Special Situation Funds
Chapter III -B - Special Situation Funds
Section 19I. Definitions
Unless the context requires otherwise, every term defined in this Chapter shall have the meaning specifically assigned to it.
The same meaning also applies to:
Cognate expressions (words derived from the defined term); and
Variations of the defined term.
Accordingly, whenever a defined term or its related expression is used in this Chapter:
It must be interpreted in accordance with the definition provided, unless the context indicates a different meaning.
19(1). Resolution Applicant
A Resolution Applicant shall have the same meaning as assigned to it under the Insolvency and Bankruptcy Code, 2016 (IBC).
Accordingly, the AIF Regulations do not provide a separate definition of the term.
Whenever the term "Resolution Applicant" is used in this Chapter, it must be interpreted in accordance with the definition under the IBC.
Understanding Resolution Applicant
Under the Insolvency and Bankruptcy Code, 2016 (IBC):
A Resolution Applicant is a person or entity that seeks to rescue or acquire a financially distressed company undergoing insolvency proceedings.
The Resolution Applicant may submit a Resolution Plan:
Individually; or
Jointly with one or more other persons.
The Resolution Plan is submitted to the Resolution Professional (RP) after the RP invites eligible applicants to submit plans during the Corporate Insolvency Resolution Process (CIRP).
A Resolution Plan is a comprehensive proposal explaining how the distressed company will be revived and managed. It typically includes:
The amount proposed to be paid to creditors.
The manner in which different classes of creditors will be paid.
The proposed restructuring of the company's business or debts.
The source of funding for implementing the plan.
Changes in management or ownership, if any.
The strategy for reviving the company and making it financially viable.
The Resolution Professional examines the submitted plans and places compliant plans before the Committee of Creditors (CoC).
If the Committee of Creditors approves a Resolution Plan with the required voting threshold, it is submitted to the National Company Law Tribunal (NCLT) for approval.
Once approved by the NCLT, the Resolution Applicant takes over the company in accordance with the approved Resolution Plan.
19(2). Special Situation Asset
A Special Situation Asset is a financially distressed asset that presents an opportunity for:
Investment.
Restructuring.
Recovery.
Turnaround.
These assets are typically associated with companies facing financial distress, loan defaults, insolvency, or other special situations.
(a). Stressed Loans
A Special Situation Asset includes stressed loans that are available for acquisition in any of the following situations:
A stressed loan available for acquisition under Clause 58 of the RBI Master Direction – Transfer of Loan Exposures Directions, 2021, as amended from time to time.
Clause 58 permits eligible entities to acquire stressed loan exposures from lenders in accordance with the RBI framework.
A stressed loan transferred as part of a Resolution Plan approved under the Insolvency and Bankruptcy Code, 2016 (IBC).
During the Corporate Insolvency Resolution Process (CIRP), the approved Resolution Plan may provide for the transfer of stressed loans to investors.
A stressed loan transferred under any other policy or framework issued by:
The Reserve Bank of India (RBI) or
The Government of India (GoI), from time to time.
Example:
A bank has a ₹200 crore loan that has become a Non-Performing Asset (NPA).
The bank transfers this stressed loan to a Special Situation Fund under the RBI's Transfer of Loan Exposures Directions.
The acquired loan becomes a Special Situation Asset under Clause 9(a).
(b). Security Receipts issued by an Asset Reconstruction Company (ARC)
A Special Situation Asset also includes Security Receipts (SRs) issued by an Asset Reconstruction Company (ARC) registered with the RBI.
An ARC acquires stressed assets from banks and financial institutions.
To finance these acquisitions, the ARC issues Security Receipts to investors.
These Security Receipts represent the investor's beneficial interest in the underlying pool of distressed assets.
Since their value depends on the recovery of stressed assets, they are treated as Special Situation Assets.
Example
An RBI-registered ARC purchases distressed loans from a bank.
The ARC issues Security Receipts to investors representing their interest in those loans.
A Special Situation Fund purchases these Security Receipts.
The Security Receipts qualify as Special Situation Assets under Clause 9(b).
(c). Securities of Investment Companies
(i).
A Special Situation Asset also includes the securities of an investee company, provided the company satisfies the following condition:
The investee company must be one:
Whose stressed loans are available for acquisition under Clause 58 of the RBI Master Direction – Transfer of Loan Exposures Directions, 2021, as amended from time to time; or
Whose stressed loans are transferred as part of a Resolution Plan approved under the Insolvency and Bankruptcy Code, 2016 (IBC); or
Whose stressed loans are available for acquisition under any other policy or framework issued by: The Reserve Bank of India (RBI); or The Government of India (GoI), from time to time.
In this case , Special Situation Asset includes the securities of a distressed company, and not just the distressed loan itself.
If a company's stressed loans qualify for transfer under any of the specified frameworks, then the shares, debentures, or other securities of that company also become Special Situation Assets.
This enables a Special Situation Fund to invest directly in the securities of financially distressed companies instead of acquiring only their stressed loans.
Example:
ABC Ltd. has defaulted on its bank loans.
The bank decides to transfer the stressed loan under Clause 58 of the RBI Transfer of Loan Exposures Directions.
Since ABC Ltd.'s stressed loan qualifies for acquisition under the RBI framework, the equity shares and other securities of ABC Ltd. also qualify as Special Situation Assets under Clause 9(c)(i).
(ii).
The investee company must be one:
Against whose borrowings, Security Receipts (SRs) have been issued by an Asset Reconstruction Company (ARC) registered with the Reserve Bank of India (RBI).
A company may have borrowed money from banks or financial institutions.
If the company defaults on its borrowings, the lender may transfer those stressed loans to an Asset Reconstruction Company (ARC).
The ARC then issues Security Receipts (SRs) to investors, representing a beneficial interest in those stressed loans.
Once Security Receipts have been issued against the company's borrowings:
The securities (such as equity shares, preference shares, or debentures) of that company also become Special Situation Assets.
This allows a Special Situation Fund to invest not only in the Security Receipts but also directly in the securities of the distressed company.
Example:
ABC Ltd. defaults on a ₹500 crore loan from a bank.
The bank sells the loan to an RBI-registered Asset Reconstruction Company (ARC).
The ARC issues Security Receipts (SRs) to investors against this loan.
Since Security Receipts have been issued against ABC Ltd.'s borrowings:
The equity shares and other securities of ABC Ltd. qualify as Special Situation Assets under Clause 9(c)(ii).
(iii).
The investee company must be one:
Whose borrowings are subject to the Corporate Insolvency Resolution Process (CIRP) under Chapter II of the Insolvency and Bankruptcy Code, 2016 (IBC).
A company may default on its loans or other financial obligations.
If insolvency proceedings are initiated against the company under Chapter II of the IBC, its borrowings become subject to the Corporate Insolvency Resolution Process (CIRP).
During CIRP, efforts are made to:
Resolve the company's financial distress.
Restructure its debts.
Find a Resolution Applicant.
Revive the company as a going concern.
Once a company's borrowings are under CIRP, the securities of that company (such as equity shares, preference shares, or debentures) are also treated as Special Situation Assets.
This enables a Special Situation Fund to invest directly in the securities of companies undergoing insolvency resolution.
Example:
ABC Ltd. defaults on its bank loans.
The National Company Law Tribunal (NCLT) admits an application under the IBC.
After the application , ABC Ltd. enters the Corporate Insolvency Resolution Process (CIRP).
Since ABC Ltd.'s borrowings are now subject to CIRP, its equity shares and other securities qualify as Special Situation Assets under Clause 9(c)(iii).
(iv).
The investee company must be one:
That has disclosed all its payment defaults in accordance with the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2018 (ICDR Regulations).
The disclosed defaults must relate to:
Payment of interest or
Repayment of the principal amount on:
Loans from banks.
Loans from financial institutions.
Loans from Systemically Important Non-Deposit Taking Non-Banking Financial Companies (NBFCs).
Loans from Deposit Taking NBFCs.
Listed debt securities.
Unlisted debt securities.
The payment default must have continued for at least 90 calendar days after the date on which the default first occurred.
For a company that have been in continuous default for at least 90 days on significant borrowings or debt securities:
The company must have publicly disclosed these defaults as required under the ICDR Regulations.
Once these conditions are satisfied, the company's securities (such as equity shares, preference shares, or debentures) qualify as Special Situation Assets.
This enables a Special Situation Fund to invest in companies that are experiencing prolonged financial distress, even if they have not yet entered insolvency proceedings.
Example:
ABC Ltd. fails to pay interest on a loan obtained from a bank.
The company discloses this payment default in its offer documents as required under the SEBI ICDR Regulations, 2018.
The default continues for more than 90 calendar days.
As a result, the equity shares and other securities of ABC Ltd. qualify as Special Situation Assets under Clause 9(c)(iv).
With respect to 9(c)(iii) and 9(c)(iv):
In cases covered under:
Clause 9(c)(iii) (borrowings under the Corporate Insolvency Resolution Process).
Clause 9(c)(iv) (payment defaults continuing for at least 90 days)
The securities of the investee company will qualify as Special Situation Assets only if the following condition is also satisfied.
The credit rating of the company's:
Financial instruments;
Credit instruments; or
Borrowings
must have been downgraded to "D" or an equivalent rating by a recognised credit rating agency.
Understanding "D" Rating
A "D" rating generally indicates that the borrower has defaulted on its payment obligations.
It is the lowest credit rating and signifies a very high credit risk, indicating that the company has failed to make timely repayment of principal or interest.
If the rating agency uses a different rating scale, an equivalent default rating will also satisfy this condition.
Example
ABC Ltd. enters the Corporate Insolvency Resolution Process (CIRP) under Clause 9(c)(iii).
However, its borrowings are still rated BBB.
In this case, the securities of ABC Ltd. will not qualify as Special Situation Assets under Clause 9(c)(iii) because the proviso is not satisfied.
If , ABC Ltd.'s borrowings are downgraded by a recognised credit rating agency to "D".
Since the company is under CIRP and its borrowings have been downgraded to "D", the securities of ABC Ltd. qualify as Special Situation Assets.
(d). Any other asset as may be specified by the Board from time to time.
19I(3).
Special Situation Fund
A Special Situation Fund (SSF) is a Category I Alternative Investment Fund (AIF).
It is established with the objective of investing in Special Situation Assets.
The fund must make such investments in accordance with the investment objectives stated in its Placement Memorandum.
Accordingly, an SSF cannot invest in Special Situation Assets that are outside its disclosed investment strategy or objectives.
In addition to making investments, a Special Situation Fund may act as a Resolution Applicant under the Insolvency and Bankruptcy Code, 2016 (IBC).
This means that the SSF can submit a Resolution Plan for a company undergoing the CIRP and, if the plan is approved, acquire and revive the distressed company.
Example:
ABC Special Situation Fund is registered as a Category I AIF.
Its Placement Memorandum states that it will invest in:
Stressed loans.
Security Receipts.
Securities of distressed companies.
During the insolvency of XYZ Ltd., the Fund submits a Resolution Plan under the IBC to acquire and revive the company.
If the Resolution Plan is approved by the Committee of Creditors (CoC) and the NCLT, the Fund becomes the Resolution Applicant and implements the approved resolution plan.
Section 19J. Applicability
19J(1).
The provisions of this Chapter apply to Special Situation Funds (SSFs).
They also apply to every scheme launched by a Special Situation Fund.
Accordingly, both:
The Special Situation Fund as an AIF and
Each scheme launched by the Fund, must comply with the provisions of this Chapter.
The regulatory requirements are therefore applicable not only at the fund level but also at the individual scheme level.
Example:
ABC Special Situation Fund launches three schemes:
Scheme I – Stressed Loans.
Scheme II – Security Receipts.
Scheme III – Distressed Equity Investments.
All three schemes, along with ABC Special Situation Fund itself, must comply with the provisions of this Chapter.
19J(2). Not in the Act 9Act directly mentions 19J(3)
19J(3).
All other provisions of the AIF Regulations shall apply to:
Special Situation Funds (SSFs).
Schemes launched by Special Situation Funds.
Their Sponsors.
Their Managers.
However, the following provisions do not apply to Special Situation Funds:
Regulation 10(b).
Regulation 10(c).
Regulation 15(1)(a).
Regulation 15(1)(c).
Regulation 15(1)(e).
Regulation 16(1)(a).
In addition to the AIF Regulations, the guidelines and circulars issued under these Regulations also apply to SSFs.
However, these provisions, guidelines, and circulars apply only to the extent that they are not inconsistent with this Chapter.
If there is any conflict between:
The provisions of this Chapter governing Special Situation Funds; and
Any other provision of the AIF Regulations, guideline, or circular
the provisions of this Chapter will prevail.
Section 19K. Registration of special situation funds
An applicant may apply to SEBI for registration as a Special Situation Fund (SSF).
The application must be made in accordance with the provisions of Chapter II of the SEBI (Alternative Investment Funds) Regulations.
Accordingly, an applicant is not required to follow a separate registration process for an SSF.
Instead, the applicant must comply with the same registration framework that applies to other Alternative Investment Funds under Chapter II, including:
Eligibility conditions.
Application procedure.
Submission of Form A.
Examination of the application by SEBI.
Grant of registration, if the prescribed conditions are satisfied.
Once registered as a Category I AIF, the fund must also comply with the additional provisions applicable specifically to Special Situation Funds under this Chapter.
Example:
XYZ Asset Management Pvt. Ltd. proposes to establish a fund that will invest in stressed loans and distressed companies.
It submits Form A and all required documents to SEBI in accordance with Chapter II of the AIF Regulations.
If SEBI is satisfied that the eligibility and registration requirements are fulfilled, it grants registration as a Special Situation Fund.
After registration, the Fund must comply not only with Chapter II but also with the special provisions governing Special Situation Funds.
Section 19L. Investment in special situation funds
19L(1).
Corpus of a Scheme of a Special Situation Fund
Every scheme launched by a Special Situation Fund (SSF) must have a minimum corpus.
The minimum corpus shall be such amount as may be specified by SEBI (the Board) from time to time.
Accordingly, the AIF Regulations do not prescribe a fixed corpus amount in this provision.
Instead, SEBI has the power to determine and revise the minimum corpus requirement through:
Circulars.
Guidelines.
Notifications.
Other directions issued from time to time.
Every scheme of an SSF must comply with the corpus requirement specified by SEBI before it can operate.
Example
SEBI specifies that every scheme of a Special Situation Fund must have a minimum corpus of ₹100 crore. (Usually)
ABC Special Situation Fund launches:
Scheme I with a corpus of ₹120 crore.
Scheme II with a corpus of ₹80 crore.
Scheme I complies with the requirement.
Scheme II does not comply because its corpus is below the minimum specified by SEBI.
19L(2).
A Special Situation Fund (SSF) shall accept investments from an investor only if the investment is of the value specified by SEBI (the Board).
The AIF Regulations do not prescribe a fixed minimum investment amount in this provision.
Instead, SEBI has the power to determine the minimum investment value through:
Circulars.
Guidelines.
Notifications.
Other directions issued from time to time.
Every investor must contribute at least the minimum amount specified by SEBI to invest in a Special Situation Fund.
The Special Situation Fund cannot accept an investment that is below the minimum value prescribed by SEBI.
Example:
SEBI specifies that the minimum investment in a Special Situation Fund shall be ₹10 crore.
Investor A proposes to invest ₹12 crore: The Special Situation Fund may accept the investment.
Investor B proposes to invest ₹6 crore: The Special Situation Fund cannot accept the investment because it is below the minimum amount specified by SEBI.
19L(3).
A Special Situation Fund (SSF) is prohibited from accepting investments from any Alternative Investment Fund (AIF).
However, there is one exception.
A Special Situation Fund may accept investments from another Special Situation Fund.
Accordingly:
A Special Situation Fund may invest in another Special Situation Fund.
A Category I AIF (other than an SSF) cannot invest in an SSF.
A Category II AIF cannot invest in an SSF.
A Category III AIF cannot invest in an SSF.
Objective: The investments in Special Situation Funds are not routed through other categories of AIFs, except where both funds are themselves Special Situation Funds.
Example
ABC Special Situation Fund is raising capital.
The following investors approach the Fund:
Another Special Situation Fund – Investment permitted.
A Venture Capital Fund – Investment not permitted.
A Private Equity Fund (Category II AIF) – Investment not permitted.
A Hedge Fund (Category III AIF) – Investment not permitted.
Section 19M. Investment by special situation funds
19M(1).
Investment Restrictions for Special Situation Funds
A Special Situation Fund (SSF) shall invest only in Special Situation Assets.
Accordingly, an SSF cannot invest in assets that do not qualify as Special Situation Assets under the AIF Regulations.
A Special Situation Fund may also act as a Resolution Applicant under the Insolvency and Bankruptcy Code, 2016 (IBC).
This means the Fund may:
Submit a resolution plan for a corporate debtor.
Participate in the Corporate Insolvency Resolution Process (CIRP).
Acquire or revive financially distressed companies through the IBC process
In addition to investing only in Special Situation Assets, a Special Situation Fund shall not invest in the following:
(i). Associates
A Special Situation Fund cannot invest in its own associates.
This restriction helps prevent:
Conflicts of interest.
Self-dealing.
Preferential treatment of related entities.
Example:
ABC Special Situation Fund and XYZ Finance Pvt. Ltd. are associates because they are under common control.
The Fund cannot invest in XYZ Finance Pvt. Ltd., even if it qualifies as a Special Situation Asset.
(ii). Units of Another Alternative Investment Fund
A Special Situation Fund cannot invest in the units of any Alternative Investment Fund (AIF).
Exception: It may invest in the units of another Special Situation Fund.
Accordingly:
Units of another Special Situation Fund – Investment permitted.
Units of a Venture Capital Fund – Investment prohibited.
Units of a Private Equity Fund (Category II AIF) – Investment prohibited
Units of a Category III AIF – Investment prohibited.
Example:
ABC Special Situation Fund proposes to purchase units of a Category II Private Equity Fund.
This investment is not permitted because the fund is not a Special Situation Fund.
(iii). Units of Related Special Situation Funds
A Special Situation Fund cannot invest in the units of another Special Situation Fund if that other SSF is:
Managed by its manager.
Sponsored by its sponsor.
Managed by an associate of its manager.
Sponsored by an associate of its sponsor.
This restriction applies even though investments in another Special Situation Fund are generally permitted.
The purpose is to prevent:
Circular investments.
Artificial fund inflows.
Conflicts of interest between related funds.
Example:
ABC Asset Management Ltd. manages:
SSF Alpha.
SSF Beta.
SSF Alpha cannot invest in the units of SSF Beta because both funds have the same manager.
Similarly, if two Special Situation Funds have related sponsors or managers, investments between them are prohibited.
19M(2).
Lock-in Period for Stressed Loans Acquired by a Special Situation Fund
When a Special Situation Fund (SSF) acquires a stressed loan under Clause 58 of the RBI Master Direction – RBI (Transfer of Loan Exposures) Directions, 2021, as amended from time to time.
Such a stressed loan shall be subject to a lock-in period.
The duration of the lock-in period shall be as specified by SEBI (the Board) from time to time.
The AIF Regulations do not prescribe a fixed lock-in period.
Instead, SEBI has the power to determine:
The length of the lock-in period.
The conditions governing the lock-in.
Any exemptions or modifications, if applicable.
Understanding Lock-In Period
A lock-in period is a period during which the Special Situation Fund cannot:
Transfer, sell, assign, or otherwise dispose of the stressed loan, unless permitted under the applicable regulations or by SEBI.
The objective is to ensure that Special Situation Funds acquire stressed loans for genuine resolution and restructuring purposes, rather than for immediate resale or short-term trading.
Example
ABC Special Situation Fund acquires a stressed loan from a bank under Clause 58 of the RBI Master Direction.
SEBI specifies a six-month lock-in period for such acquisitions.
During these six months:
The Fund cannot sell or transfer the stressed loan.
It must hold the loan until the lock-in period expires or unless an exception permitted by SEBI applies.
