SEBI Mandates AIFs to Maintain Investments in Demat Form

Vaibhav Rathi

15 Jul, 2024

During its 203^rd meeting on 25^th November 2023, the Securities and Exchange Board of India (SEBI) made a notable change by updating the SEBI (Alternative Investment Funds) Regulations, 2012. The amendments are intended to improve compliance and strengthen investor protection in Alternative Investment Funds (AIFs).

An Alternative Investment Fund (AIF) is a private fund that collects money from investors to invest in different types of assets, such as real estate, private equity, hedge funds, or alternative investments.

In a circular, SEBI stated that starting from 1 October 2024, all investments made by AIFs must be held in dematerialised form under the new framework. Investments made before this date are not subject to exemptions unless the investee company is mandated by law to facilitate dematerialisation or if the AIF, either on its own or in conjunction with other SEBI-registered entities, has control over them.

SEBI Enforces Demat & Custodians for AIFs

Through an amendment to the SEBI (Alternative Investment Funds) Regulations, 2012, SEBI now requires AIFs to invest in demat form and hire a custodian for all categories. Investments made before this date are not subject to this rule unless the investee company is legally obligated to enable dematerialisation or if the AIF, either by itself or in conjunction with other SEBI-registered entities, has influence over the investee company.

Dematerializing Investments for Alternative Investment Funds

Any new funds put into Alternative Investment Funds after September 2024 must be kept in dematerialised form. AIFs’ current investments are not subject to the requirement except when:

1. The investee company is legally required to help convert its securities into dematerialised form, as mandated by the Ministry of Corporate Affairs for private limited companies.
2. In investments in which the AIF, alone or in conjunction with other SEBI-registered intermediaries/entities required to keep their investment in dematerialised form, exercise control over the investee company.

Further, the said requirement is exempted for investments held by

• Schemes related to the liquidation of AIFs
• AIF plans with a tenure (excluding possible extensions) ending within one year after issuing the required notification.
• AIF plans with longer durations as of the notification date.

Mandatory Custodian Appointment for Asset Security

Additionally, there are exceptions for AIF schemes with durations ending on or before January 31, 2025, and those with extended durations as of the circular’s date. The sponsor or manager of an AIF must select a custodian approved by the board to store the AIF’s securities securely.

A custodian who is affiliated with the sponsor or manager is only allowed to serve as a custodian in specific circumstances. One requirement is that a custodian must be appointed for an AIF scheme before its first investment date. Category I and II AIFs with a fund size of Rs 500 crore or below and a minimum of one investment must designate a custodian by January 31, 2025.

Under the regulation, custodians must provide SEBI with specified information on AIF investments. The SFA, in partnership with Sebi, must create implementation standards for reporting AIF investment data under custody, as instructed by the regulator.

New Reporting Standards for AIF Investments Unveiled

The SFA (Standard Setting Forum) will establish guidelines detailing the format and reporting methods for AIF managers’ reports to custodians and Sebi. AIF managers and custodians are instructed to adhere to these implementation standards.

In 60 days, the guidelines will be available on the websites of industry groups like the Indian Venture and Alternate Capital Association (IVCA), PE VC CFO Association, and Trustee Association of India.

Conclusion

In the end, we can conclude that to comply with SEBI regulations, Alternative Investment Funds (AIFs) must keep their investments in dematerialised (Demat) form. This standardization boosts transparency, improves operational efficiency, and strengthens investor trust through secure and accountable asset management.

Through the implementation of demat practices, AIFs help secure market integrity and protect investors’ interests within a strong regulatory framework.

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