AIFs circumventing regulations: Over 40 cases involving Rs 30,000 crore, says SEBI

SEBI has proposed to introduce a general obligation in the existing AIF regulations that would require AIFs, managers and their key management personnel to ensure that their operations and investments do not facilitate circumvention of regulations administered by any financial sector regulator.

Market regulator SEBI (Securities and Exchange Board of India) has found more than 40 cases where AIFs (alternative investment funds) appear to have been structured to facilitate circumvention of certain financial sector regulations, to the tune of over Rs 30,000 crore.

One such method is setting up these AIFs for evergreening of stressed loans of some regulated lenders. "This circumvents Reserve Bank of India regulations and disclosure requirements around asset restructuring and recognition of non-performing assets," SEBI said in a consultation paper on January 20.

On December 19, 2023, RBI had issued a directive barring lenders from investing in AIFs linked to borrowing companies. Following that, banks such as HDFC Bank and RBL Bank, and NBFCs like Piramal Enterprises and IIFL made provisions for AIF investments.

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In another method of AIF misuse, SEBI noted that some foreign investors appear to have set up AIFs with domestic managers/sponsors to invest in sectors prohibited for FDI (foreign direct investment) or beyond the allowed FDI sectoral limit.

"Further, foreign investors may set up AIFs to invest foreign money in debt/debt securities where foreign investment is envisaged through the FPI/ECB route," SEBI said.

SEBI also listed a third modus operandi of AIF misuse. Certain AIFs having single or very few investors invest in IPOs under QIB (qualified institutional buyer) quota and influence price discovery.

"Note that such investors of AIFs would otherwise be ineligible for QIB status on their own," SEBI said.

The regulator said that these cases are not exhaustive and its investigation is not complete yet.

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Proposed approach

SEBI has proposed to introduce a general obligation in the existing AIF regulations that would require AIFs, managers and their key management personnel to ensure that their operations and investments do not facilitate circumvention of regulations administered by any financial sector regulator.

SEBI has also facilitated the setting up of a pilot Standards Forum for AIFs (“SFA”) for formulating standards for ease of implementation of AIF regulations, in consultation with the regulator.