AIF Registration

10 Mistakes to Avoid While Registering an AIF

With the growing popularity of the investment instrument, Alternative Investment Funds (AIFs) have turned out to be the preferred investment option among the high-net worth-individuals (HNIs), institutional investors, and family offices that want to diversify their portfolios, beyond the traditional channels of a stock, a bond and a mutual fund.

These resources, which are a wide range of classes of assets, including private equity, venture capital, hedge funds, infrastructure funds, and real estate portfolios, provide an opportunity to the investors to capture the greater returns, but at a riskier measure. As the Indian economy is fast transforming and the financial environment has now become extraordinarily complex, the presence of AIFs has been identified to be one of the driving factors towards innovation, long-term capital formation and entrepreneurial growth.

Nevertheless, the way to start and run an AIF in India is far not simple. It is controlled by Securities and Exchange Board of India (SEBI) which has its elaborate and rigorous regulations to promote transparency, protection of the investor, and responsibility. Regulatory landmines may be found in determining the right type of AIF (Category I, II or III), legal form, capital commitments, compliance reporting regime and operational readiness all the way through the registration process. Even the slightest errors could result in stalled approvals, penalty penalties or even worse may cause the application to be rejected at all.

This blog is an alarming guide. We will go highly into details of the top ten mistakes that fund managers are likely to commit when registering its AIFs in India top ten common mistakes of fund managers in registering their AIFs in India.

You are a fund manager on a roll and your company is about to shut its first close or you are an experienced hand aiming to leap into the Indian AIF scene, then this guide will provide you with the all-important information and practical wisdoms, which can prove to be the difference between a successful registration process and regulatory hell. Let us begin by detailing this out.

Mistakes that must be Avoided

Have a look at the key mistakes that must be avoided-

Selecting the wrong Category of AIF

There are three types of AIFs by the investment strategy according to SEBI:

• Category I AIFs are invested in social ventures, SMEs, Infrastructures, and even startups.
• APA II AIFs comprise non-leveraged funds in asymmetrical and leveraged debt funds and the private equity funds.
• Strategies complicated in nature such as leveraging, derivates, and driving are generally utilized by AIFs Category III. Examples include hedge funds.

The greatest error that most fund managers commit is that they register in a category that does not match with the intended investment strategy. Such as, in an attempt to employ leverage in Category II or embodying the use of hedge fund-type of trades in Category I, this may automatically disqualify them. You do not have a choice but to avoid this process, as getting to know the boundaries of regulation and relating the goals of your fund to the appropriate group is crucial.

Ignoring the Trust Deeds Quality and Legal Structure

In India, AIFs can be registered as trusts as they are flexible, tax-wise and regarding governance. However, it does not matter whether you make your AIF as a Trust, or Company or LLP, structuring should be exquisite.

SEBI is likely to raise objections on the poorly drafted trust deeds or the MOAs which do not have the important clauses like the powers of the trustee, the indemnity, conflict of interest, or the scope of investment. SEBI can question your readiness when your legal papers are shoddily written. Ensure that your trust deed or incorporation is analyzed by experts belonging to the sector who comprehend the expectations of SEBI in detail.

Failure to meet the Fit and proper criteria

SEBI specifies that all sponsors, fund managers as well as trustees should be fit and proper. This should consist of a clean history of financial services, a good reputation, no criminal and regulatory breaches.

Violating this fundamental principle or hiring people whose history is questionable in terms of finances or official affairs can stop the application immediately. You must hold a self-due diligence audit of all the key people and determine their eligibility. Any concealment and misrepresentations, no matter intentional or not will lead the application to be denied or delayed forever.

Filing of Half-Baked Documentations

This is the worst and the most common of the errors in AIF registrations. SEBI documentation checklist covers item:

• Trust Deed / Incorporation certificate
• Profile of the key staff members
• PPM document, also known as Private Placement Memorandum (PPM)

Risk management framework- The risk management framework is divided into four primary areas namely Tactical risk management, Strategic risk management, Operational risk management and Costs per risk.

Another common blunder of applicants is replicating the obsolete format or using blank templates. Mismatching the documents, lack of annexures or vague investment plans are other sweeping stones in the sand. It is page by page. It is a matter of fact, and this difference can either stretch a given approval process with SEBI or make it smooth.

Failure to have Major Functionaries to Be Appointed Before Registration

SEBI anticipates that some of the functionaries should be appointed during the process of application itself. These include:

• An experienced Fund Manager
• A Compliance Officer
• Custodian (required in particular in the case of Category III AIF or large Category I/II funds)
• A Registered Trustee Company (in the event of a Trust structure).

Another common pitfall is thinking that it is possible to make an appointment after the approval. SEBI seeks a well-articulated operational framework at the entry level.

Unclear or Unfaithful Private Offering Memorandum (PPM)

Investor disclosure and corporate governance rest upon the PPM. It gives the outline of your fund:

• Investment strategy
• Fee structure
• Risking strategy
• Valuation methodology
• Policy on conflict of interest
• Fleeing opportunities for investors

Nevertheless, a badly customized or half-baked PPM is the one that will get you in the approval loop. SEBI has set a uniform format for PPMs. In case yours is vague or does not contain the necessary disclosures, your application will become subject to delays. Always, have PPM drawn in accordance with the recent SEBI Circulars.

Ignoring Minimum Corpus and Capital Commitment Requirement

The SEBI requires that every AIF be to generate a minimum corpus of twenty crore rupees (10 crores in case of Angel Funds). The minimum investment (per investor but not per employee or per director) is one crore of rupees. The sponsors and fund managers are required to provide a minimum of 2.5 per cent of the fund corpus or five crores, whichever is less.

The thing that most does wrong is to present an application before demonstrating the investor commitment. SEBI does not want you to simply be wasting a concept, but it should have dedicated support from investors. These commitments have to be explained through signed letters, agreements, or escrow documentation.

Taking no notice of the need of Post-Registration Reporting & Compliance

Just in case you pass this stage of registration hurdle, the responsibility does not end. The problem among many AIFS is that a poor compliance system lands them into trouble after the approval.

Part of the continuous requirements are:

• SEBI Quarterly reports
• Valuation reports
• Disclosure to investors

Periodic KYC/AML compliance assurance One of the consequences of the world becoming increasingly global has been that companies going global in order to access new markets, new markets which exist everywhere.

New fund managers or startups tend to underestimate the kind of resources required to ensure they are complying after registration.

Misinterpretation on the SEBI Position on Leveraging and Risk Exposure

In the case of Category III AIFs, SEBI has tight restrictions in regard to leverage and short selling. Too many candidates lose themselves during their presentation of creative plans, only to forget to discuss ways in which they shall go about dealing with the inherent risks. SEBI will never stop asking, how and why. It will throw questions such as:

• What will you do with risk-to- capital ratios?
• Will you have enough buffers on requisite capital?

The inability to deal with such issues can provoke rejection or at least excessive questioning. Be open and be eager to talk in response to the leverage and risk framework in your case.

Bad communications and follow-up with SEBI

After your application is sent it is not a sit-down-and-wait procedure. SEBI tends to clarify things or ask for more documentation. Loss of the chance to reply on time or a vague response may affect your registration process.

Appoint someone or a consultant who will deal with SEBI. Never ignore queries, but answer and include the documentation fully and in a professional and respectful tone. The process can be simplified by building trust with SEBI officers by way of clear communication.

To Wrap Up

It must be understood that this is a strategic journey and not a regulatory checkbox. It means much more than a compliance exercise to register an Alternative Investment Fund (AIF) in India; indeed, it is the beginning of a long-term strategic project. The procedure requires extensive planning, extensive compilation, legal formatting and active maintenance of operations.

India is experiencing a phenomenal growth in the alternative investment space, which is due to the improved economic growth coupled with the maturing capital markets and the growing interest in non-traditional investment vehicles. This is a golden window of opportunity for the fund manager and the institutional investors. However, to achieve success in this field, you need more than money, you need proper implementation, clear regulation, and strict compliance procedures.

At Enterslice, we are well aware of all that is involved in starting up and running a compliant and well-performing AIF in India. Our full-service AIF representation, which includes legal structuring, SEBI registration, documentation of a fund, appointment of a trustee, preparation and drafting of a PPM and post-approval regulatory compliances, is geared towards reducing your regulatory loads and achieving optimum efficiency. Having a legal, financial, and regulatory team of professionals under the same roof, instructed in a multidisciplinary environment, we can guide you to prevent some expensive pitfalls and make a rapid movement through the AIF lifecycle.

By working with Enterslice, one will accomplish not only a regulatory checkbox but the powerful base of a sustainable business, investor confidence, and business success in the alternative investments market over the long term. Whether it is the initial version of your application, smooth post-approval management, or any part along the process, we will always accompany you to fully concentrate on what actually matters to you: creating value for your investors.

Frequently Asked Questions