RBI revises rules for investment in Alternative Investment Funds

By | May 20, 2025

The Reserve Bank of India (RBI) recently updated the rules governing how regulated entities (REs)—including banks and NBFCs—can invest in Alternative Investment Funds (AIFs). The revised guidelines aim to maintain financial stability while encouraging capital flow through AIFs, which play a key role in funding emerging sectors.

Why RBI Took Action

Alternative Investment Funds invest in assets outside traditional stocks and bonds, such as private equity, venture capital, real estate, and infrastructure projects. Over the last decade, AIFs have become vital for growth and innovation in India. They provide flexible capital to startups, SMEs, and large infrastructure projects.

However, regulators grew concerned about risks tied to investments by REs in AIFs, especially when those funds had exposure to companies that also borrow from the same banks or NBFCs. This overlapping exposure could create conflicts of interest and increase financial risks. Regulators also noticed some cases of loan evergreening, where debt was recycled to hide defaults or delay repayments.

In December 2023, the RBI barred REs from investing in AIFs that had exposure to their own borrowers. This aimed to stop circular financing. Though well-intentioned, this move disrupted capital inflows to many AIFs and slowed down investments in supported sectors.

What the New RBI Guidelines Say

In May 2025, the RBI released draft rules to fix this problem and set clearer limits. The main points include:

1. Investment Limits for Regulated Entities

  • A single regulated entity can invest up to 10% of an AIF scheme’s total corpus.
  • All regulated entities combined can invest up to 15% of the scheme’s corpus.
  • Up to 5% investment by a single RE does not trigger extra provisioning.

These limits prevent any one entity, or group of REs, from holding too much risk in one AIF.

2. Provisioning Rules Beyond 5%

  • If an RE invests more than 5% in an AIF and the fund has debt exposure to a borrower of the RE, the RE must set aside a 100% provision for its share of exposure.

This step protects the investing entity from potential losses linked to indirect exposure.

3. Exemptions for Strategic Funds

The RBI can exempt certain AIFs created for strategic reasons, after consulting the central government. This offers flexibility for investments that support national priorities.

4. Rules Apply Going Forward

The revised rules apply only to new investments. Existing investments follow the older norms. This helps avoid disruption for ongoing funds and investors.

What These Changes Mean for the Market

Market participants, including fund managers and investors, have welcomed the new guidelines. Here is why:

More Participation from Regulated Entities

Clear caps and provisioning rules reduce uncertainty. Banks and NBFCs may now invest more confidently. Allowing up to 10% individually and 15% collectively can unlock significant capital. This will help AIFs raise funds more easily and support growth.

Boosting Capital in Emerging Sectors

AIFs fund startups, technology firms, and infrastructure projects where traditional loans are limited. The relaxed rules should help these funds attract more capital, speeding up innovation and job creation.

Maintaining Financial Safety

While encouraging investment, the RBI also enforces safeguards like provisioning. These help prevent financial risks and protect the banking and NBFC sectors.

Better Transparency and Governance

Clear investment limits and rules will push regulated entities and fund managers to improve governance. This can boost investor confidence and improve risk management.

Remaining Challenges

The 100% provisioning for investments above 5% might make some entities cautious. They may avoid higher exposure to reduce capital costs.

Smaller or niche AIFs could struggle to attract regulated entities due to the 15% collective cap. They may need to seek other investors.

The exemption for strategic funds depends on government approval, so its impact is still uncertain.

Conclusion

The RBI’s updated rules on AIF investments strike a careful balance between encouraging capital flow and managing risk. By capping investments and setting provisioning norms, the RBI supports economic growth while protecting financial stability.

AIFs are critical for India’s innovation and infrastructure development. These new guidelines provide clarity and flexibility needed to grow this sector sustainably.

Investors and fund managers will watch closely as the rules take effect. They will shape the future of alternative investments in India, helping drive long-term economic growth.