Alternative Investment Fund Regulations


What is an Alternative Investment Fund (AIF)

AIF is a privately held investment vehicle under the Alternative Investment Fund Regulations that collects funds from Indian or foreign investors in order to invest them in accordance with a defined investment policy for the benefit of its investors. AIFs can take the form of a trust or a company or a limited partnership or corporation.


AIF regulations endeavor to extend the regulatory framework to unregulated funds in order to ensure systemic stability, increase market efficiency, encourage the formation of new capital and promote consumer protection.

Who is not insured

Currently, AIF Regulations do not apply to mutual funds, collective investment schemes, family trusts, ESOP and other employee benefit trusts, holding companies, special purpose vehicles, funds managed by securitization or recovery companies, and those funds that are directly regulated by another regulator in India.

Categories of AIFs

An AIF must in principle be registered in one of the 3 categories –

Category I AIF: The following fall under Category I.

1. Funds that invest in start-up or early-stage companies or social enterprises or SMEs or infrastructure

2. Other sectors or areas that government or regulators deem socially or economically desirable, including venture capital funds

3. AIF with positive spillover effects on the economy for which SEBI or the Indian government or other regulators in India may consider certain incentives or concessions

Category II AIF: The following falls under Category II

1. AIFs for which no special incentives or concessions are granted by the government or any other regulatory authority

2. which must not have any leverage effect other than complying with the daily operating requirements permitted in these Regulations

3. These include private equity funds, debt funds, funds of funds and other funds that are not assigned to category I or III

Category III AIF: The following fall under Category III

1. The AIFs, including hedge funds, which trade for the purpose of achieving short-term returns;

2. Use different or complex trading strategies

3. that can use leverage, including by investing in listed or unlisted derivatives

Applicability of the AIF regulations to real estate funds

After we have familiarized ourselves with an AIF and its broad categories, we analyze whether the AIF regulations apply to the real estate funds

First, an AIF must apply for registration under the AIF rules in one of the three categories above. So if a fund does not fall under one of the three categories above, it will not apply for registration with SEBI.

If we look at Category 1, registration is required for funds investing in start-up or early stage companies or social enterprises or SMEs or infrastructure

If we look at the definition of infrastructure, the Declaration for Regulation 2 (m) says that infrastructure is defined by the Government of India from time to time.

And in normal usage, the term typically describes the technical structures that support a society, such as roads, water supply, sewerage, electricity networks,

Telecommunications etc. and can be defined as “the physical components of interconnected systems that provide goods and services that are essential to enable, maintain or improve the living conditions of society.

Therefore, infrastructure does not include real estate or construction activity as this activity involves investing in land, developing land through the construction of apartments, townships and other residential and commercial projects.

But when the real estate fund is doing certain projects for a social cause, like buying land for charity etc; then the fund can be covered by social venture funds.

The clause further states that “or other sectors or areas that government or regulators deem socially or economically desirable, and other alternative investment funds, as specified;”

The AIF rules were only announced a few days ago and to date no other AIF funds have been set in Category 1 by the government. Furthermore, what the government or regulators consider socially and economically viable is a very broad concept. However, until the government explicitly issues specific inclusions under Category 1; a real estate fund does not fall under category 1 and therefore does not require registration.

In addition, the clause also states that – Alternative mutual funds that are generally believed to have positive spillover effects on the economy and for which the Board or Government of India or other regulators in India may consider incentives or concessions to make, be included

By including these lines in Category 1, SEBI has made Category 1 very vague and open to disputes and litigation, as it is not defined or clarified what SEBI intends with positive spillover effects on the economy. Different people or organizations may have different opinions on this, which would lead to unnecessary litigation and hardship for entrepreneurs. However, until this is clear, business owners must exercise caution in deciding to apply for registration under AIF rules.

Category II AIF

Now we are checking whether a real estate fund falls under Category II AIF

If we look at the Category II funds, then they are

1. Does not fall into category I and III

2. may not undertake any external financing or borrowing, except to meet the daily operational requirements and this is permissible according to these regulations;

3. Should be financed such as private equity funds or debt funds for which the government or other regulatory authority does not provide any special incentives or concessions

In the case of real estate funds in category I, it is noticeable that they are currently neither in category I nor in category III, as they are essentially hedge funds. Furthermore, the government does not give any specific incentives or concessions to the real estate sector. Therefore, if we consider the applicability of real estate funds under category II, these funds can fall under the AIF of category II if they do not take out outside financing or borrowing except for short-term requirements.

Effects of AIF on real estate funds

According to these regulations, the minimum investment required by each investor must be Rs 1 crore. Therefore, it would become difficult for the real estate funds to attract the monies from investors who previously raised amounts less than INR 1 million from investors. Now they would have to find quality investors, although this is not the only challenge for those raising domestic companies. You must now also invest 2.5% of the corpus or 5 crore rupees, whichever is lower, to ensure that the risk of the management company is the same as that of the investor. In addition, a single investment in a company or project must not exceed 25% of the total corpus.

In addition, a real estate fund registered in the form of an LLP would also fall under the AIF regulations. Since the investors are also partners, the risk of abuse of the investor’s rights is very low in an LLP structure. Therefore, applying the AIF rules to the LLP structure would reduce the flexibility available to such a structure.


If we look at the AIF regulations from a short term perspective, given the difficult fundraising environment today, the larger ticket size for investors could potentially pose some challenges and limit the growth of the asset class in some ways, but clearly these regulations seem in the long run have a degree of maturity to play a critical role in developing and shaping the future of alternative asset classes in India. It is also clear that alternative investments are more sophisticated and risky compared to investing in equity and leverage, and until market maturity it is advisable that only HNIs and well-informed investors invest in this asset class, and once the market is mature, will he opened to everyone. In the long term, due to increased investor confidence in these funds, we may see more investments in the alternative asset class (in terms of size and duration).


Source by Anisha Shelke