Mutual funds regulations in India are governed by Securities Exchange Boards of India (SEBI) Regulation 1996. Mutual funds in India have a three-tier structure as.
- Public trust.
- Asset Management Company.
Sponsor: – The sponsor is any person who himself or in association with another corporate, establishes a mutual fund. The sponsor seeks approval from SEBI.
Public Trust: – Once the SEBI approves the mutual fund, the sponsor creates the public trust under the Indian Trust Act, 1882. Since trust has no legal identity in India, the trust itself cannot enter into a contract. Thus, trustees are appointed who are authorized to act on behalf of the trust. The trust deed is an instrument between the sponsor and the trustees registered under the Indian Registration Act.
This trust is then registered with SEBI leading to the formation of a mutual fund. So the trust is known as a mutual fund. Trust and sponsor are two separate entities. The trust acts as an internal regulator of the mutual fund. Its primary role is to ensure that money of mutual fund is utilized as per the objectives of the trust deed.
Asset Management Company: – The trustees appoint asset Management Company to manage the pool of funds collected through the sale mutual fund’s units. The boards of directors of AMC functions under the SEBI and the direction of the trustees. The AMC needs to follow all rules and regulation prescribed by SEBI in terms of the Investment Management Agreement it signs with the trustees.
Regulatory Mechanism: – SEBI formulated for the Mutual fund Regulations in 1996. SEBI is also the apex regulator body of capital market and its intermediaries. Issuance and trading of capital market instruments also come under the purview of SEBI. Besides SEBI, mutual funds are regulated by RBI, company Act, stock exchange, Indian Trust Act and Ministry of finance. RBI acts as a regulator of Bank-sponsored mutual funds, especially when the funds are offering guaranteed returns. In order to provide guaranteed return, schemes, the mutual fund requires the approval of RBI. The ministry of finance acts as a supervisor of RBI and SEBI and appellate authority under SEBI regulations.
The mutual fund must set up AMC with 50% independent directors, a separate board of trustees and independent custodians. This structure is aimed to ensure a close relationship between trustees, fund manager, and custodians. As the funds are managed by AMC and the custody of assets are with trustees, a counterbalancing of risk exists as both can keep vigil over each other.
SEBI takes care of track record of a sponsor, integrity in business transactions and financial soundness while granting various permissions. The particulars of the schemes are required to be vetted by SEBI. Mutual funds are also required to adhere to a code of conduct of advertisement.
As per the prevailing guidelines, mutual funds must have a minimum of Rs. 50. Crore for an open-ended scheme and Rs. 20 crore corpus for the close ended scheme. A further mutual fund must invest money raised from the scheme within the nine months. The purpose of this is to protect the mutual fund from the disadvantage of investing in a bullish market which may result in poor NAV after that. A mutual fund can invest a maximum of 25% in money market instruments in the first six months after the closing the fund and maximum of 15% of the corpus after six months to meet short term liquidity requirements.
SEBI inspects mutual fund every year for strict compliance with the regulations.