The AIF World Is Shifting And SEBI's Latest Move Makes Sure Of It

In the rapidly evolving domain of alternative investments, where fortunes are constructed upon prompt capital allocations and equitable profit distributions, the principle of equality transcends mere rhetoric, it constitutes the foundational element of trust.On 7^th November, 2025¹, SEBI dropped a draft circular poised to transform the operational landscape regarding the management of investor rights within Alternative Investment Funds (AIFs).Titled "Clarifications and Specific Modalities with Respect to Maintaining Pro-Rata Rights of Investors of AIFs," this proposal aims to clarify the ambiguities surrounding pro-rata and pari-passu principles, ensuring that each investor gets their fair slice of pie.For compliance officers, fund managers, and institutional investors this matter transcends mere regulatory fine print.It serves as a mandate to scrutinise audit processes, revise Private Placement Memorandums (PPMs), and reinforce safeguards against potential disputes.With the window for public comments remaining open until the 28^th of November, 2025, now is the time to weigh in.

Let's break it down simply: Pro-rata rights mean that distributions such as investment returns or profits are allocated in proportion to an investor's financial commitment, much like dividing a family feast based on how much each person chipped in for groceries.The principle of pari-passu introduces an additional layer of equity, ensuring that no investor jumps the queue².These principles have been historically codified within SEBI's AIF Regulations (specifically under Regulation 15), yet practical implementations particularly concerning capital drawdowns and excusals have generated discrepancies.SEBI's draft proposal intervenes with explicit "how-to" guidelines, specifically addressing closed-ended schemes where capital commitments are irrevocably secured, while simultaneously providing flexibility for open-ended structures.

The Core of What the Draft Prescribes

At its core, the circular delineates essential terminology to eliminate ambiguity."Commitment" refers to the entirety of one's pledge to the fund, whereas "undrawn commitment" denotes the amount that has not yet been called upon.Pro-rata rights are intrinsically linked to these definitions, stipulating that both investments and returns are to be distributed in proportion to one another or on a time-weighted basis, contingent upon prior disclosure in the Private Placement Memorandum (PPM).For closed-ended AIFs, specifically Category I and II with fixed durations, the draft prescribes pro-rata drawdowns.Fund managers are obligated to make an explicit choice from the outset, either total commitment or undrawn and to adhere strictly to that decision, prohibiting any alterations during the scheme's duration.Consider the scenario of capital calls for a promising start-up investment: If Investor A commits ₹100 crore (of which ₹20 crore remains undrawn) while Investor B commits ₹50 crore (fully drawn), the draft ensures that Investor A's allocation corresponds to that ratio, averting any "me-first" discrepancies.Nonetheless, there exists a safeguard: investors may excuse themselves from specific transactions, provided that unutilised funds are not recycled for other investments without adequate disclosure.Importantly, drawdowns are prohibited from exceeding concentration limits as outlined under Regulation 15(c), which caps any individual investor's stake in an investee entity to 25% of the fund's overall corpus.

In contrast, open-ended schemes, predominantly represented by Category III AIFs, are subject to less stringent regulation. In this context, units are issued and redeemed at the Net Asset Value (NAV), thus circumventing the constraints imposed by rigid drawdown requirements.Distributions are maintained on a pro-rata basis relative to the units held, an uncomplicated process for liquid assets.However, should the fund exhibit a substantial inclination towards unlisted securities (exceeding 50% of the corpus), the regulations governing closed-ended funds become applicable, integrating the advantages of both frameworks to mitigate the risks associated with illiquidity.Distributions are likewise governed by this principle: proceeds from sales or exits are to be allocated pro-rata according to contributions, thereby honouring the established waterfalls outlined in the PPM.Additionally, a consideration for historical context, investments executed prior to SEBI's December 13, 2024, circular concerning non-compliant schemes may adhere to previous terms, alleviating potential retroactive complications.

Steps to Embed Compliance in Operations

This draft isn't about box-ticking, rather it serves as a blueprint for resilient operational methodologies.For AIF managers and Key Management Personnel (KMP), the burden of compliance is predominantly concentrated in the initial disclosure phase.PPMs must delineate the pro-rata allocation framework, excusal protocols, and drawdown procedures with utmost clarity, devoid of any legal ambiguity.Once operational, these provisions cannot be altered without the explicit consent of investors, so as to mitigate the risks associated with "scope creep" that could attract regulatory examination.

The rigor of record-keeping is intensified as well.It is imperative to document every drawdown, excusal, and distribution, thereby facilitating instantaneous verification of pro-rata compliance.This documentation will contribute to the Compliance Test Report as mandated by SEBI's Master Circular issued on May 7, 2024, which necessitates quarterly compliance affirmations.For non-resident entities, all obligations will be converted to Indian Rupees (INR) for corpus calculations, thus streamlining international financial assessments while necessitating meticulous foreign exchange monitoring.

Grandfathering clauses afford leniency for existing schemes.Should an entity be operating under an approved methodology, it may continue this practice until the conclusion of the stipulated tenure.Conversely, newer or non-compliant funds are granted a respite: Notifications of drawdowns post-circular may be adjusted without being classified as "material changes."For investors electing to withdraw, there will be no sanctions for falling below the minimum corpus thresholds.However, attention must be paid to the regulatory constraints imposed in December 2024, as non-compliant funds will be ineligible to accept new commitments or pursue additional investment opportunities without specific exemptions.

Exemptions are designed to facilitate pragmatic compliance: Carried interest for fund managers or sponsors will be exempt from the pro-rata obligations.Additionally, the Standard Setting Forum for AIFs (SFA) comprising organisations like the Indian Venture Capital Association (IVCA) and similar entities will develop supplementary guidelines, which will be made available on association websites for convenient access.

Gains Risks and Real Impact for Key Players

For investors: specifically HNIs, family offices, and institutional entities, this reinforces principles of equity.No more fretting over diluted rights in co-investments or uneven exits.It equalizes opportunities, particularly in oversubscribed investment opportunities where larger entities may exert undue influence.Fund managers experience increased transparency, circumventing the ambiguities and disputes that clog communications and judicial systems.However, this demands a comprehensive overhaul of processes: Revise private placement memorandum templates, provide training for key management personnel on drawdown simulations, and incorporate pro-rata verification mechanisms into customer relationship management systems.Allocate resources for this technological upgrade, it is less costly than facing a show-cause notice from SEBI. Compliance teams are paramount in this context.This preliminary draft highlights your function in proactive auditing as opposed to merely reactive submissions.Implementing these modifications could potentially reduce litigation risks by 20-30% (drawing from analogous regulatory adjustments), but only if these practices are integrated promptly.Link it to ESG reporting to maintain a contemporary advantage as equity has now become a fundamental fiduciary responsibility.In a marketplace where assets under management in alternative investment funds reached ₹13 lakh crore in the previous quarter, the actions taken by SEBI indicate a maturation of the sector: India's alternative investment landscape is evolving from a chaotic environment into one that is well-regulated³.Nevertheless, it is not flawless: open-ended exceptions may foster exploitation, and the robustness of enforcement mechanisms remains to be thoroughly assessed.Submit insights through SEBI's online platform, advocating for a balanced approach to implementation.This draft holds the potential to shape AIF compliance for the coming decade, ensure that your perspectives are acknowledged.Ultimately, in the realm of funds as in broader life, equitable distribution fosters sustained engagement from all parties involved.

Footnotes

1 SEBI | Consultation on draft circular - Clarifications and specific modalities with respect to maintaining pro-rata rights of investors of AIFs.

2 Taxguru_In. (2025, November 9).SEBI draft on Pro-Rata rights of AIF investors. TaxGuru.

3 Pti. (2025, November 7). Sebi issues draft circular on pro-rata, pari-passu rights of AIF investors.The Economic Times.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.