₹ 8.45 lakh Cr was the Assets Under Management (AUM) across the Alternative Investment Funds registered with SEBI as on June 30, 2023. This is approximately 18% of the average AUM of the mutual fund industry (₹ 44.82 lakh Cr) during the same period.
With negligible AUM in 2012, AIFs had a meteoric rise during the last decade.
Source:www.sebi.gov.in
According to a report by Anand Rathi, ‘The AIF industry is estimated to grow at a CAGR of 25% during 2022-25.’ Going at this pace, the AIF industry would be as big as the mutual fund industry in a couple of years.
AIFs are popular among HNIs (High Net worth Individuals), UHNIs (Ultra Net Worth Individuals), family offices, etc. These funds help in diversifying individual portfolios and offer higher returns when compared to traditional products (stocks, bonds, mutual funds, etc).
Let us try to understand these funds in detail in the following sections.
Table of contents
​Categories of AIFs |
​Eligibility for investing in AIFs |
​Taxation of AIFs |
​Advantages of investing in AIFs |
​Disadvantages of investing in AIFs |
​Top 10 AIFs in India |
​Comparison between AIF and PMS |
What is an AIF?
Alternate Investment Fund (AIF) is an investment vehicle that privately pools funds from sophisticated investors and invests according to a defined investment philosophy. These funds are not traded publicly or available to the general public for investing but are available only to a select set of investors who meet specific criteria, hence the word privately. These funds are complex when compared to investing in traditional or conventional products like stocks, bonds, MFs, etc. Hence, only sophisticated investors who have sufficient capital and in-depth investing experience can pursue them.
Categories of AIFs
There are 3 categories of AIFs according to the type of investments made.
Category I AIF - AIFs which could make a positive impact on the economy come under this category. The Govt of India or SEBI might consider concessions or incentives for such funds due to this nature. This category includes VC funds, Angel Funds, Social Venture Funds, SME Funds, Infrastructure Funds, etc. 
The features of this fund are:
Close-Ended - Such funds raise a fixed amount by issuing a fixed number of shares at inception and would not issue further shares. They usually have a lock-in period during which one cannot withdraw the invested amount.
Do not use leverage - Such funds should not borrow money or use any such strategies to amplify gains.
Investment restrictions -The funds should follow such restrictions as stipulated by SEBI.
 Let us discuss the types of funds under this category in detail.
Venture Capital Funds - Invest in early-stage startups or ventures that are into developing new products, services, technology or intellectual property. Investing in early-stage ventures is generally risky and raising capital for operations or product development or expansion is difficult. But, if the venture succeeds, the returns for investors would be very high. HNIs seek such options to generate higher returns on investments.
Angel Funds - This is a sub-category of VC funds which take investments only from Angel Investors according to Chapter III-A of AIF Regulations.
An Angel Investor is:
an individual who has a tangible net worth of minimum of 2 crore rupees (excluding the value of his/her principal residence) and who has early-stage investment experience, or is a serial entrepreneur, or is a senior management professional with at least 10 years of experience
OR
a body corporate with a net worth of at least Rs 10 crore
OR
an AIF registered under these regulations or a VCF registered under the SEBI (Venture Capital Funds) Regulations, 1996. 
Angel funds shall accept, up to a maximum period of 3 years, an investment of not less than ₹25 lakhs from an angel investor.
       Social venture includes:
Charitable trusts that are registered with the Charity Commissioner and function for public welfare.
Societies registered for altruistic intents or for the advancement of science, literature, or fine arts.
Companies that are registered under Section 25 of the Companies Act, 1956, focusing on non-profit purposes.
Microfinance institutions engaged in providing financial services to marginalized communities.
SME Fund - SME refers to Small and Medium Enterprises defined under the Micro,
Small and Medium Enterprises Development Act 2006. These funds invest in SMEs,
which are either listed on an exchange or are proposed to be listed.
Infrastructure Fund - These funds contribute to the infrastructure development of the country including rail, roads, ports, etc. Such funds invest in equity or debt of companies or SPVs (Special Purpose Vehicles). The return for investors would be both capital appreciation and dividends. If such funds invest in projects which have a social impact, the Govt might extend tax benefits or incentives for such funds.
Category II AIF - Those funds which are not extended any kind of concessions or benefits by the Central Govt or any other regulators. The funds can use leverage only to meet operational needs. Otherwise, these are close-ended and do not have investment restrictions. These funds include Private Equity Funds, Fund of Funds, Debt Funds and other funds which are not categorized under Category I & II comes under this.
The funds under this category are:
Private Equity Funds (PE Funds) - These funds invest in both equity and debt of unlisted privately held companies, which do not have easy access to the capital market for raising funds. PE funds reduce risks undertaken by investors through diversified investments across industries. These funds take ownership of businesses and stay invested for the long term. Usually, they exit the businesses invested by making attractive return on investments.
Fund of funds - These funds invest in other AIFs, thus a natural diversification across themes and sectors.
Debt Funds - These funds invest in debt or debt securities of listed and unlisted companies.
Category III AIF - These funds employ complex trading strategies, might use leverage and invest in listed or unlisted derivatives. The leverage of a Category III AIF shall not exceed 2 times the NAV of the fund. This category of funds trades with a view to generate short-term returns and can be open-ended or close-ended. The funds under this category are:
Hedge Funds - These funds employ complex strategies including high leverage to generate above-average returns. Hedge funds charge 2% management fee and 20% of profit as a performance fee.
Private Investment in Public Equity (PIPE) Funds - These funds privately pool funds from investors and buy shares of publicly traded stock at a discount. This reduces the regulatory hassles of capital raising for the investee companies.
Eligibility for investing in AIFs
Indian residents, NRIs, and foreign nationals can invest in AIFs.
The minimum investment limit is Rs 1 crore for investors. For directors, employees, and fund managers, the minimum limit is Rs 25 lakh.
Investors can invest an amount not less than Rs 1 Cr in AIFs jointly along with either spouse or a parent or a child. 
Taxation of AIFs
The taxation for the different categories varies. Category I & II get pass-through status and are taxed at the hands of investors. Category III, is taxed at fund level, depending on the nature of profit (LTCG, STCG, Business income or dividend income).
Advantages of investing in AIFs
Low Volatility - AIFs experience lower volatility when compared to publicly traded securities like stocks. Hence, during extreme market volatilities, the invested amount would be protected.
Diversification - Since these funds have lower dependence on traditional products like stocks, bonds, etc, the portfolio of investors is well diversified.
Higher Returns - AIFs generate higher returns for the investors as the risks assumed are higher. 
Access to Unique investment opportunities - Some AIFs invest in early-stage companies which develop innovative, groundbreaking products or services.
Professional Management - AIFs are managed by professionals who have in-depth market knowledge. They are skilled to find high return worthy investments which are not accessible to the general public.
Disadvantages of investing in AIFs
Lock-in periods - Excluding open-ended funds under Category III, all funds are close-ended and have a tenure of 3 years during which the funds are locked in. Furthermore, lock-in periods would also depend on tenure extension and terms & conditions of individual funds. 
High fees – AIF fees include management fees, performance fees, etc which can eventually reduce the return for investors.
Complex, Illiquid and Risky - The underlying investments of AIFs can be complex and risky compared to conventional financial products. Due to lack of mature secondary market, complex valuation, and size of investments, exiting from them can be difficult at times making them extremely illiquid.
Lack of reliable data - Unlike publicly traded securities like stocks, data with respect to AIFs are not readily available. Additionally, the lack of performance parameters of similar funds makes it tricky to evaluate performance.
Top 10 AIFs in India
​AIF | ​Investment Strategy |
​Girik Advisors | ​Multicap Growth |
​Abakkus Asset Manager | ​Emerging Opportunities |
​Vishuddha Capital | India Value and Growth  |
Alchemy Capital | Leaders of Tomorrow (ALOT) |
Ampersand Capital | Growth Opportunities  |
Proalpha Capital | QG Dynamic Equity Fund (QGD) |
Roha Asset Managers | Roha Emerging Companies  |
Carnelian Asset Management | Capital Compounders |
TCG Advisory Services | SMF Disruption |
Accura Cap  | Focussing firms ranked 101 to 500 in market capitalization |
Comparison between AIF and PMS
PMS (Portfolio Management Service) is a portfolio management service for HNIs that invest in products like stocks, bonds, structured instruments, etc to meet the individual requirement of investors. Under this, the investor can decide the level of involvement of the portfolio manager and can also decide the nature of returns required (match the returns with the benchmark or beat the benchmark)
Particulars | AIF | PMS |
Fund Aggregation | Funds from investors are pooled | No pooling. Maintains individual portfolio for each investor |
No of investors | Angel funds cannot have more than 49 investors, whereas others cannot have more than 1000 investors | There is no such restriction |
Minimum investment | ₹1 Cr | ₹50 lakh |
Continuing Interest of AIF Manager/Sponsor | AIF Manager/Sponsor should have a continuing interest of 
| Managers need not maintain a personal stake |
Fund size | Minimum fund size of ₹20 Cr | Not applicable |
Taxation | Profits from category I & II funds are taxed at individual tax rates. Category III is taxed at the fund level, depending on the nature of profit (LTCG, STCG, Business income or dividend income). | Short-term and Long term capital gains according to the period of investment.  |
Asset allocation | VC funds, PE funds, hedge funds, PIPE funds, infrastructure funds, etc | Stocks, bonds, real estate, etc |
Tenure and Lock in period | The minimum tenure for funds (except open-ended funds in Category III) is 3 years which is further extendable to another 2 years. Beyond this, extension depends on criteria laid out by SEBI. 
The lock-in periods for various funds can vary depending on the terms and conditions of the funds. | No tenure or lock-in period for investment in securities |
Final thoughts
Alternative Investment Funds are exclusive investment options for qualified investors seeking investment avenues beyond the conventional ones. These funds, which bear a relatively higher risk profile, hold the potential for significant investment gains. Yet, investors must exercise caution while evaluating these intricate investment alternatives.