Central Idea

The Reserve Bank of India (RBI) has introduced tighter norms for Regulated Entities (REs) to curb the practice of evergreening loans through investments in Alternative Investment Funds (AIFs).
The norms apply to all banks, all India Financial Institutions, and Non-Banking Financial Companies (NBFCs), including Housing Finance Companies.

About Alternative Investment Funds (AIFs)

	Details
Definition	AIFs are privately pooled investment vehicles established in India, collecting funds from sophisticated investors for investing.
Regulation	Governed by the SEBI (Alternative Investment Funds) Regulations, 2012.
Formation	Can be formed as a company, Limited Liability Partnership (LLP), trust, etc.
Investor Profile	Aimed at high rollers, including domestic and foreign investors in India. Generally favored by institutions and high net worth individuals due to high investment amounts.
Categories of AIFs	Category I: Invests in start-ups, early-stage ventures, SMEs, etc. Includes venture capital funds, angel funds, etc. Category II: Includes funds not in Category I/III, like real estate funds, debt funds, etc. No leverage or borrowing except for operational requirements. Category III: Employs complex trading strategies, may use leverage. Includes hedge funds, PIPE Funds, etc.
Fund Structure	Category I and II AIFs must be close-ended and have a minimum tenure of three years. Category III AIFs can be open-ended or close-ended.

Investment Practices: REs often invest in units of AIFs as part of their regular investment operations.
RBI’s Observations: The RBI noted certain transactions involving AIFs that substituted direct loan exposure with indirect exposure, raising regulatory concerns.

Restriction on Investments: REs are prohibited from investing in any AIF scheme that indirectly or directly has downstream investments in a debtor company of the RE.
Mandatory Liquidation: If an AIF scheme, where an RE is already an investor, makes a downstream investment in a debtor company, the RE must liquidate its investment in the scheme within 30 days from the date of such investment by the AIF.
Provision for Existing Investments: For existing investments in such schemes, REs have 30 days from the issuance of the circular to liquidate. Failure to do so requires them to make a 100% provision on these investments.
Capital Fund Deductions: Investments by REs in subordinated units of any AIF scheme with a ‘priority distribution model’ are subject to full deduction from the RE’s capital funds.