India's market regulator: guidelines for winding up of AIFs with respect to retention of proceeds and 'inoperative fund' status
India’s market regulator, the Securities and Exchange Board of India (SEBI), has introduced updated guidelines for the winding up of Alternative Investment Funds (AIFs), addressing the retention of proceeds and the introduction of an “inoperative fund” status. These changes aim to streamline the closure process for AIFs that have completed their investment mandates but face residual obligations such as tax notices, litigation, or operational expenses.
Under the revised framework, AIFs may retain liquidation proceeds beyond their permissible fund life under three defined conditions. First, if the fund has received a demonstrable litigation notice or formal tax or regulatory demand, it may retain funds to address these liabilities. Second, if anticipated liabilities exist but have not yet crystallized, the fund may retain proceeds after securing consent from at least 75% of investors by value. This consent requirement ensures investor oversight and prevents discretionary holdbacks by fund managers. Third, funds may retain amounts for residual operational expenses—such as auditor fees or custodian costs—for up to three years, provided substantiated by invoices or records.
To further ease the compliance burden, SEBI has introduced the concept of an “inoperative fund.” AIFs that qualify for this status are exempt from periodic filings, Private Placement Memorandum (PPM) updates, and performance benchmarking. However, they remain obligated to submit an annual status report to SEBI and investors, detailing the nature and quantum of retained proceeds. This classification is transitional and does not imply permanent exemption from regulatory oversight.
Previously, AIFs were required to liquidate all assets and distribute proceeds within the permissible fund life, with registration surrendered only after achieving a nil bank balance. This approach often led to unnecessary administrative burdens and drag for funds facing unresolved liabilities or litigation. The new framework allows for a more flexible and practical approach to fund closure, reducing the compliance load while ensuring investor protections remain intact.
Investors in close-ended AIFs nearing the end of their tenure should proactively engage with fund managers to understand the status of distributions, pending liabilities, and the manager’s intent to apply for inoperative status. If a fund intends to retain proceeds for anticipated liabilities, investors must verify that the 75% consent threshold has been met.
The updated guidelines reflect SEBI’s commitment to addressing industry challenges and improving the efficiency of AIF wind-down processes. By balancing regulatory oversight with operational flexibility, the regulator aims to enhance investor confidence and reduce unnecessary administrative complexities in the AIF ecosystem.
