Sebi to AIFs: Offer direct plans; introduces trail model for commissions

New norms to curb mis-selling, bring parity on upfront commissions that are already barred in MFs, PMS

The Securities and Exchange Board of India (Sebi) has directed alternative investment funds (AIFs) to provide an option of direct plan and to charge distribution fee for other schemes only on trail basis (see box: Trail Model). Sebi’s directive aims to curb mis-selling and increase transparency in fee payments.

These direct plans will not have any distribution fee or placement fee — something akin to the norms followed by the mutual funds industry.

“AIFs shall ensure that investors who approach the AIF through a Sebi registered intermediary, which is separately charging the investor any fee (such as advisory fee or portfolio management fee), are on-boarded via Direct Plan only,” said Sebi.

Barring upfront payment of distribution fee, the market regulator has asked category III AIFs to charge investors only on equal trail basis. Category III AIFs can be hedge funds investing in listed and unlisted securities, and are considered riskier investment products. 

Upfront commissions are already banned for portfolio management services and mutual funds. The move brings AIFs on a level playing field by removing the arbitrage opportunities the distributors enjoyed.

Industry players said that due to this arbitrage, distributors sometimes pushed for AIF for investors for whom these niche products were not appropriate according to risk-profiling. Sebi’s move aims to curb such cases of mis-selling.

In certain cases, these upfront commissions could go as high as 5 per cent for the committed amount. The investment of this committed amount is spread over the tenure of the fund but the commission was being charged over the whole amount upfront.

“Any distribution fee/ placement fee paid shall be only from the management fee received by the managers of such Category III AIFs,” said the regulator.

For other categories, AIFs may pay up to one-third of the total distribution fee to the distributors upfront, and the remaining will have to be paid on equal trail basis over the tenure of the fund.

AIFs will have to mandatorily disclose distribution fee or the placement fee, if any, to the investors at the time of on-boarding.

The new norms will be effective from May 1.

Trail model

• Till now, upfront commission was being paid on the total committed amount
• Investors pay the committed amount in several tranches
• As the tenure of an AIF is spread over years, now the commission/distribution fee will be paid over the years
• For Category III, the distribution fee will be collected over the years instead of upfront in equal trail basis
• For Category I and Category II, up to one-third of the total distribution fee may be paid upfront and rest on trail model
• Distribution fee now included in management fee to avoid double-charging investors