March 13, 2026: Borrowing by Mutual Funds

The circular issued by the Securities and Exchange Board of India outlines updated rules regarding borrowing by mutual funds under the new SEBI (Mutual Funds) Regulations, 2026, effective from April 1, 2026. It explains that mutual funds, especially liquid and overnight schemes, often face a timing mismatch between redemption payouts processed in the morning of T+1 and inflows such as maturity proceeds received later the same day. To manage this gap, funds use intraday borrowing arrangements, typically from banks. While the regulations allow borrowing up to 20% of a scheme’s net assets for specific purposes like redemption payouts, interest payments, or ETF trade settlements, this limit does not apply to intraday borrowings if certain conditions are met.

The circular specifies detailed conditions for intraday borrowing. These borrowings must be approved by the boards of both the Asset Management Company (AMC) and trustees, and the policy must be publicly disclosed. They can only be used for limited purposes such as redemption payments or income distributions. Importantly, the borrowing amount cannot exceed the value of expected receivables expected the same day, such as proceeds from TREPS, reverse repo, or government securities. Additionally, any costs or losses arising from such borrowing including delays in receiving expected funds must be borne by the AMC, not the mutual fund investors, ensuring investor protection.

The circular also addresses borrowing by equity-oriented index funds and ETFs. It clarifies that such funds can borrow money to handle shortfalls caused by unexecuted sell trades, but only for participating in the Closing Auction Session introduced in stock exchanges which is effective from August 3, 2026. This provision ensures that ETFs and index funds can meet settlement obligations efficiently within the framework of the new trading mechanism.

Overall, the circular aims to improve liquidity management in mutual funds while maintaining strict safeguards. By clearly defining when and how borrowing is allowed, and by placing the financial responsibility on AMCs rather than investors, SEBI seeks to enhance operational efficiency without compromising investor interests or market stability.