RBI tightens rules for banks, NBFCs' investments in alternative investment funds

The Reserve Bank of India (RBI) on Tuesday barred regulated entities (REs) such as banks and non-banking finance companies (NBFCs), from investing in any scheme of alternative investment funds (AIFs) which has downstream investments either directly or indirectly in the debtor company of the RE. In the notification, RBI said, "REs shall not make investments in any scheme of AIFs which has downstream investments either directly or indirectly in a debtor company of the RE."

And the central bank further added, "Explanation: The debtor company of the RE, for this purpose, shall mean any company to which the RE currently has or previously had a loan or investment exposure anytime during the preceding 12 months."

The RBI notification stated that debtor company of the regulated entities, for this purpose, shall mean any company to which the regulated entities currently has or previously had a loan or investment exposure anytime during the preceding 12 months.

Furthermore, the central bank notified: "If an AIF scheme, in which RE is already an investor, makes a downstream investment in any such debtor company, then the RE shall liquidate its investment in the scheme within 30 days from the date of such downstream investment by the AIF. If REs have already invested into such schemes having downstream investment in their debtor companies as on date, the 30-day period for liquidation shall be counted from date of issuance of this circular. REs shall forthwith arrange to advise the AIFs suitably in the matter."

Also, "in case REs are not able to liquidate their investments within the above-prescribed time limit, they shall make 100 per cent provision on such investments," the notification said.

The tighter rules, which come into immediate effect, have been issued due to concerns over instances where AIFs mask bad loans in the financial system. The RBI pointed out that certain transactions of REs involving AIFs raise regulatory concerns over possible "evergreening through this route".

RBI said that lenders would need to liquidate their investments in AIFs within 30 days should the fund invest in an existing borrower.

If the regulated entity is unable to do so, they will be required to make 100 per cent provisions on these investments, the RBI added.

In instances where a regulated entity has invested in subordinate units of a fund that follows a 'priority distribution' model, the investment shall be subject to full deduction from the entity's capital.

(With Agency Inputs)