Operational and prudential norms for Category III AIFs
Chapter 7 - Operational and prudential norms for Category III AIFs
Investment Concentration Norm for Category III AIFs
Regulation 15(1)(d) of the AIF Regulations provides flexibility to Category III AIFs.
This flexibility also applies to Large Value Funds (LVFs) of Category III AIFs.
While investing in the listed equity shares of an investee company, these AIFs can calculate the investment concentration limit using either of two bases:
(a). Investable Funds
The concentration limit is calculated with reference to the AIF's investable funds.
(b). Net Asset Value (NAV)
The concentration limit is calculated with reference to the NAV of the scheme.
Therefore, the Category III AIF has the flexibility to choose either Investable Funds or NAV as the basis for calculating its investment concentration.
This flexibility is subject to the conditions specified by SEBI from time to time.
Example:
Suppose a Category III AIF has:
Investable Funds: ₹500 crore
NAV: ₹400 crore
If the applicable concentration limit is 10%, the AIF may calculate the permissible investment based on the applicable permitted basis:
Based on Investable Funds: ₹50 crore
Based on NAV: ₹40 crore
So, the regulation provides flexibility regarding which base is used to determine the concentration limit, subject to SEBI's conditions.
7.1.1
All Category III AIFs are required to disclose the basis used for calculating the investment concentration norm.
This disclosure must be made in the Private Placement Memorandum (PPM) of the relevant scheme.
The AIF must clearly state whether it calculates the concentration norm based on:
Investable Funds.
Net Asset Value (NAV) of the scheme.
Example
A Category III AIF chooses to calculate its investment concentration limit based on NAV.
This basis must be clearly disclosed in the PPM.
Investors can therefore understand how the AIF will determine the maximum investment it can make in a particular investee company.
7.1.2.
Once a Category III AIF chooses the basis for calculating its investment concentration norm, that basis cannot be changed during the term of the scheme.
The basis chosen must remain consistent throughout the entire life of the scheme.
The AIF cannot switch between Investable Funds, and NAV merely because one method becomes more favourable at a particular point in time.
7.1.3.
If a Category III AIF chooses NAV as the basis for calculating its investment concentration norm, it must comply with the following conditions:
(a). NAV on the preceding business day
The investment limit for listed equity must be calculated using the NAV of the AIF on the business day immediately preceding the date of investment.
In other words, the AIF must use the latest applicable NAV available before making the investment.
Example:
A Category III AIF plans to invest in listed equity on 10 August.
The NAV used for calculating the investment limit will be the NAV as on the business day immediately preceding 10 August.
(b). Calculation of NAV
The NAV of the AIF will be calculated as the sum of the value of all securities held by the AIF.
The value must be adjusted for mark-to-market gains or losses.
Cash and cash equivalents are also included while calculating NAV.
However, any funds borrowed by the AIF are excluded from NAV.
Example:
Value of securities: ₹450 crore
Cash and cash equivalents: ₹50 crore
Borrowed funds: ₹100 crore
NAV = ₹500 crore
The ₹100 crore borrowed funds are not included in the NAV calculation.
(c) Rectification of Passive Breach
A passive breach occurs when the market value of the AIF's investment increases due to market movements, causing it to exceed the prescribed investment concentration limit
The breach is not necessarily caused by the AIF making a fresh investment.
If such a passive breach occurs, the AIF must rectify the breach within 30 days from the date of the breach.
Example:
Category III AIF's permissible investment limit in a listed company is ₹50 crore.
The AIF has invested ₹50 crore in the company.
Due to an increase in the company's share price, the market value of the investment rises to ₹55 crore.
The AIF has therefore experienced a passive breach.
The breach must be rectified within 30 days.
7.2. Prudential requirements with respect to leverage
7.2.1.
All Category III AIFs that undertake leverage must comply with specified prudential requirements.
Leverage may arise through:
Investment in derivatives
Borrowing funds
Any other means that creates leverage or increases the AIF's exposure beyond its available capital.
Therefore, the requirements apply irrespective of the method used to create leverage.
Example
A Category III AIF has ₹100 crore of its own funds.
If it:
Borrows ₹50 crore to make additional investments; or
Uses derivatives to create additional exposure; or
Uses another arrangement that creates leveraged exposure,
it is considered to have undertaken leverage.
Such AIF must comply with the prudential requirements prescribed by SEBI.
The requirements are as follows:
7.2.1.
For calculating the leverage undertaken by a Category III AIF, leverage is measured as a ratio.
The formula is:Leverage = Exposure ÷ NAV of the AIF
Exposure refers to the AIF's total investment/exposure created through its investments, derivatives, borrowing or other means.
NAV means the Net Asset Value of the AIF.
Example
Suppose a Category III AIF has:
Exposure: ₹200 crore
NAV: ₹100 crore
Leverage = ₹200 crore ÷ ₹100 crore = 2 times
Therefore, the AIF has a leverage of 2x.
7.2.2.
Leverage is calculated by comparing the Total Exposure of the AIF with its Net Asset Value (NAV).
The formula is: Leverage = Total Exposure ÷ NAV
Total Exposure consists of:
Long positions, plus
Short positions, after making the permitted offsets.
Therefore:Leverage = Longs + Shorts (after permitted offsetting) / NAV
Example
Long exposure = ₹150 crore
Short exposure = ₹50 crore
Permitted offset = ₹20 crore
NAV = ₹100 crore
Net exposure considered for leverage = ₹150 crore + ₹50 crore − ₹20 crore = ₹180 crore
Leverage = ₹180 crore ÷ ₹100 crore = 1.8x
7.2.3.
The leverage of a Category III AIF cannot exceed 2 times its NAV.
Therefore: Maximum Exposure = 2 × NAV
Example
Suppose the AIF has a NAV of ₹100 crore.
Maximum permitted leverage = 2 times.
Therefore, the AIF's maximum permitted exposure is: ₹100 crore × 2 = ₹200 crore
The total exposure includes:
Long positions; and
Short positions,
after making the permitted offsets.
Therefore, the AIF can have exposure of up to ₹200 crore, but it cannot exceed ₹200 crore.
7.2.4.
A Category III AIF may invest in the units of other AIFs.
When calculating leverage, the value of the investment in units of other AIFs is excluded from the portfolio NAV for this purpose.
The Category III AIF can undertake leverage of up to 2 times the value of the remaining portfolio.
Formula: Permitted Leverage = 2 × (Portfolio NAV − Value of units of other AIFs)
Example
Total portfolio NAV of Category III AIF = ₹150 crore
Investment in units of other AIFs = ₹50 crore
Value considered for leverage: ₹150 crore − ₹50 crore = ₹100 crore
Maximum permitted leverage: ₹100 crore × 2 = ₹200 crore
Therefore, the Category III AIF can undertake leverage of up to ₹200 crore under this calculation.
Calculation of exposure and NAV
7.2.5
Calculation of Total Exposure for Leverage
For calculating the leverage of a Category III AIF, the total exposure of the fund is considered.
Total exposure is calculated as the sum of the market value of all securities and contracts held by the fund.
The calculation covers exposure arising from both spot market and derivative market instruments.
Two Components of Exposure
(a). Spot Market Exposure
This refers to exposure arising from securities held in the spot/cash market.
Example:
Equity shares held by the AIF: ₹80 crore
Spot market exposure = ₹80 crore
(b). Derivative Market Exposure
This refers to exposure created through derivative contracts such as futures and options.
Example:
Derivative contracts creating exposure of ₹40 crore
Derivative market exposure = ₹40 crore
Example of Total Exposure
Spot market exposure = ₹80 crore
Derivative market exposure = ₹40 crore
Total Exposure = ₹80 crore + ₹40 crore = ₹120 crore
Therefore, ₹120 crore will be considered as the fund's total exposure for calculating leverage, subject to the applicable rules on offsetting.
7.2.6
Calculation of Derivative Exposure
For calculating leverage, the exposure arising from different derivative instruments is calculated as follows:
(i). Futures: Long and Short
Exposure = Futures Price × Lot Size × Number of Contracts
The same formula applies to both long futures and short futures.
Example:
Futures price = ₹500
Lot size = 100 shares
Number of contracts = 10
Exposure = ₹500 × 100 × 10
Exposure = ₹5 crore
(ii). Options Bought
Exposure = Option Premium Paid × Lot Size × Number of Contracts
For options that are bought, exposure is based on the premium paid.
Example:
Option premium = ₹20
Lot size = 100
Contracts = 10
Exposure = ₹20 × 100 × 10
Exposure = ₹20,000
(iii). Options Sold
Exposure = Market Price of Underlying × Lot Size × Number of Contracts
For options that are sold, exposure is based on the market value of the underlying, rather than the option premium received.
Example:
Market price of underlying = ₹500
Lot size = 100
Contracts = 10
Exposure = ₹500 × 100 × 10
Exposure = ₹5,00,000
(iv). Other Derivative Instruments
For any derivative not covered above, exposure is calculated using the notional market value of the contract.
Notional value represents the value of the underlying exposure represented by the derivative contract.
Example:
Notional market value of a derivative contract = ₹25 crore
Exposure considered = ₹25 crore
7.2.7
(a). Idle Cash and Cash Equivalents
Idle cash and cash equivalents are not included while calculating total exposure.
This means simply holding unutilised cash does not increase the AIF's leverage.
Example:
AIF has:
Investments: ₹80 crore
Idle cash: ₹20 crore
Only the ₹80 crore investment exposure is considered for leverage.
The ₹20 crore idle cash is excluded.
(b). Long Put Positions
A long put position is treated as short exposure.
This is because a put option generally gains value when the price of the underlying asset falls.
Example:
AIF buys put options on XYZ Ltd.
The position is treated as short exposure for leverage calculation.
(c). Short Put Positions
A short put position is treated as long exposure.
The AIF has an obligation linked to the underlying asset if the option is exercised.
Example:
AIF sells put options on XYZ Ltd.
The position is treated as long exposure for leverage calculation.
(d). Short Selling through SLBM
If an AIF short sells a stock through the Securities Lending and Borrowing Mechanism (SLBM), it is treated as short exposure.
Example:
AIF borrows shares of XYZ Ltd. through SLBM.
It sells those shares in the market.
This creates a short exposure for leverage calculation.
(e). Temporary Borrowing Against Capital Commitments
Temporary borrowing does not need to be included in leverage calculation if:
The borrowing is temporary.
It relates to the AIF's capital commitments from investors.
The borrowing is fully covered by those capital commitments.
Example:
Investors have committed ₹100 crore to the AIF.
The AIF temporarily borrows ₹20 crore.
The ₹20 crore borrowing is fully covered by the investors' capital commitments.
Therefore, this temporary borrowing need not be included when calculating leverage.
7.2.8
Offsetting of Positions for Leverage Calculation
Offsetting of positions is permitted while calculating the leverage of a Category III AIF.
However, this is allowed only for transactions undertaken for:
Hedging.
Portfolio rebalancing.
The offsetting must be carried out in accordance with the conditions specified in Para 13.18 of the SEBI Master Circular for Mutual Funds dated March 20, 2026.
Understanding Offsetting
When an AIF has positions that counterbalance each other, the corresponding exposure may be offset for leverage calculation, subject to the permitted conditions.
This prevents the AIF from being treated as having excessive leverage where one position is intended to reduce or neutralise the risk of another position.
Example: Hedging
AIF has:
Long exposure in a stock: ₹100 crore
Short derivative position used specifically to hedge that stock exposure: ₹40 crore
If the positions qualify for permitted offsetting, the ₹40 crore short position can be offset against the ₹100 crore long position.
Net exposure considered = ₹60 crore.
Example: Portfolio Rebalancing
An AIF has an existing long position of ₹80 crore.
It enters into an offsetting position of ₹30 crore as part of portfolio rebalancing.
If the transaction satisfies the prescribed conditions, the positions may be offset for leverage calculation.
7.2.9
Gross exposure means the sum of all exposures of the AIF without taking into account any permitted offsetting.
In other words, when calculating gross exposure:
Long positions are included.
Short positions are included.
Positions that could otherwise be offset for hedging or portfolio rebalancing are not offset.
Gross leverage is then calculated by comparing gross exposure with the NAV of the AIF.
Formula: Gross Leverage = Gross Exposure ÷ NAV
Example
Long exposure = ₹120 crore
Short exposure = ₹80 crore
NAV = ₹100 crore
Gross exposure: ₹120 crore + ₹80 crore = ₹200 crore
Gross leverage: ₹200 crore ÷ ₹100 crore = 2x
Difference from Normal Leverage
Leverage: Permitted offsetting may be applied for qualifying hedging and portfolio rebalancing transactions.
Gross leverage: No such offsetting is applied. All exposures are added together.
7.2.10
Calculation of NAV of AIF
The NAV (Net Asset Value) of the AIF is calculated by taking the value of all securities held by the AIF.
The securities are adjusted for mark-to-market (MTM) gains or losses.
Cash and cash equivalents held by the AIF are also included while calculating NAV.
Any funds borrowed by the AIF are excluded from the NAV calculation.
Example
Suppose an AIF has:
Value of securities = ₹80 crore
MTM gain = ₹5 crore
Cash and cash equivalents = ₹15 crore
Borrowed funds = ₹20 crore
The NAV is: ₹80 crore + ₹5 crore + ₹15 crore = ₹100 crore
The ₹20 crore borrowed funds are not included in calculating NAV.
7.2.11
Scheme-Level Application of Restrictions
All the restrictions and limits mentioned above apply at the individual scheme level.
So, each AIF scheme must independently comply with the applicable:
Leverage limits
Exposure limits
Investment concentration limits
Other applicable prudential requirements.
Example
Suppose an AIF has two schemes:
Scheme A
Scheme B
The exposure and leverage of Scheme A are calculated separately from Scheme B.
If Scheme A reaches its maximum permitted leverage, it cannot rely on the unused leverage capacity of Scheme B.
Similarly, a breach or limit applicable to one scheme is not automatically combined with or adjusted against another scheme.
7.3. Breach of leverage limits
7.3.1.
All Category III AIFs must have adequate systems to continuously monitor their exposures.
The AIF must be able to track its exposure arising from:
Securities.
Derivatives.
Borrowings.
Other sources of leverage.
It is the responsibility of the AIF to ensure that its leverage does not exceed the prescribed limit at any point of time.
Therefore, compliance is not checked only at the end of a day or at periodic intervals.
Example
Suppose a Category III AIF has a NAV of ₹100 crore.
Its maximum permitted leverage is 2x, meaning maximum exposure is ₹200 crore.
If market movements cause its exposure to increase from ₹190 crore to ₹205 crore, the AIF would exceed the permitted leverage limit.
The AIF must have systems capable of identifying and managing such exposure so that the leverage does not exceed the prescribed limit.
7.3.2.
Daily Reporting of Leverage to Custodian
All Category III AIFs must report their leverage to the custodian.
The leverage to be reported is calculated at the end of each day.
The calculation must be based on the closing prices of the relevant securities and contracts.
The AIF must submit this leverage information to the custodian by the end of the next working day.
Example
Monday: AIF's leverage is calculated using Monday's closing prices.
Tuesday: The AIF must report Monday's leverage to the custodian.
The report must be submitted by the end of Tuesday, i.e. the next working day.
7.3.3.
In Case of Breach of Leverage Limit
If a Category III AIF breaches the prescribed leverage limit, the following obligations apply:
(a) Obligations of the AIF
(i). Report to the Custodian
The AIF shall report the breach to the custodian.
The report must be sent by the end of the same day on which the breach occurred.
(ii). Report to Investors
The AIF shall report the breach to all its investors.
The report must be sent before 10:00 a.m. on the next working day.
The report must mention:
The fact that a leverage limit has been breached.
The reasons for the breach.
(iii). Square Off Excess Exposure
The AIF shall square off the excess exposure resulting from the breach.
The AIF must bring its leverage back within the prescribed limit by the end of the next working day.
This requirement to rectify the breach does not prevent SEBI from taking any regulatory action against the AIF.
SEBI may take action under AIF Regulations, or SEBI Act.
Example:
Permitted exposure = ₹200 crore.
Actual exposure = ₹220 crore.
Excess exposure = ₹20 crore.
The AIF must square off the excess exposure and bring the leverage back within the permitted limit by the end of the next working day.
(iv). Confirmation to Investors
Once the excess exposure has been squared off, the AIF shall send a confirmation to all investors.
The confirmation must be sent by the end of the day on which the excess exposure was squared off.
Example:
Breach occurs on Monday.
Excess exposure is squared off on Tuesday.
Confirmation must be sent to all investors by the end of Tuesday.
Timeline
(i). Same day: Report breach to custodian.
(ii). Next working day, before 10 a.m.: Inform all investors of the breach and reasons.
(iii). Next working day, by end of day: Square off excess exposure and restore leverage within the limit.
(iv). Day of squaring off, by end of day: Send confirmation to all investors.
(b). Obligations of the Custodian
(i). Report the Breach to SEBI
The custodian shall report the breach to SEBI.
The report must be submitted before 10:00 a.m. on the next working day.
The report must contain:
Name of the fund.
Extent of the leverage breach.
Reasons for the breach.
Example:
If the AIF breaches the leverage limit on Monday:
The custodian must report the breach to SEBI before 10:00 a.m. on Tuesday, assuming Tuesday is the next working day.
The report must state the fund's name, the extent of the breach and the reasons for it.
(ii). Confirmation of Squaring Off
Once the AIF squares off the excess exposure, the custodian shall send a confirmation to SEBI.
The confirmation must be sent by the end of the day on which the excess exposure was squared off.
Example:
Breach occurs on Monday.
Excess exposure is squared off on Tuesday.
The custodian must send confirmation to SEBI by the end of Tuesday.
Timeline
Day of breach: AIF breaches leverage limit.
Next working day, before 10 a.m.: Custodian reports breach to SEBI.
Day excess exposure is squared off, by end of day: Custodian confirms squaring off to SEBI.
7.4. Risk Management and Compliance
All Category III AIFs which employ leverage shall:
7.4.1.
Every Category III AIF should have an adequate and comprehensive risk management framework.
The framework must be supported by an independent risk management function.
The risk management framework and function should be appropriate to:
Size of the fund.
Complexity of the fund.
Risk profile of the fund.
(i). Comprehensive Risk Management Framework
The AIF should have systems and processes to identify, assess, monitor and manage the various risks associated with its investments and operations.
This may include monitoring:
Market risk
Liquidity risk
Leverage risk
Counterparty risk
Concentration risk
Operational risk
(ii). Independent Risk Management Function
Risk management should be performed by a function that is independent from the investment decision-making function.
This helps ensure that the person or team responsible for identifying risks is not influenced by the investment team whose decisions are being assessed.
(iii). Proportionate to the Fund
The risk management framework should be designed according to the size, complexity and risk profile of the particular AIF.
Example
A Category III AIF with ₹1,000 crore of assets, extensive derivative exposure and leverage would require a more sophisticated risk management system than a smaller AIF with relatively simple investments.
Its independent risk function should be capable of continuously monitoring:
Leverage.
Derivative exposure.
Concentration limits.
Market movements.
Other material risks.
7.4.2.
Compliance Function and Operational Controls
The AIF must have a strong and independent compliance function.
The compliance function must be appropriate to the:
Size of the fund.
Complexity of the fund.
Risk profile of the fund.
(i). Independent Compliance Function
The compliance function should operate independently from the investment decision-making function.
Its role is to ensure that the AIF, its Manager and relevant personnel comply with applicable:
AIF Regulations.
SEBI circulars and directions.
Internal policies.
Other applicable regulatory requirements.
(ii). Sound Operations and Infrastructure
The AIF must have sound and properly controlled operational systems and infrastructure.
This includes appropriate systems for:
Investment operations.
Record keeping.
Reporting.
Risk monitoring.
Regulatory compliance.
(iii). Adequate Resources
The AIF must have adequate resources to perform its compliance and operational functions effectively.
This includes sufficient:
Qualified personnel.
Technology and systems.
Operational support.
(iv). Checks and Balances
The AIF must maintain proper checks and balances in its operations.
This ensures that important activities are not controlled entirely by one person or function.
It helps prevent:
Errors.
Conflicts of interest.
Misuse of authority.
Operational failures.
Example
If a Category III AIF has significant leverage and derivative exposure, it should have:
An independent compliance function.
Adequate compliance personnel.
Proper systems to monitor regulatory limits.
Controlled operational processes.
Checks and balances between the investment, risk, compliance and operations functions.
7.4.3.
The AIF must maintain appropriate records of all trades and transactions carried out by it.
The records should contain sufficient information to enable the AIF to demonstrate and verify its transactions and activities.
Such records must be properly maintained and readily available.
SEBI may require these records whenever necessary.
The AIF must provide the required information to SEBI whenever sought.
Example
A Category III AIF enters into:
Equity transactions.
Futures and options transactions.
Short-selling transactions.
Other derivative transactions.
The AIF must maintain appropriate records of these transactions.
If SEBI conducts an inspection and asks for the trading records, the AIF must be able to produce the relevant information.
7.4.4.
Disclosure and Management of Conflicts of Interest
AIFs must provide full disclosure and transparency regarding any conflicts of interest.
They must also disclose how such conflicts are managed.
These disclosures must be made to investors in accordance with:
Regulation 21 of the AIF Regulations.
Any other guidelines or requirements specified by SEBI from time to time.
(i). Disclosure in Placement Memorandum
Conflicts of interest must be disclosed in the Placement Memorandum (PPM).
This gives investors information about potential conflicts before they invest.
Example:
The Manager of an AIF also manages another fund.
Both funds may have an opportunity to invest in the same company.
This potential conflict should be disclosed in the PPM along with the mechanism for managing it.
(ii). Disclosure When Conflict Arises
If a new conflict arises after the PPM has been issued, it must be disclosed to investors through separate correspondence.
Therefore, disclosure is not limited to the time of initial investment.
Example:
An AIF's Manager later acquires an interest in a company in which the AIF proposes to invest.
This creates a potential conflict.
The Manager must disclose the conflict to investors when it arises through separate communication.
(iii). Disclosure to SEBI
The relevant conflict-of-interest information must also be provided to SEBI whenever SEBI requires it.
7.5. Redemption norms for open ended schemes of Category III AIFs
7.5.1.
Partial Redemption in Open-Ended AIF Scheme
With respect to open-ended scheme of an AIF.
If an investor requests partial redemption of its units, the AIF must check whether the investor will continue to meet the minimum investment requirement after the redemption.
The investor's remaining investment in the AIF must not fall below the minimum limit prescribed under the AIF Regulations.
Example:
Investor A has invested ₹1 crore in an AIF scheme.
Suppose the applicable minimum investment requirement is ₹1 crore.
Investor A requests a partial redemption of ₹20 lakh.
After redemption, Investor A would have only ₹80 lakh invested.
Since ₹80 lakh is below the prescribed minimum investment limit of ₹1 crore, the AIF cannot allow the partial redemption in this manner.
Example:
Investor A has invested ₹2 crore.
Minimum investment requirement = ₹1 crore.
Investor A requests redemption of ₹50 lakh.
Remaining investment = ₹1.5 crore.
Since ₹1.5 crore remains above the minimum required ₹1 crore, the partial redemption may be permitted, subject to other applicable conditions.
7.5.2.
Liquidity Requirement for AIFs
The Manager of the AIF or scheme of the AIF must ensure that the fund maintains an adequate and sufficient level of liquidity.
The purpose is to ensure that the AIF or scheme has enough readily available funds to meet its financial obligations.
Adequate liquidity should generally enable the AIF to meet:
Redemption obligations of investors; and
Other liabilities and expenses of the fund.
Example:
An open-ended AIF has investors who may request redemption of their units.
The Manager must ensure that the AIF has sufficient liquidity to honour these redemption requests when they become due.
The Manager should therefore avoid investing the entire fund in assets that cannot be readily converted into cash when required.
7.5.3.
Liquidity Management Policy and Process
The Manager must establish, implement and maintain an appropriate liquidity management policy and process.
The purpose is to ensure that the liquidity of the underlying assets is consistent with the overall liquidity profile of the AIF or scheme.
So, the Manager must ensure that the fund's investments can be converted into cash sufficiently quickly to meet the fund's expected liquidity requirements.
(i). Liquidity of Underlying Assets
The Manager must assess how easily each investment can be sold or converted into cash.
For example:
Listed shares generally have higher liquidity.
Unlisted securities may be less liquid.
Certain private investments may take a long time to sell.
(ii). Overall Liquidity Profile of the Fund
The Manager must consider the fund's expected cash requirements, including:
Investor redemption requests.
Expenses.
Other liabilities.
Other financial obligations.
(iii). Matching Asset Liquidity with Fund Requirements
The Manager must ensure that the liquidity of the investments is compatible with the fund's overall liquidity needs.
Example
Suppose an open-ended AIF allows investors to redeem units periodically.
The Manager cannot invest almost the entire fund in highly illiquid assets that may take several months or years to sell.
The Manager should maintain an appropriate mix of liquid and less-liquid investments so that it can meet redemption obligations and other liabilities when required.
7.5.4.
Disclosure of Suspension of Redemptions
The Manager of the AIF must clearly disclose to investors that redemptions may be suspended in exceptional circumstances.
This possibility must be specifically mentioned in the Private Placement Memorandum (PPM).
The purpose is to ensure that investors are aware before investing that redemption may not always be available immediately.
Example
An open-ended AIF normally allows investors to redeem their units.
However, an exceptional situation may arise where the fund faces severe liquidity constraints and cannot reasonably meet redemption requests.
In such circumstances, the fund may suspend redemptions, subject to the applicable regulatory requirements and the terms of the scheme.
Investors should already be informed about this possibility through the PPM.
7.5.5.
The Manager can suspend redemptions only in limited circumstances.
(a). Exceptional Circumstances
The Manager may suspend redemptions in exceptional circumstances.
However, the suspension must be exclusively in the best interest of the investors of the AIF.
Therefore, the Manager cannot suspend redemptions merely for its own convenience or to avoid normal investment losses.
(b). Requirement under Regulations or SEBI Direction
Redemptions may also be suspended where:
The AIF Regulations require such suspension.
SEBI requires or directs the suspension.
7.5.6.
Operational Requirements During Suspension of Redemptions
The Manager of the AIF must have the necessary operational capability to suspend redemptions.
The suspension must be carried out in an orderly and efficient manner.
This means the Manager should have appropriate systems, procedures and controls in place to implement a redemption suspension when required.
During Suspension of Redemptions
While redemptions are suspended, the Manager shall not accept new subscriptions into the AIF/scheme.
Therefore, investors cannot:
Redeem their existing units.
New investors cannot subscribe for new units during the suspension period.
Example
An open-ended AIF suspends redemptions because of an exceptional liquidity situation
During the suspension:
Existing investors' redemption requests are temporarily not processed
The Manager must not accept new subscriptions from investors.
Once the suspension is lifted, normal redemption and subscription activities can resume, subject to applicable conditions.
7.5.7.
If the Manager decides to suspend redemptions, the decision must be properly documented.
The documentation should clearly record:
(i). Reasons for Suspension - The Manager must record the reasons why redemptions are being suspended.
(ii). Planned Actions
The Manager must document the actions it plans to take during the suspension.
This should indicate how the Manager intends to address the situation and eventually resume redemptions.
(iii) Communication to SEBI - The decision, including the reasons for suspension and planned actions, must be appropriately communicated to SEBI.
(iv) Communication to Investors - The same information must also be appropriately communicated to the investors.
Example
An open-ended AIF suspends redemptions because a significant portion of its portfolio has become temporarily illiquid.
The Manager must:
Document the reason for the suspension.
Record the steps planned to resolve the liquidity issue.
Communicate the decision and relevant details to SEBI.
Inform all investors about the suspension, its reasons and the planned actions.
7.5.8
The Manager must regularly review the suspension of redemptions.
The suspension should not continue indefinitely without periodic assessment.
The Manager must assess whether the circumstances that led to the suspension still exist.
The Manager must take all necessary steps to resume normal operations as soon as possible.
While taking these steps, the Manager must have regard to the best interests of the investors.
Example
An AIF suspends redemptions because of a temporary liquidity problem.
The Manager must:
Regularly review the liquidity position.
Assess whether the reason for suspension still exists.
Take necessary steps to resolve the liquidity issue.
Resume normal redemption operations as soon as it is reasonably possible.
The Manager should not keep redemptions suspended merely for convenience once the circumstances requiring suspension have been resolved.
7.5.9.
Communication During Suspension of Redemptions
(i). Keep SEBI and Investors Informed
The Manager of the AIF must keep SEBI and the investors informed about the actions being taken during the period of suspension.
This means the Manager must provide updates on the steps being undertaken to resolve the situation that resulted in the suspension.
Example:
Redemptions are suspended because of a liquidity issue.
During the suspension, the Manager takes steps to improve liquidity.
The Manager must keep SEBI and investors informed about these actions throughout the suspension period.
(ii). Communication of Resumption
Once the Manager decides to resume normal operations, this decision must also be communicated to SEBI, and Investors.
The communication must be made as soon as possible.
7.6. Breach in corpus of open ended schemes of Category III AIFs
Minimum Corpus Requirement for Open-Ended Scheme
For the purposes of Regulation 10(b) of the AIF Regulations, a special requirement applies when the corpus of an open-ended scheme falls below ₹20 crore.
The ₹20 crore threshold acts as the minimum corpus level for the open-ended scheme under this provision.
Therefore, if the corpus of an open-ended scheme falls below ₹20 crore, the Manager must take the actions prescribed by SEBI under the applicable requirements.
7.6.1.
If the corpus of an open-ended AIF scheme falls below ₹20 crore, the AIF must comply with the prescribed reporting requirement.
The AIF shall intimate SEBI upon receiving a redemption request from an investor.
The intimation must be made within 2 working days from the date of receiving the redemption request.
Example:
Investor submits a redemption request on Monday.
The AIF receives the request on Monday.
The AIF must intimate SEBI within 2 working days of receiving the request.
The reporting timeline is therefore linked to the date of receipt of the redemption request.
7.6.2.
If the corpus of an open-ended AIF scheme falls below ₹20 crore, the AIF must take necessary corrective action.
The objective is to bring the scheme size back to at least ₹20 crore.
The AIF must restore the scheme size within 3 months from the date of the breach.
Example:
Suppose the scheme corpus falls from ₹25 crore to ₹18 crore.
The scheme has therefore breached the ₹20 crore minimum corpus requirement.
The AIF must take necessary steps to increase the scheme size from ₹18 crore to at least ₹20 crore.
The restoration must be completed within 3 months from the date on which the breach occurred.
7.6.3
Failure to Restore Minimum Corpus
If the corpus of the open-ended AIF scheme falls below ₹20 crore, the AIF is given 3 months to restore the scheme corpus to at least ₹20 crore.
If the AIF fails to restore the corpus within this 3-month period, it must take the following actions:
(i). Redeem Entire Units
The AIF must redeem the entire units held by all investors in the scheme.
This means the scheme cannot continue with only some investors being redeemed while others remain invested.
(ii). Wind Up the Scheme
After redeeming the units of all investors, the AIF must wind up the scheme.
The winding-up must be carried out in accordance with Regulation 29 of the AIF Regulations.
Example:
Scheme corpus falls from ₹22 crore to ₹18 crore.
The AIF gets 3 months to restore the corpus to at least ₹20 crore.
Suppose the AIF fails to do so and the corpus remains at ₹18 crore after 3 months.
The AIF must then:
Redeem the entire units of all investors.
Wind up the scheme in accordance with Regulation 29.
7.6.4.
Action for Repeated Violations
If an AIF repeatedly violates the applicable requirements, SEBI may take appropriate regulatory action against the AIF.
The provision applies where there are repeated violations, indicating continued or recurring non-compliance.
SEBI has the discretion to determine the appropriate action based on the nature and circumstances of the violations.
Example
An AIF's scheme repeatedly falls below the prescribed ₹20 crore corpus requirement.
The AIF repeatedly fails to take the required corrective action within the prescribed period.
If such violations continue or recur, SEBI may take appropriate action against the AIF.
