Provide 'Direct Plan' Option To Investors, SEBI Asks AIFs; Introduces Trail Model For Distribution Commission

The SEBI said that it has been observed from the information disclosed in PPMs that, there is inconsistency and lack of adequate disclosure with respect to certain industry practices

Market regulator SEBI has asked the alternative investment funds (AIFs) to provide an option of a "direct plan" for investors and announced a trail model for the distribution commission on Monday. SEBI said that the new rules are aimed at providing flexibility to investors for investing in AIFs, bringing transparency in expenses, and curbing mis-selling. 

The market regulator also introduced guidelines regarding the exclusion of an investor from an investment in AIF.

The SEBI said, "It has been observed from the information disclosed in PPMs that, there is inconsistency and lack of adequate disclosure with respect to certain industry practices."

Alternative Investment Funds or AIFs are funds established via privately pooled investment vehicle that collects funds from sophisticated investors, whether Indian or foreign, for investing in accordance with a defined investment policy for the benefit of its investors. It typically caters to high net worth individuals (HNIs) as they entail an investment of more than Rs 1 crore and above in one go.

Direct Plan For Investors 

SEBI in its circular said, "Schemes of AIFs shall have an option of ‘Direct Plan’ for investors. Such Direct Plan shall not entail any distribution fee/placement fee.  AIFs shall ensure that investors who approach the AIF through a SEBI registered intermediary which is separately charging the investor any fee (such as advisory fee or portfolio management fee), are on-boarded via Direct Plan only."

The circular regarding the 'Direct Plan' will be applicable for onboarding from May 1. 

Trail Model

Introducing a 'Trail Model' for distribution commission, SEBI said that category III AIFs would charge distribution fees from investors only on an equal trail basis. It means no upfront distribution fee would be charged by such AIFs directly or indirectly from their investors.

Further, any distribution charge paid would be only from the management fee received by the managers of such category III AIFs.

For the other two categories, AIFs may pay up to one-third of the total distribution fee to the distributors on an upfront basis, and the remaining distribution fee would be paid to the distributors on an equal trail basis over the tenure of the fund.

Also, Sebi asked AIFs to disclose distribution fees to the investors at the time of on-boarding.

The capital markets regulator has already barred upfront commissions for portfolio management services and mutual funds.

The upfront commission is a one-time payment made by a fund to a distributor on selling a scheme to an investor. Trail commission, on the other hand, is a recurring fee paid to a distributor until the investment is withdrawn.

Guidelines Regarding Excluding An Investor

With regard to excusing or excluding an investor, SEBI said that an AIF may excuse its investor from participating in a particular investment in certain circumstances. 

These include if an investor, based on the opinion of a legal professional, confirms that its participation in the investment opportunity would be in violation of the rule, or if the investor as part of an agreement signed with the AIF, had disclosed to the manager that its participation in such investment opportunity would be in contravention to the internal policy of the investor.

Further, the manager will have to ensure that the terms of such an agreement with the investor include reporting any change in the disclosed internal policy, to the AIF, within 15 days of such change.

Moreover, an AIF may exclude an investor from participating in a particular investment opportunity, if the manager of the AIF is satisfied that the participation of such an investor in the investment opportunity would lead to the scheme of the AIF being in violation of the rule or would result in a material adverse effect on the scheme of the AIF.

If the investor of an AIF is also an AIF or any other investment vehicle, such investor may be partially excluded from participation in an investment opportunity to the extent of the contribution of the investment vehicle’s underlying investors who are to be excused from a such investment opportunity.

The manager will have to record the rationale for such exclusions along with the supporting documents.  The guidelines related to excluding an investor from an AIF investment will become effective immediately.

In February 2020, the regulator introduced a template for PPM for AIFs, in order to ascertain that a certain minimum level of information in a simple and comparable format is disclosed to investors.

The PPM template provides for disclosure with respect to direct plan for investors, and constituents of fees that may be charged by the AIF, including distribution fees.