SEBI’s new MF, demat nomination rules are a job well begun, but half done

SEBI decision to keep nomination optional for joint holders is a mishap ready to happen

The rules of nomination between mutual fund (MF) and demat accounts have been further harmonised by the capital market regulator. On September 30, the Securities and Exchange Board of India (SEBI) at its board meeting allowed the holder of both instruments to include up to 10 nominees.

However, a closer reading of the SEBI's decision about  nominees shows that despite good intentions, some gaps still prevail.

Nominees yes, but why so many?

Despite nomination being useful for your investments and bank accounts, experts argue that there need to be a reasonable number of nominees. By allowing up to 10 nominees to be registered for your MF and demat accounts, experts predict operational hassles.

Rajat Dutta, Founder & Initiator, Inheritance Needs Services, says that SEBI’s decision to increase the number of nominees to 10 is an impractical move. “Since nominees are trustees representing heirs or beneficiaries, even if one, or say 10 appointed nominees, decide not to cooperate when it comes to bequeathing as per WILL of the deceased (asset owner), there could be a deadlock during implementation of the WILL/ Trust Deed or applicable succession laws. There could be operational deadlock due to seeking of signatures of all the other nominees, of which some could have been deceased or are themselves incapacitated or are overseas. In the past, it has come to notice that no one remembers changing nominees in case of their demise," says Dutta. Feasibility is a major challenge, adds Dutta.

Requiring a unique identifier for nominees to be obtained (like Permanent Account Number, PAN; passport number or Aadhaar) is a welcome move.

SEBI has also reiterated that the nominees — be they of your shares lying in your demat  or MF accounts — are trustees, and not the ultimate owners. This rule was specified by the Supreme Court in the recent case of Shakti Yezdani & ANR V/s Jayanand Jayant Salgaonkar & Ors. By extension, according to SEBI, the legal heirs of the deceased shall not be granted any rights. Nomination being optional for joint demat and jointly-held MF folios seems to be misaligned to other financial product regulators such as the Reserve Bank of India (RBI) and Insurance Regulatory and Development Authority (IRDAI). SEBI has not factored in possible simultaneous demise of all joint holders.

Nominees can act on behalf of incapacitated persons

SEBI has allowed nominees to act on behalf of incapacitated investors, "with certain risk mitigation checks and balances". This, say experts, is a dangerous move and might not pass muster in a court of law. Though the details are still awaited, SEBI insists that nominees are only trustees representing heirs and not ultimate owners. The regulator also bestows powers on nominees to act on behalf of the asset owner when asset owner is alive, but incapacitated.

A nominee’s role kicks in once the investor dies. Upon the investor’s death, the MF or depository participant (DP) or the bank transmits  the asset ownership to the nominee as a trustee representing heirs/ beneficiaries. Then, the nominee is supposed to take necessary steps to ensure that the asset is passed on to the rightful heir, as per succession laws (if no WILL/Trust Deed), or as per the WILL, which needs to be probated by a competent court of jurisdiction.

However, by allowing nominees to act on behalf of incapacitated people, might lead to fraud, says Dutta. This move will be against the interest of the Indian diaspora who have aged parents and siblings under caregivers or are confined to assisted living facilities back home, with wealth and assets lying in the country. Adding or changing a nominee in a MF folio, for instance, is simple and do not require joint holders’ signatures, if there are any. Picture an old lady in a remote town whose upkeep is in the hands of caregiver, while her children live in another town. The caregiver could get his or her name added as a nominee and then use it to withdraw funds, fraudulently.

Dutta explains that banks use a facility called a ‘mandate’ to be used by Non-Resident Indians (NRI). These NRIs can give a ‘mandate’ to their parents/siblings living back home to operate their accounts. It is sort of a limited permission given to the parents/ siblings. Similarly, old parents can also give a Power of Attorney to their children or loved ones, to operate their bank accounts, but usually giving limited controls. “Banks have adequate checks and balances to ensure that the ‘mandate’ is not mis-used. For instance, every time a cheque is presented for withdrawal or payment, the system of the bank is programmed to match the ‘mandate’ with what is actually presented, to see if the cheque presented is within limits. Only then the cheque is cleared. “Regulating this in case of demat and MF accounts would need an agile mechanism to curb possible fraud,” says Dutta.

Survivorship or Wills: what comes first?

SEBI has said that the rule of survivorship will apply in cases of joint holdings. SEBI appears to have got in a grey area; something that can be challenged in the court of law. Here’s why.

Typically, after the single holder dies in case of a bank account or an investment, the nominee gets the asset/money as a trustee representing  beneficiary or heirs. The understanding  is that the money should eventually go to the rightful heir (as per the WILL of the deceased holder). In cases where the joint holder is there, money goes to the joint holder. But here as well, the WILL supersedes, if there is an  heir mentioned by the deceased joint holder.

SEBI has gone on a less trodden path by stating that the joint owners are the rightful owners, jeopardising the rights of the heir(s)/ beneficiary(ies) of the deceased joint holder. "This can be challenged in the court of law if there is a will of a joint holder and he or she as asset owner has identified the rightful heir to the asset  for his/her share, apart from the original joint holders," says Dutta.

Nomination optional for joint holders

SEBI has reiterated its recent decision to keep nomination optional for joint holders. This, experts say, is a mishap in the making.

In case where all joint holders are dead and the financial asset had no nomination, such financial asset  would qualify for unclaimed amounts’ fund till the WILL or Succession acts defines the rightful beneficiary/ heir. “There is a huge backlog in KYC [Know-Your-Client] compliance by asset management companies [AMCs] and DPs and hence the unclaimed funds are only increasing. The SEBI’s ruling of no nomination requirement will only lead to this kitty balloon because of the absence of the need to put nomination,” says Dutta. He adds, "this is a counter-productive move and against the financial sector wherein even banks have been insisting on nominations.”

For ease in operation, maintenance, transfer and transmission, all regulators such as the RBI, IRDAI and SEBI, must be in sync to enable the investor/heir/ beneficiary proceed as per standard accepted procedures in commonality.