SEBI Proposes New 'Inoperative' Status to Facilitate Exit for AIFs Stuck in Litigation
The Securities and Exchange Board of India (SEBI) has released a significant Consultation Paper dated February 05, 2026, aimed at resolving a long-standing bottleneck in the alternative investment space. The regulator is proposing a structural overhaul to the winding-up process for Alternative Investment Funds (AIFs), specifically addressing those entities unable to surrender their registration due to pending legal proceedings, tax demands, or residual operational liabilities.
The core of this proposal introduces a new classification termed "Inoperative AIFs," designed to offer regulatory relief and a clear exit path for funds that have ceased active management but remain technically active due to external constraints.
The Current Regulatory Bottleneck
Under the existing framework of the SEBI (Alternative Investment Fund) Regulations, 2012 (hereinafter referred to as ‘AIF Regulations’), the lifecycle of a fund is strictly governed. Specifically, Regulation 29(7) mandates that an AIF must liquidate its assets and distribute the proceeds to its investors within the "liquidation period."
Note: As per
Regulation 2(1)(pb), the Liquidation Period is defined as the one year following the expiry of the scheme's tenure.
Currently, for an AIF to surrender its certificate of registration under Regulation 29(11), it must demonstrate a "NIL" bank balance and satisfy all liabilities. This creates a regulatory "Catch-22" for many funds. If an AIF faces a pending lawsuit or a demand from the tax department, it cannot distribute all its cash. Consequently, it cannot achieve a NIL balance, preventing it from surrendering its license.
This forces AIFs to remain fully registered, incurring ongoing compliance costs and reporting burdens despite having no active investment operations.
SEBI’s Proposed Solution: The 'Inoperative AIF' Framework
To address these challenges, SEBI proposes to amend Regulation 29(7) to allow AIFs to retain funds beyond the permissible fund life under specific, controlled circumstances. Funds that qualify under these new norms would be tagged as Inoperative AIFs.
This status acknowledges that while the entity technically exists to hold funds for a specific liability, it is no longer conducting the business of an investment fund.