SEBI Empowers AIFs to Retain Liquidation Proceeds Beyond Fund Life

The Securities and Exchange Board of India (SEBI) has introduced landmark regulatory changes to provide Alternative Investment Funds (AIFs) with greater operational flexibility during the winding-up process. These new guidelines allow funds to hold onto liquidation proceeds even after their official tenure ends, addressing long-standing challenges regarding legal liabilities and residual costs.

New Framework for Retaining Liquidation Proceeds

Under the amended SEBI (Alternative Investment Funds) Regulations, AIFs or their specific schemes are now permitted to retain liquidation proceeds beyond their permissible fund life under three specific conditions. First, funds can hold money if they have received litigation notices or regulatory demands—including notices from tax authorities, law enforcement, or courts—even if those liabilities have not yet crystallized.

Second, fund managers can retain funds to meet anticipated liabilities, provided they obtain consent from at least 75 per cent of investors by value. In such cases, managers must explicitly disclose the amount to be retained and the estimated duration of this retention. Third, funds may retain proceeds to cover residual winding-up operational expenses, though this retention is strictly capped at a maximum of three years from the end of the permissible fund life.

Introduction of the 'Inoperative Fund' Status

To streamline the management of wound-up funds that still have outstanding obligations, SEBI has introduced the 'Inoperative Fund' framework. An AIF can apply for this status if it has completed the liquidation of all investments but still holds retained proceeds or remains registered due to ongoing litigation.

While this status offers significant relief, it comes with strict limitations to prevent misuse. Inoperative Funds are prohibited from making any new investments, launching new schemes, or charging management fees. Any retained money held by these funds can only be invested in instruments that are explicitly permitted under existing AIF Regulations.

Compliance Relaxations and Reporting Mandates

Recognizing the administrative burden on closing funds, SEBI has exempted Inoperative Funds from several heavy compliance requirements. These exemptions include quarterly and annual activity reports, compliance test reports, performance benchmarking disclosures, and certain certifications for key investment personnel.

However, transparency remains a priority. SEBI has mandated that both AIFs retaining funds and those classified as Inoperative Funds must file an annual report detailing retained money and outstanding liabilities. This report must be submitted to both SEBI and the investors within 30 days of the end of each financial year. This framework is effective immediately and extends to Venture Capital Funds registered under the 1996 regulations.

Key Takeaways