Alternative Investment Funds (AIFs) pool capital from investors and invest it according to a defined strategy. In India, AIFs are regulated by the Securities and Exchange Board of India (SEBI). Their compliance responsibilities begin before a scheme raises money and continue through investment, reporting, exit and winding up.

A fund manager must do more than submit periodic filings. The AIF’s investments must remain consistent with its registered category and Private Placement Memorandum (PPM). Investor eligibility must be checked, conflicts must be managed, portfolio values must be supported, and disclosures must accurately reflect what is happening in the fund. This article explains the main compliance areas in a practical sequence.

In this article, CA Manish Mishra talks about Compliance Checklist for Alternative Investment Funds.

Understanding the AIF’s category and structure

The first step is to confirm that the fund is operating within the category for which it is registered. Category I AIFs generally invest in areas considered socially or economically desirable, such as venture capital, infrastructure and certain other specified sectors. Category II AIFs commonly include private equity and debt funds that do not fall under Category I or Category III. Category III AIFs may use more complex trading strategies and have distinct requirements concerning matters such as leverage and risk management.

The category affects the investments a fund can make and the conditions under which it can operate. The manager should therefore assess every proposed scheme and investment against the fund’s registration, applicable regulations and stated investment strategy. A fund cannot treat its SEBI registration as permission to pursue any investment opportunity it finds attractive.

Keeping registration details current

The AIF should maintain accurate records of its sponsor, manager, trustee where applicable, legal structure, registered address and schemes. A proposed change in any key arrangement should be reviewed before it takes effect. This includes a change in control, a replacement of the manager, or a change that materially alters how a scheme is operated.

The compliance team should document the nature of the proposed change, identify any filing or approval requirement, and check whether investors must be informed. Updating an internal record alone may be insufficient if the change also affects the PPM, scheme documents or information previously submitted to SEBI.

Preparing and maintaining the Private Placement Memorandum

The PPM is one of the most important documents in an AIF’s compliance framework. It tells prospective investors how the scheme intends to invest their money, what risks they will bear, what fees and expenses may be charged, how returns will be distributed and what rights they will have. The manager should treat these disclosures as commitments that guide the scheme’s actual operations.

Before launching a scheme, the manager should ensure that the PPM, contribution agreement, governing documents and marketing materials are consistent. For example, a presentation should not describe a narrower investment strategy or a lower fee than the PPM provides. The manager should also complete the applicable due diligence and filing process before raising capital.

Reviewing changes to the PPM

A scheme’s strategy or operating arrangements may need to change during its life. When this happens, the manager should first determine whether the change is material and whether it affects investors’ original decision to invest. Changes to investment strategy, tenure, fees, distribution rights or key governance terms require particular attention.

The compliance team should check the applicable SEBI process, the consent or exit rights available to investors, and the requirements in the scheme’s own documents. It should retain copies of the old and revised PPM, the reason for the change, approvals, investor communications and proof that the required process was followed.

Checking investor eligibility and completing onboarding

AIF capital is raised through private placement. Before accepting an investor, the manager must establish whether that person or entity is eligible to participate in the particular scheme and meets the applicable minimum investment requirement or a recognised exception. Schemes designed for accredited investors may have additional conditions that must be verified.

Onboarding should be completed before the investor is admitted and units are allotted. It should cover identity verification, know-your-customer requirements, beneficial ownership, authorised signatories, tax information and the signed contribution agreement. The manager should also consider anti-money-laundering obligations and any additional checks relevant to a foreign investor.

Monitoring investors after admission

Investor compliance does not end when the subscription is accepted. A transfer of units, a change in beneficial ownership, or a change in an investor’s legal status may require a fresh review. The manager should maintain an investor register that records commitments, capital contributions, units held, transfers and distributions.

Capital call notices, receipts and allotment records should agree with this register and with the fund administrator’s records. Where a discrepancy appears, it should be investigated and corrected promptly. Accurate investor records are essential for regulatory reporting, financial statements and the fair calculation of each investor’s entitlement.

Monitoring corpus and sponsor contribution

Each scheme should track its corpus, investor commitments, amounts drawn down and undrawn commitments. The manager should check that the scheme satisfies the applicable minimum corpus requirement and that the sponsor or manager maintains the continuing interest required for the relevant AIF category.

These figures can change when investors are admitted, commitments are revised or a closing takes place. The compliance team should therefore review them at each material fundraising event instead of checking them only at launch. The basis of calculation and supporting records should be readily available for audit.

Controlling capital calls and fund expenses

Capital calls should follow the contribution agreement and be issued according to the agreed notice period and procedure. The amount received from each investor should be reconciled against the notice and credited to the correct capital account. Any default by an investor should be handled according to the scheme documents.

The same discipline applies to expenses. Management fees, operating costs, broken-deal expenses and other charges should be allocated as disclosed in the PPM. A fee should not be charged to investors merely because it was incurred by the manager. The compliance team should be able to identify the document that permits each category of expense and explain how it was calculated.

Reviewing investments before approval

Pre-investment compliance is one of the most valuable controls an AIF can have. Once a transaction has closed, a breach of the scheme’s mandate or an investment limit may be difficult to correct. Before the investment committee approves a proposal, the manager should prepare a documented review of the proposed asset, transaction structure and resulting exposure.

The review should establish whether the investment fits the AIF’s category and the scheme’s PPM. It should consider applicable concentration limits, restrictions on borrowing or leverage, related-party involvement, required due diligence and any investor approval or disclosure. The investment committee should receive a clear account of significant compliance issues before making its decision.

Recording the investment decision

A complete transaction file should show what the manager knew and decided at the time of investment. It should contain the investment paper, compliance assessment, conflict review, valuation or pricing basis, committee approval and executed documents. If an investment was approved subject to conditions, the file should also show that those conditions were met before completion.

This record becomes particularly important when the portfolio company’s circumstances change. It helps the manager distinguish a later commercial loss from a failure to follow the required investment process.

Identifying and managing conflicts of interest

Conflicts can arise between the manager and investors, between two schemes managed by the same team, or between the AIF and an associate of its sponsor or manager. They may arise in related-party investments, transfers of assets between schemes, co-investments, allocation of limited investment opportunities and the charging of expenses.

An AIF should have a written conflicts policy that explains how a potential conflict is identified, escalated, assessed and resolved. Relevant employees should disclose personal or financial interests before participating in a decision. Where an independent review, investor consent or advisory committee approval is required, it should take place before the transaction proceeds.

Allocating opportunities fairly

A manager operating multiple schemes should have a consistent method for deciding which scheme receives an investment opportunity. The decision should reflect each scheme’s mandate, available capital, investment period and portfolio needs. It should not depend solely on which allocation is most beneficial to the manager.

The basis for allocation should be documented. If an opportunity is shared between schemes or offered alongside a co-investment, the manager should explain how the allocation was determined and confirm that each participating scheme receives terms consistent with its governing documents.

Maintaining a sound valuation process

An AIF’s portfolio valuation affects investor reports, unit values, performance figures, fees and distributions. Valuing an unlisted or illiquid investment often requires judgment, which makes a consistent and well-documented process especially important.

The manager should adopt a valuation policy that sets out the methodology, valuation frequency, source of information, approval process and circumstances in which an independent valuer is required. The policy should explain how the team handles missing financial information, significant events after the reporting date and changes in assumptions.

Reviewing unusual valuation movements

A substantial increase or decrease in value should have a clear explanation. The valuation file should contain relevant financial information, transaction evidence, assumptions, calculations and the reason for any departure from the usual methodology. Any override should be approved through the process set out in the valuation policy.

Valuation figures used in investor statements, financial accounts, regulatory returns and depository reporting should be reconciled. Differences may sometimes arise because of timing or methodology, but they should be understood and documented before information is issued externally.

Checking dematerialisation and custody records

The manager should review the dematerialisation requirements applicable to the scheme’s units and investments. It should ensure that allotments, transfers and holdings are properly reflected in depository, registrar and internal records. Any permitted exception should be supported by a documented reason.

Custody controls should cover the safekeeping of securities, settlement of transactions, corporate actions and reconciliation of holdings. Where a custodian or administrator performs an operational task, the manager should still review exception reports and resolve breaks. Outsourcing the work does not eliminate the need for oversight.

Completing SEBI and investor reporting

An AIF should maintain a reporting calendar for each scheme. The calendar should identify every periodic filing, its reporting period, due date, responsible preparer, reviewer and method of submission. It should also include event-based reporting triggered by material changes or specific transactions.

The information submitted to SEBI should agree with the fund’s books, investor register and portfolio records. Before filing, the manager should review the underlying data on commitments, investments, valuations and scheme status. A timely return containing inconsistent figures can create a separate compliance problem.

Keeping investors properly informed

Investor communications should follow both regulatory requirements and the commitments in the PPM. Depending on the scheme, reports may cover portfolio holdings, investment performance, valuation, fees, expenses, material risks and significant developments. The manager should verify figures and explanations before circulation.

Material events should be communicated through the applicable process. Investors should not learn of an important change only when an annual report arrives if the regulations or scheme documents require earlier disclosure. Copies of reports, delivery records and responses to investor queries should be retained.

Conducting the PPM audit and financial audit

The PPM audit examines whether the scheme has operated according to the terms disclosed to investors. It may test matters such as investment strategy, fees, expenses, governance, conflicts and reporting. The manager should maintain supporting records throughout the year so that the audit is a review of existing evidence, rather than an attempt to reconstruct decisions later.

The financial audit should reconcile the scheme’s financial statements with bank accounts, investment holdings, valuations, capital accounts and distributions. The two audits examine related information from different perspectives, and findings from either may reveal a control weakness that needs attention.

Closing audit findings

An audit observation should have a named owner, a proposed corrective action and a target date. The manager should assess whether the issue affects investors, prior filings or another scheme. Significant findings should be escalated to the appropriate oversight body. A finding is not closed merely because a response has been sent to the auditor. The underlying problem should be corrected, the correction should be evidenced, and the team should consider whether a policy or control must change to prevent recurrence.

Maintaining governance and risk controls

The AIF should have clear responsibilities for investment decisions, compliance review, risk management, valuation, reporting and investor grievances. The relevant policies should be understood by the staff who use them. A policy kept on file but ignored during transactions provides little protection.

The manager should periodically review its systems, access controls, data security, record retention and business continuity arrangements. It should also oversee material service providers such as the custodian, fund administrator, registrar, valuer and auditor. Service-provider errors should be captured through reconciliations and exception reporting.

Tracking tax and other statutory obligations

An AIF may have obligations under income-tax law, withholding-tax rules, GST provisions, foreign-exchange law and the laws applicable to its legal structure. The precise position depends on the AIF’s category, income, investors and transactions. A tax treatment that applies to one scheme should not automatically be assumed for another.

A separate statutory calendar should track tax deposits, returns, investor tax statements, financial statements and entity-level filings. Amounts reported for tax purposes should reconcile with the fund’s accounts and investor distributions. Cross-border subscriptions or investments should receive a specific exchange-control and tax review.

Planning scheme extensions and winding up

A close-ended scheme should begin planning exits well before its stated tenure ends. The manager should track the remaining investments, expected exit dates and any assets that may be difficult to sell. An extension of tenure should be assessed against the applicable regulations, PPM and investor-consent requirements.

If assets remain at the end of a scheme’s tenure, the manager should examine the regulatory options available at that time and communicate the proposed approach to investors. Valuation, expenses, distribution mechanics and treatment of different investor interests must be considered carefully. Final winding up should be supported by reconciled accounts, completed distributions and retained records.

A practical AIF compliance calendar

Conclusion

Frequently Asked Questions (FAQ’s)

Q1. What is an Alternative Investment Fund?

Ans. An Alternative Investment Fund (AIF) is a privately pooled investment vehicle that collects capital from investors and invests according to a defined strategy. In India, AIFs operate under SEBI’s regulatory framework and are classified into Category I, Category II or Category III.

Q2. Does SEBI registration complete an AIF’s compliance requirements?

Ans. No. Registration permits the AIF to operate within its approved category, but compliance continues throughout each scheme’s life. The manager must monitor investments, investor eligibility, valuations, disclosures, audits, regulatory reporting and the terms promised in the Private Placement Memorandum (PPM).

Q3. Why is the Private Placement Memorandum important?

Ans. The PPM explains the scheme’s investment strategy, risks, fees, expenses, tenure and investor rights. It is the reference point for assessing whether the scheme is operating as represented to investors. Material changes may require regulatory steps and investor consent or other rights.

Q4. What should an AIF check before admitting an investor?

Ans. The manager should verify the investor’s eligibility, applicable minimum investment requirement, identity, beneficial ownership and KYC documents. It should also obtain a signed contribution agreement and complete relevant anti-money-laundering, tax and foreign-investment checks before accepting the investment.

Q5. What should be reviewed before an AIF makes an investment?

Ans. The manager should confirm that the transaction fits the registered category and the scheme’s PPM. It should assess applicable investment limits, due diligence, leverage restrictions, related-party involvement, conflicts and required approvals. The analysis and investment decision should be documented before completion.

Q6. Can two schemes managed by the same AIF manager invest in the same opportunity?

Ans. They may be able to do so, subject to their respective mandates and applicable rules. The manager should have a fair, documented allocation process. It should consider each scheme’s strategy, available capital and investor interests, and address any conflict of interest before investing.

Q7. How should an AIF manage conflicts of interest?

Ans. An AIF should identify conflicts early, record them and apply its conflicts policy. Depending on the transaction, the manager may need to obtain an independent review, make disclosures or secure the required consent. A conflict should be resolved through the applicable process before the transaction proceeds.

Q8. Why is valuation compliance important for AIFs?

Ans. Valuation influences investor reports, unit values, performance figures, fees and distributions. The manager should follow a written valuation policy, support material assumptions with evidence and review unusual changes. Figures reported to investors, auditors and depositories should be reconciled.

Q9. What is a PPM audit?

Ans. A PPM audit examines whether the scheme’s operations match the terms disclosed in its Private Placement Memorandum. It may cover investment strategy, fees, expenses, governance, conflicts and investor disclosures. The manager should retain records throughout the year to support the audit.

Q10. Do AIFs need to submit reports after registration?

Ans. Yes. AIFs have periodic and event-based reporting and disclosure obligations. The requirements depend on the scheme and the applicable regulatory framework. A scheme-specific compliance calendar should identify each report, due date, responsible person and evidence of submission.