The ever-increasing regulatory oversight on Alternative Investment Funds
Increased regulatory oversight on Alternative Investment Funds ("AIFs") has been in the news in the recent past. In addition to direct regulatory oversight on the AIFs itself, AIFs are also indirectly impacted by various other statutory and regulatory restrictions or conditions that are applicable to the underlying legal form of the AIF, the investors in the AIF or the investment portfolio of the AIFs.
Some of the recent statutory and regulatory amendments affecting AIFs are discussed below.
1. Significant beneficial ownership and AIFs
Under the Securities and Exchange Board of India ("SEBI") (AIFs) Regulations, 2012 ("AIF Regulations"), an AIF can be established or incorporated in the form of a trust or a company or a Limited Liability Partnership ("LLP") or a body corporate.
After trusts, LLPs have been the most preferred legal form for an AIF, since LLPs are more beneficial from a tax perspective and with lesser compliance requirements than a company.
However, in the recent past, LLPs are also being subjected to additional compliance requirements.
One recent compliance/disclosure requirement imposed on the LLPs is pursuant to the LLP (Third Amendment) Rules, 2023 and the LLP (Significant Beneficial Owners ("SBOs")) Rules, 2023 ("SBO Rules"). As per the SBO Rules, an LLP is required to take necessary steps to find out if any individual qualifies as a 'SBO' in relation to the LLP. If such SBO has been identified, then the LLP must cause such individual to make a declaration in Form No. LLP BEN-1.
As per one of the exemptions available under the SBO Rules, the aforesaid requirements will not apply to the extent the contribution in the LLP is held by an investment vehicle registered with the SEBI, such as an AIF. Thus, if an AIF is a partner in the LLP, the SBO Rules will not apply in respect of such AIF partner.
However, where the AIF has itself been set up as an LLP, then the SBO Rules will apply in relation to such AIF.
Accordingly,
a) an AIF (set up as an LLP) is required to issue a notice to a non- individual partner in Form No. LLP BEN-4, seeking information in accordance with sub-section (5) of Section 90 of the Companies Act, 2013 ("CA 2013"), if such nonindividual partner holds atleast 10% of such AIF's:
i) contribution; or
ii) voting rights; or
iii) right to receive or participate in the distributable profits or any other distribution payable in a financial year;
b) every individual who is a SBO in the AIF, is required to file a declaration in Form No. LLP BEN-1 with the AIF within 90 (ninety) days from the date of commencement of the SBO Rules (i.e., November 9, 2023);
c) the SBO Rules define a "SBO" as an individual who acting alone or together or through one or more persons or trust, possesses one or more of the following rights or entitlements in the LLP:
i) indirectly or together with any direct holdings, not less than 10% of the contribution;
ii) indirectly or together with any direct holdings, not less than 10% of voting rights in respect of the management or policy decisions in such LLP;
iii) right to receive or participate in not less than 10% of the total distributable profits, or any other distribution, in a financial year through indirect holdings alone or together with any direct holdings; and
iv) right to exercise or actually exercises, significant influence or control, in any manner other than through directholdings alone;
As per the explanation, if an individual does not hold any right or entitlement indirectly under sub-clauses (i), (ii), (iii) or (iv) above, he will not be considered an SBO. The SBO Rules further define what would be considered as holding any right or entitlement 'directly' and what would be considered as holding any right or entitlement 'indirectly'.
As per the SBO Rules, if an individual (acting alone or together or through one or more persons or trust) is entitled to exercise or actually exercises, significant influence or control, in any manner other than through direct holdings alone, then such individual will be considered to be an SBO.
The term "significant influence" has been defined to mean "the power to participate, directly or indirectly, in the financial and operating policy decisions of the LLP but is not control or joint control of those policies."
d) the SBO Rules mandate filing a declaration in Form No. LLP BEN-1 for individuals who become SBOs or change ownership. The AIF must also file a return in Form No. LLP BEN-2 within 30 (thirty) days of receipt of declaration in Form No. LLP BEN-1, along with prescribed fees. Additionally, the AIF must maintain a register of significant beneficial owners in Form No. LLP BEN-3, open for inspection during business hours;
Until now, it was not common for information of 1 (one) investor to be made accessible to other investors of the AIF.
Further, apart from the sponsors and managers of AIFs, the investors of the AIFs also undergo 'know your customer' verification. Given that AIFs are already regulated by SEBI, it is unclear whether applying the SBO Rules to AIFs was needed.
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