21 Dematerialization of AIF Investments: A Step Towards Enhanced Transparency and Efficiency

Key Takeaways:

- AIFs must hold all new investments made on or after October 1, 2024, in dematerialized form.

- The dematerialization requirement applies to investments made directly in investee companies or acquired from other entities.

- The regulation aims to enhance transparency, investor protection, and operational efficiency in the AIF industry.

- Depositories have been directed to facilitate the dematerialization process and ensure compliance with AIF regulations.

Detailed Narrative:

The Securities and Exchange Board of India (SEBI) has introduced a comprehensive framework for Alternative Investment Funds (AIFs) to hold their investments in dematerialized form. This move is part of SEBI's ongoing efforts to enhance transparency, investor protection, and operational efficiency in the AIF industry.

Under the new regulations, all AIFs are required to hold their investments in dematerialized form, subject to a specific timeline. From October 1, 2024, any investment made by an AIF, whether directly in the investee company or acquired from another entity, must be held in dematerialized form.

The dematerialization requirement aims to streamline the investment process, reduce operational risks, and provide a clear audit trail for all transactions. By holding investments in demat form, AIFs can ensure better record-keeping, efficient transfer of securities, and enhanced investor protection.

To facilitate the smooth implementation of this regulation, SEBI has directed depositories to make necessary amendments to their bye-laws, rules, and regulations. Depositories must also ensure that the transfer of units held in dematerialized form is carried out in accordance with the terms of the private placement memorandum (PPM) or agreements between the AIF and its investors.

The dematerialization of investments is expected to bring greater transparency and accountability to the AIF industry. Investors will have a clear record of their holdings, and the transfer of securities will be subject to stringent checks and balances. This move aligns with SEBI's broader objective of promoting investor confidence and fostering a robust and well-regulated AIF ecosystem.

FAQs:

Q1: Why is SEBI mandating the dematerialization of AIF investments?

A1: The dematerialization of AIF investments aims to enhance transparency, investor protection, and operational efficiency in the AIF industry.

Q2: What is the timeline for the dematerialization of AIF investments?

A2: From October 1, 2024, any investment made by an AIF, whether directly or acquired from another entity, must be held in dematerialized form.

Q3: Does the dematerialization requirement apply to existing investments?

A3: The regulation focuses on new investments made on or after October 1, 2024. Existing investments held in physical form may continue to be held in that form.

Q4: What is the role of depositories in the dematerialization process?

A4: Depositories have been directed to make necessary amendments to their bye-laws, rules, and regulations to facilitate the dematerialization process. They must also ensure compliance with AIF regulations regarding the transfer of units held in dematerialized form.

Q5: How will the dematerialization of investments benefit investors?

A5: The dematerialization of investments will provide investors with a clear record of their holdings, efficient transfer of securities, and enhanced investor protection through stringent checks and balances.

Key Precedents:

- SEBI Circular No. SEBI/HO/AFD/PoD1/CIR/2023/97 dated June 21, 2023:

This circular introduced the requirement for AIFs to hold their investments in dematerialized form, subject to specific timelines and conditions.

The regulation issued by SEBI aims to enhance transparency, investor protection, and operational efficiency in the AIF industry by mandating the dematerialization of investments. This move aligns with SEBI's broader objective of promoting a robust and well-regulated AIF ecosystem.

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Here's AIF Master Circular's verbatim Chapter 21

Chapter 21 - Holding investments of AIFs in dematerialised form{56}

In terms of Regulation 15(1 )(i) of AIF Regulations, AIFs shall hold their investments in dematerialised form, subject to such conditions as may be specified by the Board from time to time. The said requirement does not apply, inter-alia, to such investments by AIFs and such schemes of AIFs as may be specified by the Board from time to time. In this regard, the following is specified:

21.1. Any investment made by an AIF on or after October 01, 2024 shall be held in dematerialised form only, irrespective of whether the investment is made directly in the investee company or is acquired from another entity.

21.2. The investments made by an AIF prior to October 01, 2024 are exempted from the requirement of being held in dematerialised form, except in the following cases:

21.2.1. Investee company of the AIF has been mandated under applicable law to facilitate dematerialisation of its securities;

21.2.2.The AIF, on its own, or along with other SEBI registered intermediaries/entities which are mandated to hold their investments in dematerialised form, exercises control over the investee company. For the purpose of the aforesaid clause, the definition of ‘control’ shall be construed with reference to Regulation 2(1 )(f) of AIF Regulations.

21.3. The investments made by an AIF prior to October 01, 2024 which are covered under conditions as specified in paras 21.2.1 and 21.2.2 above, shall be held in dematerialised form by the AIF on or before January 31, 2025.

21.4. The aforesaid requirement of holding investments in dematerialised form shall not be applicable to:

21.4.1. Scheme of an AIF whose tenure (not including permissible extension of tenure) ends on or before January 31, 2025;

21.4.2. Scheme of an AIF which was in extended tenure as on January 12, 2024.

21.5. The information necessary to ascertain compliance with the provisions of this circular shall be incorporated in the format for quarterly reporting by AIFs in SEBI Intermediary Portal (www.siportal.sebi.gov.in). The manager of AIF shall provide the requisite information accordingly while submitting the quarterly report to SEBI.

Note:-

{56}SEBI Circular No. SEBI/HO/AFD/PoD/CIR/2024/5 dated January 12, 2024