SEBIs new proposal for Transparency and Transferability of Alternative Investment Funds (AFIs) in India

Know SEBI's proposal for alternative investment funds in India, monitor your investment, and get high visibility of cash flow and returns. Read ahead.

Alternative Investment Funds

Alternative Investment Funds (AIFs) are not a part of conventional investments. They are a privately pooled fund. An AIF is an investment fund set up in India to raise money from specific investors according to a predetermined investment policy. Some examples include, venture capital funds, angel funds, infrastructure funds, and social venture funds.

This article will explore the Transparency and Transferability of Alternative Investment Funds (AFIs) in India. It will also discuss the SEBI's proposal for the AFIs covering the following points: 

  • SEBI's Proposal On AIF Funds
  • Transparency For Investors 
  • Transferability: Dematerialisation of Units

SEBI's Proposal On AIF Funds

The Securities and Exchange Board of India (SEBI) released the 5 consultation papers on February 3, 2023, that proposed changes in the regulatory policies for alternative investment funds (AIFs). This step of SEBI signifies its ongoing engagement and commitment to developing AIFs funds because its first AIF rules came over a decade ago. 

The primary objectives of these consultation papers are to improve the transparency and efficiency of alternative investment funds in India and recommend practices to align the regulatory policies with international norms. 

The proposals advise the next-generation reforms for the AIFs funds are focused on making things more transparent and fair. These changes have the potential to bring significant changes in the AIF industry when it comes to transparency and transferability for investors.

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Transparency For Investors

a.) Payment of the Distributor Commission on Investor Participation and Testing Basis Through the Direct Plan

The recent papers aspiring feedback from the industry participants comprise a two-fold objective– 

  1. AIFs who offer a choice of a direct plan to their investors and
  2. Developing a trail model for the distributor commissions in alternative investment funds

In the industry of mutual funds, the trail commission is calculated as an asset percentage and is payable quarterly under the distributor's management. These are computed on the net asset, and distributors gain profit by selling money with high NAV or more units as their asset. One need not worry about the trail commissions as these have been included in the expense ratio, which all the funds clearly state. No hidden costs are affecting NAV.

The proposal of SEBI to pay one-third of the present value of distribution fees upfront (recognizing the need for appropriate incentives) and the remaining two third on a trail basis is predicted to profit the industry from an intermediate to long-term viewpoint. The proposal is designed to reduce the opportunities of mis-spelling AIF plans and increase investors' transparency.

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b.) Conflict of Interest

Alternative investment funds allow a deal with their associates to invest in associates, buying or selling securities to or from, profit services from them, etc. However, these party transactions may give height to conflicts of interest. While recent regulations already include provisions to solve such conflicts of interest. 

In the consultation paper, SEBI has presented that AIFs funds cannot undertake such related party transactions without the approval of 75% of investors, estimated by the share of their investments in the AIFs funds, in (a) associates; or (b) units of AIFs supervised or sponsored by its  Sponsor, Supervisor, or associates of its Manager or Sponsor.

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Transferability: Dematerialisation of Units

SEBI observed that despite the regulation of the issuance of AIF units, most of the AIF plan units still need to be dematerialized and kept in physical form. After this, the regulator has proposed that the dematerialization of units of the AIFs funds should be required, in which all schemes of AIFs with a corpus of over 500 crores will compulsorily dematerialize their units by April 1, 2024.

It is an important step that can encourage AIFs funds and build accessibility to the larger market. It also enables sufficient monitoring of investments in alternative investment funds by investors as they would get high visibility of cash flow and returns. The second crucial step in this regard is the listing of units because dematerialization enables the viewing of holding units; it does not allow investors to trade the units in the open market unless they are listed.

The growth of a secondary marketplace for alternative investment funds in India is necessary to provide liquidity in the AIF industry. According to section 14 of SEBI's AIF laws, units of close-ended AIFs funds may be listed on a stock market subject to a minimal tradable lot of 1 crore rupees after the ultimate shut of the policy. Listing AIF items would support investors with an easy exit option (subject to KYC) and promote discovery in the demand-supply mechanism. 

Both transparency and transferability can significantly change the alternative investment funds in India. The step of SEBI is beneficial for both the market and investors. 

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