An Alternative Investment Fund (AIF) serves as a privately managed investment pool that brings together funds from sophisticated investors. This collective pool of capital is then strategically invested according to a defined investment policy aimed at generating favorable returns for its participants. Unlike entities governed by SEBI regulations for collective investment schemes or mutual funds, an AIF operates independently, adhering to its own set of guidelines and regulations outlined by SEBI.

The distinguishing feature of an AIF lies in its capacity to offer investors exposure to a diverse range of alternative assets, including but not limited to venture capital, real estate, private equity, hedge funds, and managed futures. By allocating resources to such non-traditional investment avenues, AIFs provide investors with opportunities to diversify their portfolios beyond conventional assets like stocks and bonds.

Moreover, an AIF is typically structured as a privately held entity, organized in the form of a body corporate, company, limited liability partnership (LLP), or trust. This setup enables greater flexibility in investment strategies and operational frameworks, catering to the specific needs and preferences of the investors involved.

Given the sophisticated nature of alternative investments and the substantial investment amounts typically required, AIFs primarily attract high net worth individuals and institutional investors. This exclusive investor base allows for a more tailored approach to investment management and decision-making within the fund.

In essence, an AIF represents a distinct avenue for investors seeking exposure to alternative asset classes, offering a carefully curated investment vehicle governed by SEBI regulations, but distinct from traditional mutual funds and collective investment schemes.

Entities that are not subject to AIF Regulations:

Financial regulations in India are complex, with different rules for various types of entities. One such entity is the Alternative Investment Fund (AIF), regulated by the SEBI (Alternative Investment Funds) Regulations, 2012. These regulations exclude certain entities and provide exemptions for others. Understanding these exceptions is important for those interested in investments or setting up an AIF. Here's a breakdown:

1. Entities covered by other SEBI regulations: AIFs don't include funds regulated under other SEBI rules, such as:

  • Mutual Funds: These are investment vehicles managed by a company, investing in stocks, bonds, etc.
  • Collective Investment Schemes (CIS): These pool funds from investors for securities investments.

2. Exemptions from AIF Registration: Some entities don't need to register under AIF regulations:

  • Family trusts for 'relatives': Trusts set up for relatives under the Companies Act, 1956, are exempt.
  • Employee welfare or gratuity trusts: Trusts for employee benefits are also exempt.
  • Holding companies: Companies that own stocks of other companies for control are exempt.

It's crucial to understand these exemptions properly, as their application depends on specific circumstances and legal interpretations. Seeking professional advice is recommended for investors and fund managers to navigate these regulations effectively.

Advantages of Alternative Investment Funds:

1. More Choices and Flexibility: AIFs offer more freedom compared to regular investments like mutual funds. They can invest in a wide range of things and try out new strategies, giving investors different options based on how much risk they're comfortable with.

2. Good Rewards for Risks: AIFs can bring in big rewards, even though they come with higher risks. They invest in things like private companies or commodities, which can lead to higher returns than typical investments.

3. Diversification and Stability: AIFs spread out their investments across many different things that regular portfolios don't usually include. This helps make sure that if one investment isn't doing well, others can balance it out. Also, the returns from these investments don't usually move in the same way as regular investments, which helps lower the chance of big swings in value.

4. Access to Special Investments: AIFs often let investors put money into things that aren't available to everyone, like startups or real estate projects. This opens up opportunities for higher returns.

5. Balanced Risk: AIFs often have special plans that aim to keep risks in check while still offering good rewards. These plans use smart strategies and tools to balance out the risks and rewards. This makes AIFs appealing to wealthy individuals who want to spread out their investments but still keep risks under control.

Remember, even though AIFs have these benefits, they also have risks. It's important for investors to understand these risks and talk to financial experts before putting their money in.

Conditions for AIF Registration || Legal Criteria for AIF Registration:

  1. The documents like MOA, Trust Deed, or Partnership Deed must include clauses about operating as an Alternative Investment Fund.
  2. If it's a trust or partnership firm, the Trust Deed or Partnership Deed must be registered with the respective registrar as per the laws.
  3. The documents should have rules against inviting the public to buy its securities.
  4. The Applicant, Sponsor, and Manager must meet the "fit and proper" criteria as per Schedule II of the Securities and Exchange Board of India (Intermediaries) Regulations, 2008.
  5. The key investment team members of the investment manager should have enough experience, with at least one key person having 5 years of relevant experience.
  6. The Manager & Sponsor must have the necessary resources and staff to carry out their activities.
  7. The Applicant must clearly state the investment goals, strategies, fund size, duration, and target investors.
  8. An AIF must have a minimum corpus of at least Rs. 20 crores (Rs. 5 crores for an Angel Fund).
  9. Each investor in an AIF must invest a minimum of INR 1 crore, but for an Angel Fund, it's INR 25 lakhs.
  10. An employee or director of the Manager participating in the profits must invest at least INR 25 lakhs.
  11. It's not obligatory for a profit-sharing employee of the Manager to invest in the AIF.
  12. An AIF scheme can't have more than 1000 investors, while an Angel Fund can't have more than 200 investors.
  13. Category I and II AIFs are closed-ended funds, while Category III AIFs are open-ended. Angel Funds have a maximum tenure of 5 years.
  14. The solicitation or collection of funds by Category III AIFs is restricted, except through private placement according to the Companies Act, 2013, as there's no specific provision in AIF Regulations.
  15. Units of an AIF may be listed on the stock exchange only after the fund or scheme is closed, with a minimum tradable lot of INR 1 crore.

Categories of Alternative Investment Fund:

Category I Alternative Investment Fund:

Funds investing in early-stage Start-Ups, Small and Medium Enterprises (SMEs), and new businesses with promising growth potential are crucial for economic development. The government has introduced various incentives to support such funds due to their role in fostering growth and creating jobs. These funds have significantly benefited India's startup ecosystem.

A] Category I includes:

  • Venture Capital Fund (VCF): These funds provide financing to startups or SMEs in exchange for equity ownership. They target businesses with long-term growth potential, minimizing investment risks.
  • Angel Fund (AF): Similar to VCFs, these funds are backed by individual "angel" investors who pool their resources to invest in promising startups. They focus on early-stage companies and offer higher risk-return opportunities.
  • Infrastructure Fund (IF): These funds invest in infrastructure development projects, benefiting from government incentives and tax breaks. They offer attractive returns through capital growth and dividend income.
  • Social Venture Fund (SCF): SCFs invest in companies addressing social and environmental issues while generating profits. They target projects with growth potential and social impact, aiming for a win-win outcome for investors and society.
  • SME Fund: SME funds support micro, small, and medium enterprises, addressing their capital needs through equity financing. They fill the gap left by traditional lenders, offering growth opportunities to SMEs through equity investments and potential returns from company growth or stock market listing.

These funds play a vital role in supporting various sectors of the economy, driving growth, and creating a positive social impact.

Category II Alternative Investment Fund:

Category II Alternative Investment Funds (AIFs) are those funds that do not fall under Category I (such as Venture Capital Funds, Angel Funds, Infrastructure Funds, etc.) or Category III (which includes Hedge Funds, among others). These funds invest in a diverse range of securities and do not receive any special incentives or concessions from the government.

Examples of Category II AIFs include Private Equity (PE) Funds, Real Estate Funds, Debt Funds, and funds focused on distressed assets. These funds typically target unlisted private companies for investment opportunities.

Here's a closer look at each type of Category II AIF:

  1. Private Equity (PE) Fund: PE funds primarily invest in unlisted private companies, acquiring a share of ownership in exchange for funding. These unlisted companies cannot raise capital through public equity or debt offerings, so they seek financing from PE funds to meet their funding needs. PE funds often diversify their investments across various companies to mitigate risks. They typically have a medium to long-term investment horizon, ranging from 4 to 7 years. PE funds aim to exit their investments with substantial profits after the investment period.
  1. Debt Fund: Debt funds pool funds primarily for investing in debt instruments of both listed and unlisted companies. They focus on companies with high growth potential and sound corporate practices but experiencing a cash crunch. Debt funds may target companies with lower credit ratings, offering higher yields but also carrying higher risk. According to SEBI regulations, debt funds cannot use their investments for providing loans, as AIFs are privately pooled investment vehicles.
  1. Fund of Funds: Fund of Funds is a combination of various AIFs. Instead of making direct investments, these funds invest in a portfolio comprising other AIFs. Unlike mutual funds' fund of funds, AIF fund of funds cannot raise capital from the public or issue units publicly. They serve as a convenient option for investors seeking diversification across multiple AIFs without directly managing individual investments.

These Category II AIFs play a significant role in the financial ecosystem by providing alternative investment avenues and contributing to the growth of various sectors, including private equity, real estate, and debt markets.

Taxation of Alternative Investment Funds (AIFs) in India:

Understanding the tax implications of investing in Alternative Investment Funds (AIFs) in India requires a detailed look into the categorization of AIFs and the specific tax treatments they receive under the Income Tax Act, 1961.

  1. Category I AIFs: These funds focus on socially or economically beneficial ventures such as startups, SMEs, social ventures, or infrastructure projects. The income generated by Category I AIFs is generally exempt from tax at the fund level. However, investors are liable to pay taxes on their share of income from the AIF.

2. Category II AIFs: This category includes funds that don't fall under Category I or III and do not engage in significant leverage or borrowing, except for daily operational needs. Similar to Category I, the income of Category II AIFs is exempt from tax at the fund level. Tax liability falls on the investors, who are taxed on the income they receive from the fund.


3. Category III AIFs: These funds employ diverse or complex trading strategies and may use leverage, including investments in derivatives. The tax treatment for Category III AIFs differs. Short-term capital gains (gains from assets held for less than 36 months) are taxed at 30%, while long-term capital gains (from assets held for more than 36 months) are taxed at 10% without indexation or 20% with indexation.

Pass-Through Status:

A crucial aspect of AIF taxation is the pass-through status, where the income is taxed at the investor's level, not at the AIF level. Category I and II AIFs enjoy pass-through status for all types of income. However, for Category III AIFs, only income in the form of capital gains benefits from pass-through treatment.

Tax Deducted at Source (TDS):

AIFs are required to deduct Tax Deducted at Source (TDS) at a rate of 10% on any income (other than capital gains) paid to investors.

Indirect Transfer Provisions:

For foreign investors, there's a provision known as indirect transfer provisions. If the shares of a foreign entity derive substantial value from assets located in India, the transfer of these shares could be taxable in India. This provision may affect foreign investors in AIFs, necessitating careful consideration of their tax implications.

In summary, understanding the tax implications of investing in AIFs involves navigating the categorization of AIFs, their pass-through status, TDS requirements, and potential indirect transfer provisions, ensuring investors make informed decisions regarding their investments.

Category III Alternative Investment Fund:

Category 3 Alternative Investment Funds focus on achieving short-term returns through various complex trading strategies. Unlike Category 1 and Category 2 AIFs, they do not receive any incentives or concessions from the government.

Category III AIFs have the flexibility to borrow or leverage funds with consent from investors, up to a maximum limit set by SEBI. They can invest in units of other AIFs from Category I, Category II, or Category III, but they are restricted from investing in units of Fund of Funds.

Category III includes:

  1. Hedge Fund: These funds pool money from institutional and accredited investors to invest in domestic and international markets using different strategies to generate active returns. Hedge Funds often use leverage and derivatives extensively and aim for high returns. They typically charge higher fees, such as a 2% asset management fee and up to 20% of profits earned.
  2. Private Investment in Public Equity Fund (PIPE): This is a privately managed pool of funds reserved for investing in publicly traded stocks at discounted rates. Investors purchase shares of publicly traded companies at a discount, providing capital to the company in exchange for a stake in its ownership.

Comparison of Alternative Investment Funds (AIF) Categories:

1. Registration Fees:

  1. Category 1 (AIF): INR 500,000 (INR 200,000 for Angel Funds)
  2. Category 2 (AIF): INR 1,000,000
  3. Category 3 (AIF): INR 1,500,000

2. Managers Contribution:

  1. Category 1 (AIF): > 2.5% of the corpus of the Fund; OR > INR 5 Crores (INR 50 Lakhs for Angel Funds), whichever is LOWER
  2. Category 2 (AIF): > 2.5% of the corpus of the Fund; OR > INR 5 Crores, whichever is LOWER
  3. Category 3 (AIF): > 5% of the corpus of the Fund; OR > INR 10 Crores, whichever is LOWER

3. Minimum Corpus required for each scheme:

  1. Category 1 (AIF): Minimum Corpus of INR 20 Crores (INR 5 Crores in case of Angel Funds & INR 100 Crores in case of SSF's)
  2. Category 2 (AIF): Minimum Corpus of INR 20 Crores
  3. Category 3 (AIF): Minimum Corpus of INR 20 Crores

4. Thresholds for investment in Listed Securities:

  1. Category 1 (AIF): Limited investments permitted in Listed Securities
  2. Category 2 (AIF): Up to 49.99% of the corpus can be invested in listed securities
  3. Category 3 (AIF): Up to 100% of the corpus is permitted to be invested in listed securities

5. Investment Period:

  1. Category 1 (AIF): 3 to 10 Years
  2. Category 2 (AIF): 2 to 5 Years
  3. Category 3 (AIF): 1 to 10 Years

6. Maximum Number of Investors:

  1. Category 1 (AIF): 1000 (200 for Angel Funds)
  2. Category 2 (AIF): Not Stipulated
  3. Category 3 (AIF): Not Stipulated

7. Restriction & Compliance:

  1. Category 1 (AIF): Moderate
  2. Category 2 (AIF): Low
  3. Category 3 (AIF): High

8. If QIB Permitted:

  1. Category 1 (AIF): Yes, if held for at least 1 year then no lock in prior to IPO
  2. Category 2 (AIF): Yes, if held for at least 1 year then no lock in prior to IPO
  3. Category 3 (AIF): YES

9. Leverage:

  1. Category 1 (AIF): NO
  2. Category 2 (AIF): NO
  3. Category 3 (AIF): 2 times leverage or 100 percent of exposure is permitted

10. Investment by PFI, Insurance Companies & Banks:

  1. Category 1 (AIF): Permitted (restricted to 10% in Angel Funds)
  2. Category 2 (AIF): Permitted (restricted to 10% in Angel Funds)
  3. Category 3 (AIF): Not Permitted

11. Open Ended or Close Ended:

  1. Category 1 (AIF): Close Ended
  2. Category 2 (AIF): Close Ended
  3. Category 3 (AIF): Open or Close Ended

The procedure and steps for AIF registration in India:

Here's a detailed guide on how to establish Alternative Investment Funds (AIFs) in India:

1. Application Process:

  • Start by filling out Form A, the designated application form specified by the Securities and Exchange Board of India (SEBI), the regulatory authority.
  • Along with Form A, submit a cover letter addressing SEBI. Clearly state whether the AIF is already registered as a Venture Capital (VC) fund with SEBI. Provide all relevant registration information if applicable.
  • Obtain a bank draft for the application fee payable to SEBI. The current application fee is Rs 100,000.

2. SEBI Evaluation:

  • SEBI will review the application to ensure compliance with eligibility requirements outlined in the SEBI (Alternative Funds) Regulations, 2012.
  • SEBI typically responds within 21 days, although the timeline may vary depending on compliance and other factors.

3. Payment and Registration:

  • If the application is approved, the AIF must pay the registration fee to SEBI. The current registration fee is Rs. 500,000 for new registrations and Rs. 100,000 for re-registration if already registered as a VC fund.
  • Upon receipt of the registration fee, SEBI will issue a 'Certificate of Registration' as an Alternative Investment Fund.

4. Compliance and Reporting:

  • Once registered, the AIF must ensure strict compliance with SEBI's reporting requirements.
  • The AIF should regularly update its website and communicate any material changes to SEBI in a timely manner.
  • Compliance with SEBI guidelines is essential for maintaining AIF status in India.

By following these steps and adhering to SEBI's regulations, entities can successfully establish Alternative Investment Funds in India.


In conclusion, Alternative Investment Funds (AIFs) have emerged as an important investment avenue in India, offering investors diverse opportunities beyond traditional investment options. With their ability to invest in a wide range of assets such as venture capital, real estate, private equity, and hedge funds, AIFs provide investors with greater flexibility and potential for higher returns.

The regulatory framework established by the Securities and Exchange Board of India (SEBI) has brought a level of transparency and oversight to the AIF industry, ensuring investor protection while fostering growth and innovation. AIFs cater to various investor profiles, from high-net-worth individuals to institutional investors, providing them with access to specialized investment strategies and sectors.

Moreover, AIFs play a vital role in supporting economic growth by channeling capital into sectors such as start-ups, small and medium enterprises, and infrastructure development. They also contribute to job creation and innovation, driving India's entrepreneurial ecosystem forward.

However, it's essential for investors to conduct thorough due diligence and understand the risks associated with investing in AIFs, as they typically involve higher risk and less liquidity compared to traditional investments. Additionally, continuous compliance with SEBI regulations and reporting requirements is crucial for AIF managers to maintain the integrity and credibility of the industry.

Overall, AIFs represent a dynamic and evolving segment of the Indian financial market, offering both opportunities and challenges for investors and fund managers alike. With the right strategy and regulatory framework in place, AIFs are poised to continue playing a significant role in shaping India's investment landscape in the years to come.