you as it provides the double benefit of a conservative investment option and a hedging mechanism by means of an alternative investment option.They do not undertake leverage or borrowings except to meet their daily operational requirements as specified by the SEBI Regulations, 2012.
- Category III – This category of AIFs are a very different group of privately held funds like PIPE funds and hedge funds.These funds deploy a pool of complicated trading strategies like margin trading, arbitrage, trading in futures and derivatives etc. to reap profits.This category of AIF has the flexibility to make investments in derivatives, both listed and unlisted, as stated by SEBI (Alternative Investment Funds –AIF) Regulation Act, 2012.If you are planning to invest in hedge funds, this category of Alternative Investment Funds (AIFs) is certainly a good option.
Read our complete guide on How to Define your AIF Investment Strategy.
Does the Alternative Investment Fund have a Sponsor?
The investment funds are organised in the form of an LLP, a corporate body, trust or company.
There are a few exemptions from registration that are provided under the AIF Regulations to family trusts set up, for the benefit of ‘relatives‘ as defined under Companies Act, 1956.
Few employee welfare trusts or gratuity trusts are set up for the benefit of employees, ‘holding companies‘ within the meaning of Section 4 of the Companies Act, 1956 etc.
While you invest in the AIF, it’s pertinent for you to know who is a sponsor for that designated AIF.
A sponsor is someone who has established the AIF and for a company, it is the promoter.
A designated partner is a sponsor for the Limited Liability Partnership.
Every sponsor should be aligned to the need of the investors and have to abide by the few regulations that have been formulated.
The constant involvement of the sponsor has to be retained in this fund, which cannot be the fee waiver.
The sponsor will not fund any amount lesser than 2.5% of the whole corpus of INR 5 crores, whichever is lower for the fund categories I and II.
The contribution for category III will be 5% of the total or INR 10 crores, whichever is lesser.
The sponsorship amount for the angel investors should not be lesser than 2.5% of the fund or INR 50 lakhs, the one which is lower.
Flip sides of Alternative Investment Funds (AIFs)
Alternative investment funds (AIFs) are becoming a household name as they get into the funds of high net worth individuals (HNIs).
There are many pros and cons of making an investment in an alternative investment fund in India, that you should be aware of.
These non- traditional investments include assets which yield higher profits when compared to bonds, mutual funds and stocks.
Alternative investments are not in sync with the investments in the financial market, rather they diversify the portfolio to mitigate volatility.
Any market-related stock is volatile and its rate of returns are expected to be higher than that of traditional investments by the means of inflation, hedging and portfolio diversification.
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On the flip side, these investments are quite complicated and incur heavier fees than the traditional investment options.
You will find that most of the AIFs are invested in not-so-fluid investments, which makes them exit the fund regularly.
As we all know, if there are higher returns, risks will also be higher.
Tax Implications for AIFs
Alternative Investment Funds are privately held investment vehicles that have been pooled together with investments from high net worth individuals (HNIs). There are few taxation norms that each and every AIF has to abide by.
Usually, it is found that the funds in Category I and Category II are considered to be pass-through vehicles, which implies that they don’t have to pay any tax on their earnings.
But if you are an investor, you have to pay the tax according to the designated tax slabs.
The investors are entitled to pay 15% or 10% depending on the investment period if the fund has any capital gains on stocks.
Funds in category III AIFs are also taxable as per the highest tax slab level of income (42.7%), and the returns are passed on to the investors, but after deducting the relevant taxes.
Current Market Statistics
Data estimated with the SEBI states that alternative investment fund (AIFs) investments increased to INR 1.4 lakh crores in Q42019, registering an increase of 53% from a figure of INR 92,825 crores in Q42018.
AIF investments in Q32019 was recorded at INR 1.25 lakh crores.
Out of the three categories of Alternative Investment Funds, the category I AIFs pumped in INR 13,904 crore, category II Rs 92,433 crore and category III Rs 35,777 crore during Q42019.
Above source: Economic Times
The Category-I AIFs include the infrastructure, social venture and venture capital funds, which get grants and incentives from the government and other regulatory bodies.
The government has been contributing in different phases and INR 25,000 crore fund was set up to complete almost 1600 housing projects in November 2019.
The current AIF is said to comprise of INR 10,000 crore straight from the government, while the remaining will be funded by the state insurer LIC and the country’s largest public sector bank, the SBI.
The Category-II AIFs which include the private equity and debt funds or fund of funds can be invested in any combination, but are not allowed to raise debts unless and until they have to meet their operational requirements.
‘Fund of funds’ is essentially an investment strategy to make a complete portfolio of other funds for investment rather than doing the investment only in bonds, stocks or other securities.
The category-III AIFs, consisting of hedge funds, are those funds which are involved in trading activities to reap short-term returns.
Want to know how to invest in AIF? Read our blog on How to Invest in an Alternative Investment Fund (AIF) in India
Is there a redressal unit to tackle the complaints against AIFs?
SEBI uses a web-based centralized grievance redressal system known as SEBI Complaint Redressal System (SCORES), a portal wherein the investors have been lodging their complaints against the AIFs.
SEBI released few guidelines for compulsory performance benchmarking of AIFs for the welfare of the entire industry.
It will enable the investors to analyse the additional value that this AIF will yield as compared to the traditional investment options.
Lack of a proper benchmark does not give a clear indication of the market statistics and the way forward for the fund to perform.
Also in accordance to the AIF Regulations, for dispute resolution, the investment fund either by itself or through the sponsor or manager, is entitled to specify the procedure for resolving the disputes between the investors, AIF, Manager or Sponsor through arbitration or a preferred means, as decided by the AIF and the investors.
Detailed research on the above parameters for the Alternative Investment Fund is essential for you to invest in it.
In the current market scenario, as Alternative Investment Funds gain better acceptance amongst investors, diversification of risk is the only solution to reap higher returns.
Hence, investment in Alternative Investment Funds (AIFs) is undoubtedly the best option.
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