The Securities and Exchange Board of India’s (SEBI) new framework allowing Alternative Investment Funds (AIFs) to retain liquidation proceeds beyond their fund life seeks to address a long-standing regulatory gap that often forced managers to rely on contractual safeguards or even keep funds alive longer than commercially necessary to deal with pending tax claims, litigation and other liabilities.

The framework, implemented on Tuesday, allows AIFs to retain liquidation proceeds in specified cases, including pending or anticipated litigation, tax or regulatory demands, and residual winding-up expenses.

It also introduces an ‘Inoperative Fund’ category for schemes that have liquidated all investments but need to remain registered until such issues are resolved.

The move comes after SEBI found that around 14 AIF schemes had retained nearly ₹180 crore after liquidating their investments, primarily to meet pending or anticipated tax and legal liabilities and residual operational expenses.

Existing regulations required AIFs seeking to surrender their registration to maintain a nil bank balance, leaving funds with retained monies ineligible to complete the surrender process.

“AIF managers generally rely on contractual measures including investor giveback and indemnities as well as some limited type of insurances to take care of potential liabilities in the absence of a clear regulatory framework to deal with end-of-life problems faced by limited life or close-ended funds,” said Nandini Pathak, Partner at Bombay Law Chambers.

Vivaik Sharma, Partner at Cyril Amarchand Mangaldas said the issue is fairly common, particularly where tax demands or disputes involving portfolio companies arise after investments have been exited.

“There was no formal regime for AIFs to exist in the twilight zone while holding cash reserves pending unresolved litigation, contingent liabilities or for holding reserves to meet winding-up related expenses, once all assets are liquidated,” Sharma said.

“Sometimes the funds had to be kept longer than commercially viable just to avoid non-compliance with the nil balance norm. It made sense to build in such provisions through investor indemnities or givebacks as done through fund documents in other countries,” said a senior manager at a domestic AIF. 

Pratibha Jain, Chairperson of the Regulatory Affairs Committee at IVCA said, “The circular is a significant improvement over the previous framework and addresses a key operational challenge faced by AIFs of not having clarity to distribute proceeds to investors if there was a pending contingent liability.”

However, she said that India continues to adopt a more rules-based approach than mature fund jurisdictions such as Singapore and Mauritius, where reserve retention and winding-up are largely governed by fund documentation.

The framework, Sharma said, brings a lot of clarity by distinguishing between funds that still hold investments and those that have liquidated all investments but need to retain cash to meet pending obligations.

AIFs can now retain liquidation proceeds after receiving litigation notices or regulatory demands, with the consent of at least 75 per cent of investors by value in cases of anticipated liabilities, or to meet residual winding-up expenses.

Funds classified as ‘Inoperative’ cannot launch new schemes, make fresh investments or charge management fees, but will receive relief from several ongoing compliance requirements until pending liabilities are resolved.

Published on June 17, 2026