Sebi said mutual funds often conform to the lag time between redemption payments and withdrawals from investments. Typically, redemption payments to investors are processed in the morning hours of the settlement day (T+1), while funds from instruments such as TREPS and reverse repo transactions are received later in the evening.
To fill this short-term funding gap, mutual fund schemes sometimes rely on short-term borrowing arrangements from banks or other financial institutions. The regulator said the new rules formally recognize the practice while putting in place clear limits and operating conditions.
Mutual funds are generally allowed to borrow up to 20% of the net assets of a scheme for a maximum period of six months for purposes such as meeting redemption demands, paying income distribution or settling certain trades. However, this 20% cap will not apply to domestic loans, provided they meet specific conditions set by the regulator.
Sebi clarified that internal borrowing can only be used to facilitate repurchase or redemption of units, payment of interest or payment of income distribution to unit holders.
The regulator also limited the amount of internal borrowing. The amount borrowed cannot exceed the amount received on the same day guaranteed by institutions such as the Government of India, the Reserve Bank of India, and the Clearing Corporation of India.
Receivables include maturity proceeds from TREPS, reverse transfers, government securities, treasury bills, government development loans, STRIPS, as well as interest payments and sales proceeds from these instruments. To strengthen oversight, Sebi has mandated that every asset management company’s board and policy should be used for reversionary. Borrowing facilities, which should also be displayed on the AMC website.
The regulator added that any cost associated with internal borrowing should be borne by the asset management company, and not by the mutual fund scheme or its investors. Similarly, any loss arising due to delay or unforeseen issues in receipt of the sanctioned funds shall be absorbed by the AMC.
Sebi also highlighted borrowing by equity-oriented index funds and exchange-traded funds (ETFs). Such funds will be allowed to borrow funds in cases where selling trades are not conducted on time, but only to facilitate participation in the closed auction session of stock exchanges, which will be effective from August 3.
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