Alternative Investment Funds, or AIFs as they are popularly called, are preferred by HNI investors looking to invest their money in unconventional avenues, suitable to their investment strategies.
The minimum investment required to opt for the AIF scheme is Rs.1 crore which makes the scheme exclusive for sophisticated investors having alternative investment strategies.
AIFs are considered alternatives to stocks and mutual funds and, given the nature that these investments work, a defined investment strategy is necessary before investing in them.
Given the large ticket size, any ambiguity in your investment strategy means considerably compromised returns. You wouldn’t want that, would you?
So, let’s have a quick look at the concept of AIFs and how you can define your investment strategy when investing in an AIF scheme.
What are AIFs?
Regulated under Regulation 2 (1) (b) of the Regulation Act, 2012 of SEBI (Securities Exchange Board of India), AIF is a specialized investment fund.
The fund pools money from different investors and then invests the pool in different investment avenues based on the investment strategy of the AIF.
Moreover, there are three different categories of AIF funds. Knowledge of these categories is important as you can choose the category that you want to invest in and every category has a different investment strategy. So, let’s have a look at the categories of AIF in details –
Category I AIF
Category AIF invests primarily in start-ups, businesses that are in their nascent stages, infrastructure, social ventures or SMEs. Category I AIFs are close-ended in nature with specific minimum maturity tenure.
So, if you invest in this category, your investments would be tied-up over the lock-in period.
Category II AIF
Category II AIF is one that does not belong to Category I or Category II. These funds include debt funds, private equity (PE) funds, funds of funds, funds for distressed assets, real estate funds, etc.
These funds are also close-ended in nature with a specific maturity date thereby tying in your investments for a specific period.
Category III AIF
Category III AIFs invest in unlisted or listed derivatives. Common examples of Category III AIFs include PIPE (Private Investment in Public Equity) funds and hedge funds.
These AIFs can be offered either as close-ended schemes or open-ended schemes. So, if you invest in open-ended funds, you can get easy liquidity if you want to redeem your investments at your discretion.
On the other hand, if you choose the close-ended schemes available under this category, your investments would be tied-up for a specific lock-in period.
Furthermore, AIFs have some salient features that help you in defining and customising your investment strategy.
AIFs are customisable as per the needs of their investors. The structure of an AIF can be designed keeping in mind the investment needs of its investors.
Since AIFs have a limited number of investors (maximum 1000), the investment strategy of the AIF can either lean towards a specific sector or theme or it can be diversified across different asset classes.
The flexibility of funding
AIFs is open to investors of all nationalities. Thus, Indians, NRIs and even foreign nationals can invest in an AIF scheme provided they bring in the minimum investment amount to invest in the chosen fund.
This flexibility in funding attracts HNIs from all walks of life making AIFs a specialized investment tool.
Large corpus for investment
As mentioned earlier, AIFs have a minimum ticket size of Rs.1 crore. Thus, investors contribute substantial amounts towards AIF schemes creating a large corpus.
The returns earned from such large investments are also considerable and the large accumulated corpus becomes more effective in achieving the investment objective of the scheme.
Now that you know what AIFs are, the different types of categories that they fall into and their salient features, defining your AIF strategies would be easier. So, let’s get to the task of how to define your AIF investment strategy effectively so that you can make the most of your investments.
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How to define AIF strategies?
Tod define your AIF investment strategy, you should keep in mind certain important aspects of the scheme.
These aspects are as follows –
Alternative Investment Funds (AIF) are definitely exclusive and not for every investor
Exclusivity is the driving factor behind investors picking AIF schemes. With a high ceiling on the minimum investment, AIFs are not accessible by investors with limited capital.
AIFs also allow exposure to investment avenues that common investors cannot avail of. For example, pre-IPO private equity of businesses, hedge funds, venture capital, SME investments, etc. can be sourced only through AIFs.
So, if you are looking to invest in different avenues, separate from the commonly available mutual funds, stocks, gold or real estate, you can opt for AIFs and get exposure to different types of assets that are not commonly available for investment through traditional investment platforms.
Alternative Investment Funds (AIFs) are high-risk and high-return products
Before you set out to invest in AIFs, remember that AIFs are risky. They invest in different types of assets (as mentioned earlier) that are prone to volatility and other types of risks. Moreover, Category III Funds borrow to invest and are, therefore, highly risky.
If you have a healthy risk appetite and don’t mind exposing your investment to a variety of market risks, you can choose AIFs. The risk that you take would be compensated through the potential of high returns that the scheme has.
But remember, if the underlying assets underperform or hit a rough patch, the losses would be considerable. Patience is the key strategy when investing in AIFs and taking high risks on your investments.
Assessment of Alternative Investment Funds (AIF) schemes is tricky
You can try and assess the performance of an AIF scheme through its past returns. However, if the investment strategy of the scheme has changed, past performances would not be relevant.
Moreover, being exclusive types of funds, AIFs lack peer-to-peer comparison. One AIF fund might be an exclusive fund in its segment making a comparison of its returns difficult.
Though AIF funds are benchmarked as per SEBI’s mandate, you can only compare the performance of the scheme against the benchmark category average. Comparing across peer funds becomes difficult given the mixed investment objectives of AIFs.
Thus, you need to have a strong and keen investment acumen to understand and judge the performance of the AIF scheme and to choose the most suitable scheme for yourself.
Alternative Investment Funds (AIFs) incur high costs
When it comes to the cost structure of the AIF scheme, it is on the higher side. This is because there is no regulation on the maximum charge that AIFs can exact. AIF fund managers are therefore free to charge a fee from investors.
Usually, the fee involves two components, a flat management fee and profit-sharing. The management fee is expressed as a percentage of the AIF investment and remains fixed. Profit-sharing, on the other hand, involves splitting returns with the fund manager.
The idea behind this is since the fund managers have identified and managed the investments to generate returns, a part of the returns should belong to them. In fact, under many AIFs, there is no management fee, only profit sharing.
So, if there is a profit-sharing of 15% and you earn a return of Rs.10 lakhs in the first year, you would have to pay Rs.1.5 lakhs to the fund manager while the remaining Rs.8.5 lakhs would be yours.
Even if the fund generates lower than the previous return, profit sharing would be applicable if you have earned any returns.
For example, in the above example, if there is a return of 10% in the next year, though you have lost 5% in returns compared to the first year, 15% of the returns earned would be paid to the fund manager.
The concept of ‘high water mark’
To avoid double performance fee, there is a concept of ‘high water mark’ under most AIF scheme. Under this concept, profit-sharing would be applicable only if the fund consistently performs well every year.
Let’s understand with an example –
Say, you invest Rs.1 crore and, in the first year, the fund yields a 15% return increasing the corpus to Rs.1.15 crores. In the first year, therefore, you would be sharing the profit with the fund manager.
In the second year, the corpus falls to Rs.1.10 crores. In this case, since the corpus fell, no profit-sharing would be applicable. Now, in the third year, the corpus regains its original growth and grows to Rs.1.15 crores.
Again, there would be no profit-sharing because the profit on the initial growth of 15% was already shared. In future years, if the fund crosses Rs.1.15 crore mark, then profit-sharing would be applicable.
There are lock-in periods in Alternative Investment Funds
Another factor that you need to check is the lock-in period applicable under the scheme. Category I and II funds are close-ended schemes. Their lock-in periods usually go up to 7 years.
Category III funds, however, have both the open-ended and close-ended options, with close-ended funds having lower lock-in periods of 3 years or 3.5 years and above.
So, when investing in AIFs, remember that if you choose Categories I and II, your funds would be tied. If you are looking for liquid investment opportunities or if you have a short-term investment horizon, opt for Category III funds.
Taxation of Alternative Investment Funds (AIFs) need to be considered
AIFs are taxed differently compared to other traditional investment avenues. The tax treatment of your investment would depend on which Category AIF you invested in.
In the case of Category I and II AIFs, the AIF fund itself does not pay any tax on the returns generated. The returns are credited to you and you need to pay income tax on such returns as per your tax slab rates.
Moreover, even if the fund retains a part of the return and reinvests it in the portfolio, your tax liability would be calculated on the gross returns generated and not on the returns that you have received.
For example, if the fund earns a return of Rs.10 lakhs and pays you Rs.8 lakhs while retaining Rs.2 lakhs in the fund itself, your tax liability would be calculated on Rs.10 lakhs. Since you fall in the highest tax slab, you lose a major part of the return in taxation.
If the AIF invests in stocks and you earn a return from such investments, taxation would be computed based on your holding period. Long term capital gains tax would be charged on returns exceeding Rs.1 lakh @10% while short term gains would be taxed @15%.
In the case of Category III AIF, the fund itself pays tax on the returns earned. The returns generated by the AIF are considered to be business income and they are taxed at the highest tax slab rate.
Thus, a tax of 42.7% is deducted from the returns earned. The returns are, then, paid out to investors. Even though you have a lower tax bracket of 30%, the returns attract a higher rate of tax.
You should, therefore, consider these aspects when defining your AIF investment strategies. Only if you understand these aspects of AIF investments, are willing to take risks and share your profits, you should invest in AIF.
AIF is a specialized and sophisticated investment avenue. Your investments should also be specialized, sophisticated, well-thought-of and fool-proof. If you are confused about choosing the right AIF, don’t worry.
Koppr is here to help. Let Koppr’s fund managers help you choose the right AIF as per your investment preferences.
Koppr’s fund managers would understand your investment needs and devise a tailor-made strategy for you with their expertise and knowledge. Don’t take chances with your investments.
The year 2020, gone for good has left us charred in many ways. As a fall-out of the Covid-19 pandemic, the mutual funds and alternative investment funds markets too were adversely affected in most parts of 2020.
Thus leaving investors in further dismay amidst widespread job loss and business shutdowns.
These markets faced serious concerns around the life of the funds centered around –
Extension of the funds
In this article, we have discussed these issues pertaining to alternative investment funds for further knowledge and awareness of investors and promoters alike.
We will concentrate primarily on Category I and Category II Alternative Investments Fund(s) as both these alternative funds (AIFs) are closed-ended funds, registered under Securities and Exchange Board of India (SEBI) Alternative Investments Funds) Regulations, 2012 (commonly referred to as ‘AIF Regulations’) with SEBI.
Before we delve deep, let us take a quick look at the different categories of AIFs and their significant features.
Alternative Investment Fund (AIFs) Categories
The AIFs can be applied and be registered with SEBI under 3 broad categories –
1) AIF Category I:
This set of AIFs has a positive spill-over effect on the financial system. To support the cause, SEBI/ GOI might consider certain incentives/ commissions for this category.
This AIF program includes funds that make advances to sectors that have significant economic and social viability and includes –
Venture Capital funds (including Angel funds)
Social venture capital funds
2) AIF Category II:
This category of funds, as permitted by SEBI, consists of borrowings to meet day-to-day operational expenses. This AIF program is unlike those that comprise of Category I and Category II Alternative Investment Funds.
This category also includes AIF debt funds. Based on the state objectives of the fund, investments are primarily done by listed / unlisted investee corporates in this fund. AIF Debt fund is being looked upon as the next game-changer for investments in debt instruments in India.
3) AIF Category III:
This AIF program comprises of all those funds that are likely to result in negative externalities involving complicated strategies in trading and degenerative systematic risk involved in leveraging and includes –
Private Investment in Public Equity (PIPe) funds
Global Alternate Funds: In recent developments, it has been observed that Indians now have the exposure to investing in Global Alternate Funds if they so desire.
AIFs are operating from International Finance Services Centre (IFSC), Gift City with an effort to herald the AIF industry onshore from countries like Singapore and Mauritius. This is per SEBI’s recent decision rolled out.
Regulations guiding and monitoring AIFs are unique to this investment vehicle and may apply for other funding vehicles.However those regulations applicable to mutual funds, various trusts, and collective investment schemes among others; do not affect AIFs borrowings and/ or management.
AIFs of Category I and II are close-ended funds and have a minimum term of 3 years and that is determined at the time of filing an application itself.Extensions beyond the agreed term may be allowed for 2 more years with approvals of at least two-thirds of investors by value. Category III on the other hand has the option of being open-ended or closed-ended.
SEBI mandates the filing of IM or information memorandum with stipulated fees; for review of various schemes being proposed to be launched under any AIF.
For Category I and Category II AIF programs or all close-ended schemes under AIF may be listed on stock exchange provided the tradable lot comprise of a minimum amount of INR 1 Crore.However, the stock exchange mechanism cannot be opted by any AIF to raise funds.
The permitted upper limit of investible funds in any Investee Company is 25% for any AIF programs/ schemes.
As per SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009, all AIFs are required to have Qualified Institutional Buyer (‘QIB’) status.
To avoid any conflict of interest with respect to transparency and/ disclosures and mechanisms, proper guidelines are available in AIF regulations.
On an annual basis, all Alternate Investment Funds are required to provide the investors with the composite financial details around portfolio companies and material risks involved along with the strategies used to manage them.
As per guidelines, SEBI reserves the right of investigation and/ or inspection of the AIFs and also issue further necessary guidelines as required.
The best ranked AIFs in the market are below (source https://top10stockbroker.com)
Top 10 AIF in India/ Best Ranked AIFs in the market
Abakkus Asset Manager
Emerging Opportunities Fund
Roha Asset Managers
Rhoa Emerging Companies Fund
Girik Multicap Growth Equity Fund
India Value and Growth Fund
India Value and Growth Fund
QG Dynamic Equity Fund (QGD)
Carnelian Asset Management
Capital Compounder Fund
Leaders of Tomorrow (ALOT)
TCG Advisory Services
SMF Disruption Fund
Here are top reasons why top investors are opting for alternative investment funds
Ideally, termination of any AIF is due when the fixed term of the fund as documented in the fund papers, expires.
However, every governing fund document has an ‘early termination’ clause inbuilt in it for the AIF to wound up (on an earlier date compared to the original expiry date) in the face of any serious uncertainty/ exigency detailed in the document.
Early terminations are provisioned for even in AIF regulations.
It is obvious that both the investors and fund managers are aligned and focus all strategies and efforts towards the continuation of the fund till its original expiry date; more so investments in funds with longer tenure are designed to reap returns over a designated time period.
The principal objective being the maximisation of the value of the portfolio by aligning with the time available based on the tenure of the fund. For this asset class, the planned ‘orderly exit’ helps the fund to optimize the risk and return opportunities.
For AIF Category I, there is a distinct difference between liquidation and termination (winding up) of the fund. Liquidation should ideally happen within 12 months of termination of the fund. Understanding the difference becomes important in drawing giveback provisions for investors.
Legal Provisions for Termination (Winding-up) of Alternative Investment Funds
Guidelines around termination of AIFs are available in AIF Regulations under Indian Legal Provisions on Winding-Up of AIFS Regulation 29. Along with this, an AIF termination is also directed by the law incorporating the respective AIF.
For instance, the LLP Act of 2008 states that for a Limited Liability Partnership to be terminated, only if it is manned by less than two partners in it and that too for a term of greater than six months.
Thus in case an AIF is formed as a Limited Liability Partnership Company with fewer than 2 partners and has completed six months of operations, then the AIF in question may be terminated if required.
Moreover, in an AIF formed as a Trust, the trustee is allowed to take a call to terminate the fund by the AIF Regulations if he/ she is convinced that such an act is solely been undertaken to protect the interest of the said AIF investors.
Post-termination of the AIF, the AIF Trust via any of its members is bound to notify SEBI and all investors about the termination along with reasons that lead to the wound-up.
In such a situation, the AIF Regulators need the AIF also to (a) refrain from getting into any additional investments as on the date of said intimation as detailed here; also (b) liquidate assets within 12 months from the date of said intimation.
Then once the liabilities are taken care of, the amount accrued to the investors is required to be paid off.
Key terms associated with Termination of Alternative Investment Funds
Briefly described below are a few terms that are intrinsically associated with the termination of closed-ended alternate investment funds.
Provided the AIF investment manager finds that the continuation of the alternative investment fund might result in violating the law in any way, or any bad actions have been taken (post-adjudication) w.r.to the AIF itself or the manager and the Limited Partners have jointly decided to terminate the fund.
This is generally a common ground for early termination of an AIF that is not governed by AIF Regulations. Such grounds of termination may result in a fiscal penalty for the manager of the AIF.
In case Investment Manager cannot be replaced
If a situation arises that an AIF manager stands separated from the company, and investors fail to get a replacement AIF manager (minimum75% vote by value is required); in that situation, the recalcitrant investors are required to be allowed the choice to withdraw their funds from the AIF.
The outgoing AIF manager is under compulsion to ensure and facilitate such exits.
This expectation/ obligation pose an inconsistency with respect to AIF Regulations because the manager of the AIF is not incentivised to execute this activity.
As a result, whenever such a situation arises, the manager of the AIF is likely to move towards terminating the said alternate investment funds.
Once the fund is terminated, the manager of the AIF gets 12 months for liquidating the alternate investment funds.
Post the investors are intimated about the termination of an AIF, the units pertaining to the AIF cannot be transferred to even the associates to take an account of the confirmed stock of Limited Partnerships’ liabilities and/ or circumvent any administrative (cost and time included) inefficiencies, being cognizant of the inherent statutory timelines considered.
Alternate Investment Vehicles or Parallel Funds
Sometimes if any Parallel Funds / Alternate Investment Vehicles are a part of any other primary fund or are identical with any such portfolio, and the primary fund needs to be terminated for any reason, it would result in a termination of the Parallel Funds / Alternate Investment Vehicles as well.
This is true even if there has been no such trigger incident to terminate the Parallel Funds / Alternate Investment Vehicles. This is due to inter alia legal terms and conditions wherein the two portfolios cannot be separated with similar or dependent holding pattern.
AIF Rebranding/ Restructuring
When it is decided that the AIF needs to be terminated, the first thought that comes to fund’s investment managers is to look for buyers (new replacement General Partner) who will take the AIF over with its existing portfolio for its existing set of Limited Partners.
The concept of termination and liquidation of AIFs is yet to be effected in India till date. It is to be observed whether only the AIF ‘registration’ is terminated when the entity with such registration viz. A trust, an LLP or a company; applies for a new AIF registration for the new buyer GP.
As on date, the applicability of section 56(2)(x) of the Indian Income-tax Act, 1961 is often discussed for the ideal way of treating the units of an AIF in the face of the fund is terminated. The board requires the registration certificate to be surrendered to the designated authority.
If the LP Secondary is done at a price which is lower than the fair market price, then Section 56(2)(x) may be applied provided the particular units are within the definition of “securities”.
Also, for LP secondaries, in the case of an AIF, there is a possibility of double taxation in the case where LPs pay taxes on the amount paid for the AIF units, and they are again taxed when the income is received in their hands, i.e. when the AIF distributes the amount.
This is how AIFs are taxed.
Investors are expected to receive updates on their investments from the investment managers of the AIF during the investment term of the fund. This is a basic business expectation for any investor.
Such updates should ideally include information on –
The portfolio composition
Associates/ affiliates (as required)
Since the expected updates encompass price sensitive information that may comprise of competitive advantage for the AIF and stand a chance of being used unfairly by competition; confidentiality obligations of highest standards are expected to be maintained by the investors for a time frame agreed post-termination and liquidation of the fund.
Investing in AIFs has surely gained popularity since its launch in 2012 among the HNI and sophisticated investors in India by Indians, NRIs, PIOs, OCIs and foreign nationals too.
Given that these funds follow complicated procedures of investments and strategies encompassing them aimed at profit maximisation, it becomes imperative for the investors to understand the fund concepts, fate and treatment of the fund during uncertain times that may result in termination and thereafter liquidation of the fund.
This is critical for making a conscious and educated decision before making an investment in any AIFs.
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The concept of alternative funds may have seemed to cater to the investment needs of only large institutional investors, given the relative complexity in the concept and working of these funds.However recent changes have opened up this investment option to a larger segment of the society. This is because, though these alternative investment funds were introduced in India only in 2021, they saw a huge influx of demand as the benefits associated with various types of alternative investment funds are more advantageous than one can expect.The year on year increase in the principal fundraised as depicted in the table below is a clear indication of the gaining popularity of AIFs. (data source: SEBI)
INR 115564. 58 crores
INR 154762. 286 crores
INR 197159.7 crores
This alternative investment platform includes funds from angel investors, hedge funds, private equity, venture capital among others. These funds are not covered by the SEBI (Mutual Funds) Regulations, 1996, SEBI (Collective Investment Schemes) Regulations, 1999 or any other regulations of the Board to regulate fund management activities.
Subject to meeting gate criterion; all Indian citizens, Non-Resident Indians (NRIs), Persons of Indian Origin (PIOs) and Overseas Citizens of India (OCI) can choose to invest in Alternative Investment Funds.
It is a fact that investment in AIF or Alternative Investment Funds differs from those in conventional investment tools or options like our stocks, bonds and debt market instruments.
AIF consists of a fund incorporated by privately pooled investment vehicles that gathers funds from sophisticated HNI investors. In order to benefit its investors, these investments are governed by a defined investment policy of AIF but are not guided by principles of SEBI regulations or other regulations of the Board to regulate fund management activities.
Regulation 2 (1) (b) of the Regulation Act, 2012 of SEBI regulates investments in AIF. An Indian AIF may be formed as a trust, a company, Limited Liability Partnership (LLP) or a corporate body. Trust is the most common form in which AIFs are registered.
SEBI classified Alternative Investment Funds under three fundamental categories based on the types of investments they encompass – viz. Category I AIF, Category II AIF and Category III AIF. As mentioned earlier, they entail angel funds, private equity, hedge funds, venture capital, etc.
It is to be noted that any AIF generally does not permit more than 1000 investors. Thus the investment fees and minimum investments required in each of the funds are higher than any conventional investment platforms.
However, transaction costs in alternative investments platforms are lower as turnover is lower compared to traditional options. Liquidity options are less in AIFs and information relating to these funds is not available publicly most of the time.
A sophisticated investor who is looking for diversifying his/ her risk in various asset portfolios and willing to take the inherent/ underlying risk involved in these unlisted and illiquid securities is an ideal investor for an Alternative Investments Company.
Usually, Foreigners, resident Indians, PIOs, OICs and NRIs are eligible to invest in various types of alternate investments.
Permissible limits to invest in alternative investment funds are defined as below –
Permissible limit in INR
Maximum 1 crore
Minimum 25 lakhs
Senior Management (like directors, VPs, fund managers)
Minimum 25 lakhs
Maximum numbers of investors allowed are –
for AIF – 1000 investors (if the AIF is formed as a company under Companies Act, 1956)
for angel fund – 49 angel investors
Since funds are raised only through private placements by sophisticated investors, and AIF cannot go for large public subscription under any circumstance.
Minimum fund corpus mandated by SEBI is –
for AIFs – at least INR 20 crores
for angel fund – INR 10 crores
Alternative investment strategy allows funds for any AIF to be raised by private placements from High Net-worth Investors.
Following are the steps to AIF listing in Stock Exchange:
1) A placement memorandum is required to be filed with SEBI to launch a scheme under the alternate investment platform. INR 1 lakh is to be paid as a scheme fee while placing the memorandum. This is to be done at least 30 days before the launch of the scheme. However, angel fund investors are exempt from this payment for the first time they launch schemes under AIF.
2) It takes 21 days for the application to be evaluated by SEBI and update investor on the status on the success rate of the application.
3) Once registered, an amount of INR 5 lakhs is to be submitted as registration fee for the fund to be classified as an AIF in India.
4) Then the Alternate Investment Fund connects with stock exchanges in order to list the following defined norms with an agreement for investment management.
The necessary documents are –
Draft information or a placement memorandum,
MOA and AOA i.e. Memorandum of Association and Articles of Association of the issuer
A written undertaking from the Compliance Officer or the CEO that the particular AIF is in accordance with the SEBI(AIF) Regulations, 2012.
An investor requires his/ her income proof, ID proof and the PAN card to be able to invest in an AIF or Alternative Investment platform.
Categories of Alternative Investment Funds (AIFs)
There are 3 distinctive categories in which SEBI has classified the Alternative Investment Funds –
1) Category I AIF.
2) Category II AIF and
3) Category III AIF
Each of Category I and II AIFs is needed to be closed-ended schemes with a minimum tenure of 3 years. Category III AIFs, however, may be open or closed-ended as desired. [Ref. Regulation 13(1) and 13 (3)]
Each category has to have a minimum investment of INR 20 crores. However, Angel Fund (a subcategory of AIF I) can also have INR 10 crores as its fund. Investors have a choice to invest in any of the 3 categories or sub-categories as found below.
Category I AIF comprises of:
Venture Capital funds (including Angel funds)
Social venture capital funds
Simply put, AIFs that invest in start-ups or early-stage ventures or social ventures or SMEs or infrastructure or other sectors or areas which the government or regulators consider as economically or socially advantageous and shall include in this category of alternate funds.
Category II AIF:
Category II AIFs include all those alternate funds that do not fall in Category I and III. They do not assume leverage and/ or borrowing except to meet regular operational requirements and as permitted in the SEBI (Alternative Investment Funds) Regulations, 2012. [Ref. Regulation 3(4)(b)]
PE Funds, REIT or Real Estate funds, funds from distressed assets among others are registered under Category II AIF.
Category III AIF:
Funds like hedge funds, PIPE funds, etc, comprise of Category III AIFs.
The alternate investment strategy employed in this alternate fund involves complex trading strategies and is likely to employ leverage including through investments in listed or unlisted derivates as well. [Ref. Regulation 3(4)(c)]
Given the above, it is the hedge funds, private equity, venture capital, real estate and, oil and gas where most of the alternative investments are made. However, some are likely to invest even in art & antiques, collectables and, gems and precious metals.
Let us understand the most common alternative investments:
1) Hedge Funds:
In hedge funds investments are mostly done into the array of securities and are limited generally to publicly traded instruments. The alternate investment strategies undertaken are many, as the aim of the fund managers here is to generate returns in both bull and bear market conditions.
2) Venture Capital:
Wealthy investors prefer to invest their funds into promising start-up companies that are privately owned and have potential long-term growth prospects. These companies are generally in their early stage of growth or even at the start-up stage; but have an aim to grow rapidly and eventually go for BOT (build operate and transfer) either through merger, acquisition or IPO (initial public offer) offering.
3) Private Equity:
Perhaps the biggest bands of investments fall under private equity where all private investments other than venture capital are encapsulated. PE fund is composed of funds and investors that directly invest in private companies, or that engage in buyouts of public companies, resulting in the delisting of public equity.
While there are many benefits investing in hedge funds and venture capital investments that attract alternate fund investors, the majority of investors enjoy the advantages they get by investing in private equity alternatives as that is where the gap lay.
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Advantages of Investing in Alternative Funds
1) Generally do not correlate to the stock market:
Any investor who has been in the stock markets for some time is sure to have made some big wins and major losses as well. While gains made them feel great, the losses have surely caused heartburn.
Thus such investors, who have been in the stock market and are nearing retirement or aims to take retirement shortly, can look at alternative funds as a great way to diversify their portfolios to mitigate volatility in the markets.
Just as in any investments in the market, investments in AIFs too are subject to volatility but the potential to make higher returns in traditional market instruments via inflation hedging mechanism and robust diversification.
Being uncorrelated to the stock market, it makes investments in privately held AIFs less reactive to market ups and downs. For example, let us see and investment in a mortgaged property or rental property.
Even though the market may have been extremely volatile over the past one year, the borrower or the tenant would have been making their loan repayments or rent as usual in most cases.
2) Investments are subject to less volatility:
any investments made in equity or bond markets, are subject to market fluctuations and that makes investments risky for investors, especially the short term ones.
These fluctuations can be as a result of an array of factors and need not necessarily be connected directly to the real asset in question. Since shares of AIFs are not traded publicly in the traditional stock markets, they remain guarded against the volatility of traditional public investments.
Moreover, one’s investments in the alternate funds are typically backed by real assets.
While some may argue that if one would remain invested in the stock market for a long time, say, 8 to 10 years, the investor is likely to overcome the volatility and still gets an average of about 8 – 10 per cent return. But what they need to understand that the volatility mars the power of compounding.
As a result in private alternative investments platform, the effect of the power of compounding is much higher compared to traditional markets.
If you are investing in direct equity of any company in the traditional stock market, what you are entitled to be a paper asset as a very small/ nominal owner to the said properties of the company.
There is no question of having your name imprinted in the any of the assets of the company you invest in.
However in case of AIFs, given the number of maximum investors are limited, your investments are totally not gone for loss in case an AIF were to disappear.
That is because; the investors would retain their ownership in the mortgage and the rights as a lender to the business/ property.
4) Passive Investments:
Time is money for the HNI investors who pool funds various types of alternative investments. It is true that they generally may have funds that lay idle and they would be keen to find avenues to increase their wealth too.
Investing in stock markets or multiple homes or other tangible assets may not always be a feasible option as that demands a lot of their attention and time which is an expensive ask for such set of personnel.
Alternative investment companies have posed them with a great option for investment in real assets for medium to long term that comes with less volatility and high returns subject to underlying risk for a seasoned educated investor.
5) Tax norms:
Tax norms for alternative investment funds vary for each category. Let us take understand the taxability for each category –
AIF Category I and II are pass-through instruments. The AIFs do not need to bear any tax on their earnings.
The earnings are taxable in the hands of the investors who need to pay a tax per their tax slabs. In case there have been capital gains on the shares, then it entails 10% or 15% tax based on the holding periods.
AIF Category III on the other hand is taxed at the highest income tax slab level at 42.7%. However, this happens at the fund level itself. The investor receives the returns post-tax deducted by the fund itself.
6) Redressal of complaints:
SEBI has set up a web-based central grievance redressal system by the name of SEBI Complaint Redress System (SCORES) at http://scores.gov.in for investors to lodge their complaints, if any, against AIFs.
Further for dispute resolution, the AIF Regulations calls for each AIF by itself or by the Sponsor or Manager, is required to formulate and roll out procedures for dispute resolutions for investors, AIFs, Sponsors or Managers via arbitration or similar machinery as mutually arrived and agreed between investors and the Alternative Investment Fund.
All of the above and more have resulted in the increasing popularity of investments in alternative investment funds. So the educated HNI investors, who are willing to invest in unlisted and illiquid securities to absorb the underlying risk, find AIFs a viable and attractive vehicle to diversify the risk of their investment portfolios.
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Today’s Indian Financial Market is flooded with varied options of investments like the traditional options namely, mutual funds, stocks etc. and the unconventional options like Alternative Investment Funds.
If you are perplexed about where to invest your investible surplus, Alternative Investment Funds are a very good option currently, provided you are willing to take the additional risk.
To invest in an AIF and reap good profits, you need to be well-read about these funds, which have a bright future in India especially with the High Net-worth Individual (HNI) clients.
So let us delve deeper to understand the different nuances of Alternative means of investing in funds and its benefits thereof.
What is an Alternative Investment Fund?
Alternative Fund Investment AIF varies from regular traditional asset class investments like stocks, securities, debt securities and debentures etc.
AIF refers to a privately pooled fund formed by investments made by some sophisticated and private investors, who are risk lovers and are keen on taking a high risk with surplus money.
The AIF in India is established either as a company, Limited Liability Partnership (LLP), trust or a corporate body. This asset class includes venture capital funds, private equity, angel funds and hedge funds.
If you are an investor meeting all the investment eligibility criteria and prefer to have a well-diversified portfolio, the Alternative Investment Fund is the best option for you.
All the Indians like the Non-Resident Indians, Persons of Indian Origin (PIOs) and Overseas Citizens of India (OCIs), are allowed to invest in the Alternative Investment Funds.
The alternative investment platform includes investment options like private equity, hedge fund, venture capital, and angel fund etc., according to the drafted investment strategy for investing in the AIF.
These funds do not come under the purview of the Securities and Exchange Board of India (SEBI) mutual fund regulations.
However, the Alternative Investment products come under the purview of Regulation 2 (1) (b) of the Regulation Act, 2012 of SEBI.
The Securities and Exchange Board of India classifies the Alternative Investment Funds into three broad categories as in Category I, Category II and Category III.
Since the transaction costs for Alternative Funds are lower than the traditional investments, minimum investment limit and processing fees required to invest in AIFs are steeper than the conventional investments. Due to lower turnover, the cost of transaction in AIFs are lower than the traditional investments.
The specialty of Alternative Funds lies in the fact that they have lesser potential to advertise to the potential investors and hence do not share any information relating to the fund publicly.
Classification of Alternative Investment Funds
The Securities and Exchange Board of India (SEBI) registered Alternative Investment Funds can be categorised into three broad groups, as under:
1) Category I Alternative Investment Fund:
Category I Alternative Investment Funds usually invest in start-ups or Small and Medium Enterprises or ventures in their early-stages or infrastructure or social ventures, etc.
These sectors are considered as socially desirable or economical by the Government of India as well as the regulatory bodies.
Here are the sub-categories of investment under Category I of AIF:
Venture capital funds:
This is a type of financing of equity that primarily invests in start-ups and emerging businesses which have been planning for a long term growth curve.
Venture capitalists often participate in the regular operations of the company. They cannot borrow funds directly or indirectly to manage their operations.
The venture capital funds are close-ended investments with a bare minimum period of about three years, which can be extended up to two more years with prior approval from the AIF unit holders under special circumstances.
Though investments in other subcategories of Category I Alternative Investment Funds are permissible, investments in Fund of Funds (FoFs) are not allowed.
Angel funds are a subcategory of venture capital funds which comply with the regulations of Chapter III-A of the SEBI AIF Regulations for making investments.
They usually comprise individual investors who have net tangible assets not less than INR 2 crores, with a minimum of ten years of senior professional experience.
They also refer to a corporate body having a bare minimum net worth of INR 10 crore and do not accept investments lesser than INR 25 lakhs for a maximum duration of three years.
SME (Small and Medium Enterprises) Funds
These funds are usually invested in small and medium enterprises, micro-enterprises which could be listed or unlisted. Since SME funds provide equity finance for the NBFCs, the debt is raised through them.
The minimum investment for these funds is capped at INR 1 Crore, with a minimum tenure for lock-in tenure of three years, which can be extended further by two more years.
Social Venture Capital Funds
These funds are also known as ‘Impact Funds’ as they provide funding for ventures that have a positive impact on lives, while they analyse the social impact that is created by the business on the society.
These funds have a minimum investment amount of INR 1 crore and lock-in period up to three years, which can be extended further by up to two more years.
The SVC funds engage in theme-based investments in India, namely education, agriculture, affordable healthcare and clean energy.
Apart from facilitating seed investment, these funds also help the businesses with operational as well as technical support whilst laying down the regulations for governance and compliance, for additional funding. Usually, the returns are shared by both the investors and the fund.
These funds mainly invest in companies that develop infrastructure and housing projects, while raising capital even from different private investors and permitting only one thousand investors per scheme.
These funds include investments made in infrastructure projects namely roads, railways, municipal solid waste, water as well as renewable energy.
These close-ended funds are tradable on the stock exchanges with a minimum tradable amount of INR 1 crore and a minimum tenure for lock-in period of three years, which is expandable up to two more years.
Usually, the investors can easily liquidate their investments within a period of one year of the expiry of the tenure of the fund. Infrastructure funds get a lot of incentives and concessions for investment and can thus invest in various other subcategories of Category I AIF, though cannot do so in Fund of Funds (FoFs).
2) Category II Alternative Investment Fund
Category II AIFs do not undertake any sort of borrowing or leverage except for meeting the daily operational requirements.
The minimum corpus for these schemes is under INR 20 crores with a minimum amount of investment being INR 1 crore, with a minimum tenure for lock-in period of three years.
They are allowed to invest only with other AIFs or buy stocks of unlisted companies. These funds engage in the activity of hedging and accept joint investments, where the investment amount cannot be lesser than INR 1 crore.
There is no incentive or concession from the Government for these funds. Following are the subcategories under Category II AIF:
Private Equity (PE) Funds
Private Equity funds take complete ownership of the company as they cannot raise funds by equity and invest in unlisted private companies. These funds have a fixed tenure for investment, with a lock-in period ranging between four to seven years.
Debt Funds –
These funds generally invest in debt securities. The investments are done in either listed or unlisted companies according to the fund objectives, while they may be facing a debt crunch.
Funds of Funds
The funds of funds (FoFs) invest in several alternative investment funds, which follow a strategy of investment to invest in other Alternative Investment Funds. They cannot make their own dedicated investment portfolio and do not issue any units of the specific fund to the open public.
3) Category III Alternative Investment Funds
SEBI registered Alternative Investment Funds of Category III, apply various trading strategies like futures and margin trading, arbitrage and derivatives trading while investing in listed or unlisted derivatives.
These funds are of two types – open-ended or closed-ended funds and are way less regulated than the traditional funds.
Thus, their information is not published regularly and the Indian Government does not give leeway for investing in these funds.
They are classified into two types:
Hedge funds pool investments from private investors to invest in internationals as well the domestic markets using several trading as well as investment strategies.
They are held for long or short positions in securities and in listed or unlisted derivatives. They use leveraging options and strategies and are aggressively managed.
They are quite expensive as compared to its peers as the fund managers charge a hefty fee of about 2% of the investment and about 20% share of the profits.
Since the hedge funds are vulnerable to market movements, associated risks and returns are higher as compared to traditional investments.
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Private Investment in Public Equity (PIPE)
The fund managers in this strategy often buy stocks of publicly traded companies, but at a discounted price. This helps the businesses to put in or infuse substantial capital into the operation of the business.
These transactions require less administrative work as compared to a secondary public issue while helping the medium and small-sized businesses to fund their projects with ease.
It is easier to fund an issue with PIPE as compared to any secondary issue, which makes PIPE the most preferred method of capital inflow due to discounted share price value.
SEBI Regulations devised for the Alternative Investment Funds
If you are planning to invest in any Alternative Investment Fund (AIF) registered under the Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012, you need to be aware that these funds are usually incorporated in the form of a company or a trust or a limited liability partnership (LLP).
These regulations came into force for the first time on 21st May 2012 and usually aim at regulating the activities performed by the private pool of AIF. All information pertaining to the AIF is stated in the SEBI (Alternative Investment Funds) Regulations 2012 and circulars are available on the SEBI website.
There are certain listed criteria under the AIF regulations on the number of investors and the validity of the registration certificate of the entity.
SEBI guidelines specify that no AIF scheme should have more than one thousand investors except for an angel fund, which could have up to a maximum of forty-nine angel investors.
You should be aware that the AIF cannot subscribe to the units publicly rather can only invest through private placement by the issue of the information memorandum or placement memorandum.
If you were to invest in an AIF, you would be curious to know about its several launch schemes.
The AIF is allowed to launch schemes in accordance with the filling of the placement memorandum with the Securities and Exchange Board of India.
However, the AIF is entitled to pay a scheme fee of INR 1 Lakh to SEBI, at least thirty days prior to the launch, in order to fill the placement memorandum. There is an exception to the payment of scheme fees in case it is an angel fund or it is the first scheme launched by the AIF.
If you are a risk-loving investor and like to diversify risk, you can invest in the SEBI registered Alternative Investment Funds.
You have to be eligible to invest in AIFs, usually, it is the resident Indians, Non-Resident Indians (NRIs) i.e. who have settled abroad and foreigners, who are eligible to make investments in Alternative Investment Funds.
If you are a general investor, your permissible limit will be INR 1 crore; whereas the minimum investment limit is INR 25 lakhs for the angel investors.
Similarly, the minimum amount for investment is INR 25 lakhs for the senior management like the directors, fund managers and all the people who work for the AIF.
If you are an investor who is willing to make an investment in these unlisted as well as partially illiquid securities, you should be prepared to undertake the associated underlying risk.
An Alternative Investment product cannot openly invite the public to subscribe to its units, rather they can only raise funds from the esteemed investors through a private placement.
So, if you are a potential investor, you have to invest through a private placement. AIF schemes launched by SEBI are supported by the filling of its placement memorandum.
After payment of the registration fees, once the certification is done by SEBI that the AIF has been registered, the AIF contacts the stock exchanges for the listing of the funds by submitting an investment management agreement or a placement memorandum, in accordance with Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012. You have to submit your income proof, ID proof and the PAN card to invest in an AIF.
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2) Go to the ACT section as shown in the screenshot
3) Scroll through the details to the AIF that you are interested in and click on “I am Interested” tab
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Since the last seven to eight years, the AIF industry has been gaining popularity amongst the High Net worth Individuals (HNIs) as they prefer to diversify their surplus assets. The investment mechanism is fairly simple and is gradually becoming the most preferred vehicle for diversified investment amongst the risk-loving investors.
Alternative Investment Fund (AIF) refers to a privately held pooled fund incorporated within India in the form of a limited liability partnership or a trust or a company. It collects investment from both Indian as well as foreign investors for investing in accordance with a predefined chalked-out investment policy. for the benefit of its investors.
If you decide to invest in an AIF, you need to verify if it is registered with the Securities and Exchange Board of India (SEBI) as an Alternative Investment Fund.
The SEBI registered AIF seeks registration in the trade of the categories listed below:
1) Category I AIF –
Category I Alternative Funds invest in ventures in the early-stage or start-ups or social ventures or infrastructure sectors or Small and Medium Enterprises, which the Indian Government or the regulatory bodies consider as economically or socially viable.
This category includes different SME funds, venture capital funds, infrastructure funds and social venture funds.
2) Category II AIF –
This category comprises funds which do not fall in either Category I or III and neither undertake any leverage other than just to meet the regular day-to-day expenses for operational requirements.
This fund usually consists of the debt funds or private equity funds, which do not receive any specific incentives or concessions from the government or any other regulatory body.
3) Category III AIF –
The funds in this category deploy complex or diverse trading strategies as well as are usually invested in either listed derivatives or unlisted ones.
This set of Alternative Funds include the hedge funds or some other funds which are traded to earn short term gains and are open-ended. All the funds which are not under the purview of any specific incentive or concession given by the government or any other regulatory body is generally included in this group.
SEBI Rules and Regulations complying with the Alternative Investment Funds
Any Alternative Investment Fund (AIF) registered under the Securities and Exchange Board of India (Alternative Investment Funds) Regulations, 2012 are usually incorporated as a company or a trust or an LLP (Limited liability partnership).
These regulations were implemented for the first time on 21st May 2012 and are aimed at regulating the activities performed by the private pool of funds via the AIF route.
Research states that most of the SEBI registered AIFs are available in trust form and no entity can be classified as an AIF unless it has obtained a registration certificate from the SEBI.
Any existing fund that is classified as an Alternative Investment Fund but is not registered with the SEBI, will continue to operate if it has made an application for registration under sub-regulation (5) till the application is disposed of.
The schemes that are already existing will be allowed to complete their designated tenure, according to the commitments already made till SEBI grants them as registered under regulation (6).
There are certain listed criteria under the AIF regulations on the number of investors and the validity of the registration certificate of the entity.
SEBI guidelines specify that no AIF scheme should have more than one thousand investors except for an angel fund, which could have up to a maximum of forty-nine angel investors. You should be aware that the AIF cannot subscribe to the units publicly rather can only invest through private placement by the issue of the information memorandum or placement memorandum.
The validity of the registration certificate is maintained intact till the Alternative Investment Fund is dissolved.
If you were to invest in an AIF, you would be curious to know about its several launch schemes. The AIF is allowed to launch schemes in accordance with the filling of the placement memorandum with the Securities and Exchange Board of India.
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However, the AIF is entitled to pay a scheme fee of INR 1 Lakh to SEBI, at least thirty days prior to the launch in order to fill the placement memorandum.
There is an exception to the payment of scheme fees in case it is an angel fund or it is the first scheme launched by the AIF.
For all the SEBI registered category I and II AIFs, which do not take any leverage are required to submit a report to SEBI on a quarterly basis; while category III AIFs submit the report on a monthly basis.
These reports are submitted via email irrespective of whether the AIF has started any activity or not, as physical reports are not entertained.
They are sent to SEBI within seven calendar days from the end of the quarter or the month, depending on the category of the AIF.
The amount of leverage undertaken by Category III Alternative Investment Fund should not exceed more than twice that of the NAV of the fund. All information pertaining to the AIF is stated in the SEBI (Alternative Investment Funds) Regulations 2012 and circulars are available on the SEBI website.
Procedure to be followed to be registered with SEBI as an AIF
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All the applicants should make an application under Form A as provided in the SEBI (Alternative Investment Funds) Regulations, 2012 along with the requisite supporting documents. The applicant has to pay an application fee of INR 1,00,000/- to SEBI.
Once SEBI approves the application, a registration fee or a re-registration fee or a scheme fee as applicable has to be paid.
Thereafter, different categories of the AIF has to pay the registration fee, as specified below:
Category I Alternative Investment Funds – INR 5,00,000
Category II Alternative Investment Funds – INR 10, 00,000
Category III Alternative Investment Funds – INR 15,00, 000
Angel Funds – INR 2,00, 000
If you have invested in the AIF and are not happy with any of its policies, you can register your complaint with SEBI via its digital grievance redressal system which is centralized in nature called SCORES or SEBI Complaint Redressal System (SCORES), where the investors can lodge their complaints against the AIFs.
Additionally, any dispute resolution for the AIF can be done by the Manager or Sponsor, who lay down the process for resolution of disputes between any two parties like the investors, Manager, Sponsor or the Alternative Investment Fund, through arbitration or any specific mechanism as mutually decided between the investors and the AIF.
New Amendments brought in by SEBI in 2020
In the financial world, the Security Exchange Board of India (“SEBI”) lays down the rules and regulations for primary and secondary security markets in India.
It acts as a surveillance mechanism for all the participants in the security market for intermediaries such as Stock Brokers, Stock Exchanges and Portfolio Managers, etc.
Few amendments were specified in the circulars released by SEBI in 2020. If you have invested in an AIF, it is pertinent for you to take a closer look at each of the specifications mentioned therein:
The first circular was released on February 5, 2020, and was based on the Disclosure Standards for the Alternative Investment Funds (AIFs).
The need to streamline the proforma for the information and disclosure standards has fostered SEBI to lay down a template for the Private Placement Memorandum (PPM), which contains specific information for the prospective investors in a SEBI specified format.
This template has two parts, Part-A which consists of the minimum disclosures and Part-B, the supplementary section, which comprises some additional information.
Adhering to the compliance clause, an annual audit of the PPM by the AIF is made mandatory.
If you are the Trustee or the Board or the Designated Partner of the Alternative Investment Fund, the audit findings and corrective steps will be communicated to you.
Although the subscription agreement has to be in sync with the PPM, there are some exceptions to the AIFs, where these PPM guidelines are not applicable:
SEBI registered AIFs or schemes, where each investor commits to a minimum capital contribution of INR 70 crores and also provides a fund waiver, as mentioned by the Annexure to CIRCULAR-I.
SEBI introduced a mandatory benchmarking framework to monitor the performance of AIFs to let investors make an informed decision and the Benchmarking Agencies to make a customized performance report.
Any association of Alternative Investment Funds which has at least 51% membership in AIFs, shall enter into a Benchmarking Agreement with a Benchmarking Agency.
This agreement consists of the mode and manner of data reporting, information specific to data that needs to be reported, and other terms pertaining to confidentiality of the data received by the Benchmarking Agency.
All sorts of fund information including cash flow data of the schemes are also reported to the agency. However, the Performance benchmarking criteria is not applicable to the Angel Funds, which are a constituent of Category I.
The second circular that was released on June 12, 2020, consisted of the clarification of the Disclosure Standards stated in Circular I for the AIFs.
The first clarification aimed to provide a timeline to the audit requirement, mainly at the end of each financial year.
It also stated that the results of the audit should be communicated to the Trustee or the Board or the Designated Partners of the AIF within six months from the end of the financial year.
However, these provisions are not applicable to those AIFs that have not raised any funds from their investors.
The earlier membership amount of 51% has been replaced by 33% to enter into a Benchmarking Agreement with a Benchmarking Agency.
This circular was released on June 30, 2020, specifying the collection of stamp duty on the issue, transfer and sale of AIF units. The Registrar & Share Transfer Agents (RTA) appointed by the AIFs are responsible for collecting the stamp duty on transfer, issue and sale of units of AIF.
The Alternative Investment Funds would comply with the amended Stamp Act and rules with effect from July 01, 2020. Till the time an RTA is appointed,
AIFs shall keep the applicable stamp duty for transactions in a designated bank account. Once the RTAs are appointed, the said amount is given for onward remittance to the states and Union Territories according to the provisions of the amended Stamp Act.
The fourth circular specifies the processing of applications for the registration of AIFs and the schemes launched by SEBI.
The amendment made by the SEBI (AIF) Regulations, 2012 on October 19, 2020, stated that the Manager will be a part of the Investment Committee which will enable him to approve all the investment decisions of the AIF.
All the applications from external members from resident Indians will be processed for being a part of the Investment Committee whereas the applications from the non-resident Indians will be processed only after the clarification sought by SEBI has been resolved.
Recent updates from SEBI specifies that category II and III alternative investment funds (AIFs) which are established as a trust may be certified as a qualified buyer according to the SARFAESI Act and are eligible to subscribe to security receipts issued by asset reconstruction companies, adhering to certain regulatory norms.
Recent Updates in AIF’s
Certain amendments by SEBI in the last quarter of 2020 pertains to professional qualifications and experience criteria of the investment team, that needs to be fulfilled.
Amendment 4(g) specifies that at least one important member of the team working as a manager of the AIF with a minimum of five years of working experience in managing asset pools or in the business of actively dealing in securities.
It is pertinent to have at least one professional in the investment team with domain expertise in accountancy, finance, business management, economics, commerce, banking or capital market from a reputed institution.
Additionally, Regulation 20(6) specified that the Manager of the AIF is responsible for all decisions regarding investment in funds.
This rule also provides the manager with the leverage to delegate all the investment decisions to the Investment Committee, subject to a few conditions.
Hence all the members of the core investment committee will be equally responsible as the Manager for all investment decisions of the AIF, with the autonomy to approve all the investment decisions.
These provisions also state that all the external members whose names have not been disclosed in the specified placement memorandum initially will be appointed to the core investment committee with the prior consent of at least 75% of the investors depending upon their investment value in the AIF.
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The Indian market is saturated with different types of mutual funds and other investment options.Alternative Investment Fund (AIF) is one of such alternative investment options for the high net worth individuals (HNIs), that entices them with its non-conventional mode of investment. How beneficial is it to the investor is indeed a thought to ponder upon.
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.
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.
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.
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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