Exploring Investment Opportunities: Alternative Investment Funds in GIFT City

Amidst today’s diverse investment landscape, discerning investors seek vehicles aligned with specific risk appetites and return objectives. The recent introduction of the Specialised Investment Fund (SIF) framework by the regulator highlights this trend. Understanding the nuances of fund structures, from mutual funds offering diversified portfolios, to Portfolio Management Services (PMS) providing bespoke solutions and Alternative Investment Funds (AIFs) and SIFs catering to sophisticated investors with distinct strategies and risk profiles, is crucial.

The Appeal of Alternatives
A marked shift in interest towards specialised vehicles like AIFs and PMS is evident. A key attraction of AIFs is their typical detachment from direct stock market linkages, resulting in relatively lower volatility than traditional equity investments. This characteristic, alongside unique structures and strategies, positions AIFs favourably for sophisticated investors, including High-Net-Worth Individuals (HNIs), Ultra High-Net-Worth Individuals (UHNIs), corporate treasury departments, asset managers and wealth management firms. GIFT City, as India’s premier International Financial Services Centre (IFSC), is becoming a significant hub for such activity.

A Favoured Destination
AIFs domiciled within GIFT City operate under a distinct and advantageous regulatory regime designed to attract global and domestic capital. Governed primarily by the IFSCA (Fund Management) Regulations, 2022, they offer benefits including tax efficiencies, enhanced leverage opportunities and streamlined operational processes compared to the broader Indian financial system. Investment thresholds reflect this targeting of sophisticated capital: a minimum commitment of USD 150,000 is required for GIFT City AIFs.

Structure, Strategy and Regulation
AIFs are categorised under SEBI regulations (applicable in spirit within GIFT City, though superseded by IFSCA rules) based on strategy and risk:

• Category I: Includes venture capital, start-up funds, social ventures and infrastructure funds. Perceived as having positive spill-over effects.
• Category II: Includes private equity, debt funds and funds pursuing diverse strategies not falling under I or III. This category holds no specific incentives or concessions.
• Category III: Funds employing complex trading strategies, often involving leverage, including hedge funds.

Registration costs vary by category. AIFs within GIFT City are permitted to deploy up to 25% of their investible capital into foreign markets, enhancing diversification potential.

Investor Profile and Tax Implications
These vehicles are designed for investors capable of committing substantial capital for extended periods. AIFs typically feature a minimum lock-in period of three years, with fund managers often holding the option to extend Category I and II funds for up to two additional years. Income generated from Category I and II AIFs is treated as capital gains for tax purposes. Applicable tax rates differ based on the specific income type and the investor’s residency status.

Understanding the Inherent Risks
Potential investors must carefully consider associated risks like:

• Liquidity Risk: AIFs are generally less liquid than traditional mutual funds. Exiting an investment before the fund’s tenure concludes can be challenging, as most are structured as close-ended with a fixed lifespan.
• Regulatory Risk: While operating under the IFSCA framework in GIFT City, AIFs typically face lighter regulatory touch than mutual funds. This can increase exposure to risks of mismanagement or fraud, demanding thorough due diligence.
• Operational Change: Reflecting a push towards transparency, SEBI mandates that any AIF investment made on or after 1st July 2025 must be held in dematerialised form, irrespective of whether acquired directly or transferred.

A Distinctive Proposition
Alternative Investment Funds operating within GIFT City’s IFSC present a compelling proposition for sophisticated investors and fund managers. The combination of a tailored regulatory environment offering tax benefits and operational efficiencies, combined with the ability to access international markets, makes GIFT City AIFs a significant component of the modern alternatives landscape. However, the substantial minimum investment, extended lock-in periods and inherent liquidity constraints require careful consideration aligned with long-term investment goals and risk tolerance.

Authored by Ms Anita Ananthan, Chief Financial Officer – Legal and Compliances at Credence Analytics, a micro-certified MSME software company. Ms Ananthan is a Certified Independent Director and an alumna of the London School of Economics (LSE). She is also the founder of ‘Club of Hope,’ an NGO dedicated to supporting children and the elderly.

Disclaimer: The views expressed here are personal. The author can be reached at anitakumar@credenceanalytics.com