SEBI Regulations 2012: Broadening the Horizon for Private Equity Funds

The fund industry in India will soon enter the next phase of its evolution now that the Securities and Exchange Board of India (SEBI) has released the 2012 alternative investment fund (AIF) regulations, which they aligned to work with both international developments and the Indian economy.

Little will change for funds currently governed by the venture capital fund (VCF) regulations except that they will be unable to increase their targeted corpus. Of course, all new and unregistered funds will have to register under the new AIF Regulations.

SEBI has created the following three categories of AIFs:

• Category I AIFs include funds directed towards start-ups, social ventures, infrastructure, early-stage ventures, SMEs or any area the government considers will have a positive ripple effect throughout the economy.
• Category II AIFs include all funds that will not leverage or borrow more than their daily operations require and which fall outside the definitions of funds within categories I and III.
• Category III AIFs include funds with a wide range of dense trading strategies, allowing them to leverage through investments in both listed and unlisted derivatives.

The AIF Regulations will also open the door to domestic hedge funds and “fund of funds” in India. The “fund of funds” program will require a raised minimum capital commitment of Rs. 1 crore, rather than the Rs. 500,000 required by the SEBI VCF Regulations. The higher rate is meant to facilitate risk diversification by spreading investments across various AIFs in different categories.

Although the Finance Budget 2012 reinstated the complete tax pass through to funds registered under the VCF regulations from 1996, under the new AIF Regulations, only Category I VCFs will receive the benefits of the tax pass through.

On the bright side, SEBI has removed itself from over-regulating the LP-GP relationship, recognizing that there are complex dynamics to consider, such as conflict of interest, change in control, reporting and valuation and the custodian.

Rather than make itself responsible for judging these relationships, SEBI has created disclosure standards, a welcome development that will encourage transparency within the market.
 

Dezan Shira & Associates is a specialist foreign direct investment practice, providing corporate establishment, business advisory, tax advisory and compliance, accounting, payroll, due diligence and financial review services to multinationals investing in emerging Asia. Since its establishment in 1992, the firm has grown into one of Asia’s most versatile full-service consultancies with operational offices across China, Hong Kong, India, Singapore and Vietnam as well as liaison offices in Italy and the United States.
 
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