What is an AIF?
An Alternative Investment Fund is a privately pooled investment vehicle registered with SEBI. It collects money from sophisticated investors and invests it according to a defined policy, typically in assets that ordinary mutual funds cannot easily hold: unlisted start-ups, private companies, private credit, real estate projects, infrastructure, or complex long-short and derivative strategies.
AIFs cannot advertise to the public. They raise money through private placement from investors who can commit at least ₹1 crore, because the products are illiquid, harder to value and riskier than mutual funds.
The three AIF categories
| Category I | Category II | Category III | |
|---|---|---|---|
| What it invests in | Start-ups, early-stage ventures, SMEs, infrastructure, social ventures | Private equity, private credit or debt, real estate, funds of funds | Listed and unlisted securities, derivatives, long-short, arbitrage |
| Sub-types | Venture capital funds (incl. angel funds), SME funds, social impact funds, infrastructure funds | PE funds, credit funds, real-estate funds, distressed-asset funds | Hedge funds, long-short equity, PIPE funds, quant strategies |
| Leverage | Not allowed (only temporary borrowing) | Not allowed (only temporary borrowing) | Allowed, within SEBI limits |
| Structure | Closed-ended, min 3 years | Closed-ended, min 3 years | Open- or closed-ended |
| Single-company limit | 25% of investable funds | 25% of investable funds | 10% of investable funds |
| Tax | Pass-through (except business income) | Pass-through (except business income) | Taxed at fund level |
Category I in detail
Funds that back sectors the government considers socially or economically desirable. Angel funds are a sub-type of venture capital funds: they pool money from angel investors, with a ₹25 lakh minimum per investor, to back early-stage start-ups.
Category II in detail
The largest category by commitments. It includes private equity funds that buy stakes in growing private companies, private credit funds that lend to mid-sized businesses or real-estate developers at higher yields than bank FDs or bonds, and real-estate funds.
Category III in detail
These funds aim for returns in rising and falling markets, using short selling, derivatives and leverage. Long-short equity funds, for example, buy stocks they like and short those they expect to fall. Because they are taxed at the fund level at high rates, compare their returns after tax.
AIF vs PMS vs Mutual Fund
| Feature | AIF | PMS | Mutual fund |
|---|---|---|---|
| Minimum | ₹1 crore | ₹50 lakh | ₹100–₹500 |
| Access to private markets | Yes: start-ups, PE, private credit | Mostly listed securities | Mostly listed securities |
| Liquidity | Low, 3–10 year lock-up common | High (exit load in years 1–3) | High |
| Costs | Management fee plus carried interest | Fixed and/or performance fee | Expense ratio |
| Ownership | Units in a pooled fund | Securities in your demat | Units in a pooled fund |
See our full guide to Portfolio Management Services (PMS).
How investing in an AIF actually works
- Commitment: you sign a contribution agreement for, say, ₹1 crore. You usually do not pay it all on day one.
- Capital calls (drawdowns): the manager asks for portions of your commitment over 2–4 years as it finds investments. You must pay on time; defaulting carries penalties.
- Investment period: the fund builds its portfolio, typically 10–30 companies or loans.
- Harvest and distributions: as companies are sold, listed or loans are repaid, money comes back to you, often from year 4 onwards.
- Wind-up: at the end of the fund's life, possibly after a short extension, remaining assets are sold and the fund closes.
Fees and carried interest
- Management fee: commonly 1.5–2.5% a year, on committed or invested capital depending on the fund.
- Carried interest ("carry"): a share of profits, often 10–20%, paid to the manager above a hurdle rate (frequently 8–10% a year).
- Set-up and operating expenses: legal, audit, trustee and valuation costs charged to the fund.
- Distributor commission: SEBI requires AIFs to offer a direct plan with no distribution commission.
How AIFs are taxed
| Category | Who pays tax | What it means for you |
|---|---|---|
| Category I & II | Investor (pass-through), except business income, which the fund pays | Capital gains, interest and dividends are taxed in your hands as if you had earned them directly. You get Form 64C showing your share. |
| Category III | The fund | Income is taxed in the fund, generally at the maximum marginal rate. Distributions you receive are not taxed again. |
For Category I/II, long-term gains on unlisted shares are taxed at 12.5% and interest at your slab rate. The timing and character of income depend on the fund's investments. Tax rules for AIFs are technical and change with Finance Acts, so ask a chartered accountant before investing.
Key SEBI rules
- Minimum investment ₹1 crore per investor (₹25 lakh for employees and directors; ₹25 lakh for angel funds).
- Minimum corpus of ₹20 crore per scheme; a maximum of 1,000 investors per scheme.
- Sponsor or manager must keep "skin in the game": the lower of 2.5% of the corpus or ₹5 crore for Cat I & II, and the lower of 5% or ₹10 crore for Cat III.
- No public advertising; private placement only, through a Private Placement Memorandum (PPM).
- Independent valuation and periodic reporting to investors.
- Category I and II funds cannot borrow except for short-term operational needs.
Accredited investors and Large Value Funds
SEBI's accreditation framework lets investors who meet income or net-worth tests get certified as accredited investors. They can access schemes with lighter rules, including Large Value Funds for Accredited Investors. In November 2025 SEBI cut the minimum per-investor commitment for these funds from ₹70 crore to ₹25 crore. Accredited investors may also invest in angel funds with smaller tickets.
How to choose an AIF
- Manager track record: look at earlier funds' realised returns, not only paper valuations. Ask for DPI (cash distributed ÷ cash paid in) and TVPI (total value ÷ paid in).
- Strategy fit: venture, growth PE, private credit and long-short behave very differently. Know what you are buying and why.
- Fund terms: tenure, extensions, fee base, hurdle, carry and the key-person clause.
- Concentration: the number of holdings and the largest single exposure.
- Liquidity plan: can you meet every capital call and leave the money untouched for 7–10 years?
- Read the PPM fully, and check the AIF's SEBI registration.
Risks to understand
- Illiquidity: you generally cannot exit before the fund ends.
- Valuation risk: unlisted assets are valued by models, so reported NAVs can lag reality.
- Loss of capital: venture and distressed strategies can lose money on many holdings.
- Leverage (Category III) magnifies losses as well as gains.
- Manager and key-person risk, and the risk of failing to meet a capital call.
Frequently asked questions
What is the minimum investment in an AIF?
₹1 crore per investor under the SEBI (AIF) Regulations, 2012. The exceptions: ₹25 lakh for employees and directors of the AIF or its manager, ₹25 lakh per investor in angel funds, and relaxed thresholds for accredited investors.
What is the difference between Category I, II and III AIFs?
Category I invests in areas the government wants to encourage (start-ups, SMEs, infrastructure, social ventures). Category II is the residual bucket: private equity, private credit and real estate funds that do not borrow except for day-to-day needs. Category III uses complex or trading strategies, such as long-short and hedge funds, and may use leverage.
How are AIFs taxed in India?
Category I and II AIFs have pass-through status: income other than business income is taxed in your hands as if you earned it directly, and the fund issues Form 64C. Category III AIFs are taxed at the fund level, generally at the maximum marginal rate, so what you receive has already been taxed.
Can I withdraw money from an AIF early?
Usually not. Category I and II funds are closed-ended with a minimum tenure of three years and typical lives of 5–10 years; your money comes back as investments are sold. Some Category III funds are open-ended with periodic exit windows and exit loads.
What returns do AIFs give?
There is no guaranteed return. Private equity and venture outcomes vary widely between funds, and early years often show negative returns (the J-curve) because fees are charged before investments mature. Judge a manager by realised distributions (DPI) as well as paper valuations (TVPI).
What is an accredited investor?
An investor certified by an accreditation agency as meeting income or net-worth thresholds. Accredited investors can access certain AIF schemes, including Large Value Funds whose minimum is ₹25 crore per investor after SEBI's November 2025 amendment, with lighter regulatory requirements.
Related guides
Last updated 30 October 2026. Educational content only, not investment advice. Based on the SEBI (Alternative Investment Funds) Regulations, 2012 as amended to date; verify scheme terms in the fund's PPM and consult a tax adviser.