SEBI proposes big regulatory changes for MFs, tweaks in TER, caps on brokerages

SEBI proposes big regulatory changes for MFs tweaks in TER, performance-based TER, caps on brokerages,

Market regulator Securities and Exchange Board of India (SEBI) has proposed key changes on expense ratio charged by mutual funds. SEBI has also proposed removal of statutory levies like STT, GST, etc. to be excluded from Total Expense Ratio (TER) limits. SEBI paper stated, “With a view to facilitate greater clarity and transparency, it is proposed to exclude all statutory levy i.e. STT, GST, CTT, Stamp duty from the expense ratio limits along with the present permissible expenses for brokerage, exchange and regulatory fees”.

New provision for optional performance based differential TER is proposed. SEBI paper stated, “A provision enabling expense ratio to be charged based on performance of a scheme has been introduced and same shall be voluntary for AMCs. A detailed framework in this regard shall be finalised separately in consultation with stakeholders”.

SEBI paper said, presently GST on management fees is permitted over and above the TER limit. However, all other statutory charges are part of the overall TER limit specified for mutual fund schemes. The expense ratio limits are proposed to be exclusive of statutory levy, so that any change in statutory levy in future are passed on to the investors.

A person who was consulted before the making of the proposed regulations said, “The size of mutual fund regulation is likely to be halved if the proposals are cleared in this form." The person also added that proposed regulation will be simple and easy for everyone to understand and remove ambiguity.

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SEBI has also proposed that exit load related 5 bps expense to be removed. SEBI said, the provision for additional expense of 5 bps allowed to the AMCs to charge the mutual fund schemes and was transitory in nature. Therefore, with an objective to rationalize cost for unitholder, this expense charged to the scheme has been removed from the draft MF Regulations, it said.

However, in order to reduce the impact of the proposed change on the operations of AMCs, first two slabs of the expense ratio of open-ended active schemes have been revised upward by 5 bps.

Similarly, brokerage caps have been reduced to 2 bps for cash market and 1 bps for derivatives. The consultation paper noted, “to protect interest of investor and to ensure that expenses are charged fairly only once to the investors, the brokerage charge has been revised from 12 bps to 2 bps for cash market transactions and 5 bps to 1 bps for derivative transactions to bring clarity and transparency”. This cap may have implication for arbitrage funds who do the frequent churning.

Another person who has been part of the regulation making process said, “These changes are expected to strengthen investor understanding and comparability of schemes’ cost structures”.

On the issue of removing business restrictions SEBI paper says regulation 24(b) on Restriction of Business Activities of AMCs will be amended subject to safeguard mechanism from AMCs and trustees. These safeguards include operating the service as a distinct business unit separated by Chinese walls with segregated key employees, and establishing mechanisms to prevent misuse of information from mutual fund operations. Oversight of these activities will be strengthened through Trustees and the Unit Holder Protection Committee, who must ensure that conflicts of interest are adequately managed. SEBI paper stated, “The guardrails proposed in the consultation paper as mentioned at para 2.7.1, relating to fees and diversion of resources for providing services to non-broad-based funds, may be reviewed subject to enhanced oversight by the Trustees and Unit Holder Protection Committee across all the services provided by the AMC”.

SEBI paper further said that the concerned unit or Principal Officer in case of PMS shall report directly to the CEO of the AMC, and any activity regulated by a domestic or foreign regulator may only be undertaken through a subsidiary with prior Board approval.

These changes are part of a comprehensive review of Mutual Fund Regulations. SEBI said that a survey was carried out among the industry stakeholders through Association of Mutual Funds in India (AMFI) to gather suggestions on the areas of the mutual fund regulations that may require review. Various other proposals related to easing of compliance have also been proposed in the new MF Regulations review.   SEBI has sought comments from all stake holders on or before November 17 on these proposals.

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