alternative investment funds- india€¦ · alternative investment funds-india chapter 15....

Alternative investment Funds-IndiaCHAPTER 15

Alternative Investments scenario in India

Tax structure for Alternative Investments

Role of SEBI

Genesis of Alternative Investments Market Regulation

Regulations prevalent in alternative investment market

Key Considerations for Applicants under AIF regulations

Alternate Investments scenario in India

• In 2012, Securities and Exchange Board of India (SEBI) stepped forward

to overtake the regulatory framework of domestic funds in India and

hence introduced the SEBI Alternate Investment Funds (AIF)

Regulations, 2012

• Following its introduction the Venture Capital – Private Equity (VCPE)

industry has successfully bridged the gap between capital

requirements of growth companies and traditional fund providers such

as banks, IPOs etc.


Category I AIFs

Fund Start-ups, early-

stage companies,

MSMEs or other

government

regulated areas

Venture capital fundsSmall and medium

enterprises fundsSocial venture funds Infrastructure funds


Category II AIFs

These funds come under

either Category I AIFs or

Category III AIFs

Do not take leverage other

than to meet day-to day

operational activities or as

permitted under the SEBI

Regulations


Category III AIFs

Diverse trading strategies

are employed by these

funds and they may involve

leverage

Includes the trade to make

short-term returns or funds

which are open-ended

having no specific

incentives or concessions



Role of SEBI




Discuss the tax structure for alternative investments

• In order to encourage setting up of domestic pooling structures and to provide more certainty to tax position, a tax-pass through status has been connected with Category I and Category II AIFs.

• Category III AIFs have still not been granted a tax-pass through status

• In a circular dated February 29, 2016, to reduce litigation and maintain consistency in assessment approach, it has been stated that income arising from transfer of listed shares and securities, held for >1 year would be taxed under the head “Capital Gains”

Discuss the tax structure for alternative investments

• The income arising from transfer of unlisted shares would be considered as ‘Capital Gains’ irrespective of the period of holding.

• In 2016, the Finance Act diluted the withholding requirement in case of distributions made to non-resident investors; thereby mandating that AIF would be required to deduct tax at ‘rates in force’ on any non-business income paid to non-resident investors

• In such cases, no tax deduction shall be made in respect of any income which is not chargeable to tax under the Tax Act



Role of SEBI




Explain the role of SEBI

• SEBI was constituted under the SEBI Act, 1992, in order to protect the investor’s interests in securities and to develop and regulate the securities market.

• In 2008, SEBI took a decision to consolidate the basic regulatory provisions which will be applied to all the securities market intermediaries regulated by SEBI

• AIF applicants, their proposed sponsors and managers need to comply with certain criteria as per the Intermediaries Regulations i.e. SEBI regulations to register as AIFs.

SEBI Compliance Criteria

• AIFs are required to disclose the proposed fees to be paid to the sponsor/manager with the detailed tabular examples of how fee and other charges have been calculated; structure of distribution waterfall and how certain identified ‘key man’ events have been handled.

• Marketing of AIFs needs to be on a private placement basis and public marketing is not allowed.

• The sponsor or manager of an AIF under the AIF Regulations must appoint a custodian who will be registered with SEBI for keeping its securities safely if the AIF is a Category III AIF or if the corpus of the AIF is more than INR 5 billion.

SEBI Compliance Criteria

• Category III AIFs are required to provide quarterly reports to investors within sixty days of end of the quarter which contains financial information of the portfolio.

• AIFs need to provide reports to investors at least on an annual basis, within 180 days from the year-end, containing financial information of the portfolio companies, material risks, etc.

• Any significant change in control of the manager, sponsor or any portfolio company must be announced to the investors within the appropriate time.

• A Compliance Test Report has to be submitted within thirty days of the end of the Financial Year to the Sponsor.



Role of SEBI




Genesis of Alternate Investments regulation• SEBI recognized 3 categories of AIFs under the AIF Regulations where

SEBI was allowed to set up onshore hedge funds for the first time and it led to the beginning of on-shore hedge fund industry in India.

• In the year 2012-2013, the fund managers and the investors accepted the AIF Regulations and participated interest across all the three categories of AIFs.

• In most cases with a number of legislations in India, certain ambiguities came up only after they are notified or made effective. Accordingly, several circulars and amendments to the AIF Regulations have been released.



Role of SEBI




Prevalent regulations in Alternate Investments

• The AIF Regulations prescribed a generalized set of investment restrictions which are applicable to all AIFs & also prescribe a specific set of investment conditions that are applicable for each category of AIFs, such as:

◦ AIFs can invest in foreign securities

◦ For co-investments, sponsor should not get more favorable terms

◦ 25% funds for Category I and II AIFs and 10% for Category III AIFs can be invested in a single investee company

◦ AIFs should not invest in associates without the approval of 75% of investors

◦ The un-invested portion of the investible funds can be deployed as per the objectives in liquid assets of higher quality.

Category I AIFs

• Category I AIFs should invest in investee companies, venture capital undertakings, SPVs/SPEs, LLPs or in any units of other AIFs as specified in the regulations.

• A particular sub-category of AIF I may invest in the units of the same sub-category of Category I AIFs, but not in the units of Fund of Funds.

• Category I AIFs are not allowed to borrow funds directly or indirectly or involve in any kind of leverage except for meeting temporary funding requirements for more than 30 days, on not more than 4 occasions annually and not more than 10% of its investible funds.

Category II AIFs

• Investment of Category II AIFs should be targeted towards unlisted investee companies

• They can invest in the units of Category I and Category II AIFs

• They enjoy exemption from Regulations 3 and 3A of the Insider Trading Regulations with respect to investments in companies listed on SME exchange or segment of an exchange pursuant to due diligence of such companies after providing disclosures.

• They can involve in hedging provided they abide by SEBI regulations in this regard.

Category II AIFs

• Agreements with merchant bankers regarding subscription to issues issue or receipt or deliverer of securities in the process of market making can be entered into

• Borrowing of funds directly or indirectly or involvement in any kind of leverage by these AIFs should not be encouraged except for meeting temporary funding requirements for more than 30 days, on occasions restricted to 4 of them annually and not more than 10% of its investible funds.

Category III AIFs

• Category III AIFs can invest in securities of listed or unlisted investee companies or derivatives.

• They may invest in the units of Category I, Category II and Category III AIFs but not in the units of Fund of Funds.

• Category III AIFs’ involvement in leverage or borrowing is allowed subject to consent from investors in the fund and a maximum limit as per SEBI regulations.

• These AIFs shall be regulated as per the directions of SEBI regarding areas such as prudential requirements, restrictions on redemption, operational standards, conduct of business rules and conflict of interest.



Role of SEBI




AIF Application Regulations

Continuing

Interest

Minimum

Corpus

Minimum

Investment

Qualified

Investors

Foreign

investments in

AIFs

Maximum

number of

investors

Private

placementTenure

Overseas

investments

by AIFs

Change in

circumstances


• Continuing Interest: The sponsor or the manager of an AIF needs to contribute a certain portion of the total capital of the fund, known as the continuing interest, which remains locked in the fund until distributions have been made to all the other investors in the fund as per AIF regulations.

• Minimum Corpus: Corpus is the total amount of funds the investors commit through a written contract or any similar document on a particular date. The AIF regulations prescribe that the minimum corpus for any AIF should be INR 200 million.

• Qualified Investors: The AIF Regulations allow an AIF to raise funds from any investor, be it Indian, foreign or non-resident through the issue of units of the AIF.


• Minimum Investment: Unless an investor is an employee or a director of the AIF or an employee or director of the manager of the AIF, the AIF Regulations do not permit an AIF to accept an investment of less than INR 10 million from any investor, or a minimum value of INR 2.5 million.

• Foreign investments in AIFs: As per RBI notification, an LLP shall be considered to be Indian “owned and controlled” if:

◦ More than 50% of the investment in such an LLP is contributed by Indian citizens or entities which are owned and controlled by the Indian citizens;

◦ Such residents have majority of the profit share.


• Maximum number of investors: The AIF Regulations permits the maximum number of investors for an AIF at 1,000.

• Private placement: The AIF Regulations doesn’t allow solicitation or collection of funds except by way of private placement.


• Tenure: Unlike Category I and Category II AIFs, which can only be closed-end funds, Category III AIFs can be open-ended. The minimum tenure for Category I and Category II AIFs, as per AIF regulations, is 3 years.

• Overseas investments by AIFs: An AIF can invest in equity and equity-linked instruments of off-shore VCUs, subject to certain restrictions and the guidelines mentioned by the RBI with this respect.


• Change in circumstances: Regulation provides that in case any material change to the placement memorandum is said to have arisen in the event of change in sponsor or manager, change in control of sponsor/manager or change in fee structure which may result in higher fees being charged to the unit holders and change in fee structure or hurdle rate resulting in higher fees being charged to the unit holders. In case of such ‘material change’, the existing investors who want to discontinue post the change shall be provided with an exit option and such existing investors will be provided not less than 1 month for indicating their dissent.

“An investor’s worst

enemy is not the stock

market but his own

emotions.”

THANK YOU

alternative investment funds- india€¦ · alternative investment funds-india chapter 15....

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