SEBI Circular On ‘Skin In The Game’ Requirements For Mutual Funds

Introduction:

The amendment made by the Securities and Exchange Board of India (Mutual Funds) Regulations, 1996 (“MF Regulations”) has come into effect from April 1, 2025. Changes are aimed squarely at realigning compliance structures pretty thoroughly without sacrificing much accountability in the process somehow. SEBI issued Gazette notifications on February 14, 2025, and subsequently on March 4, 2025, suddenly. Mutual Funds Master Circular dated June 27, 2024, has been revised under Regulation 25(16B) of MF Regulations following these changes.

Explanation:

The revised framework provides updated requirements on mandatory investments by designated employees in mutual fund schemes, with specific clauses governing the structure of investments, classification of employee roles, treatment of holdings after cessation of employment, disclosure obligations, and handling of non-compliance.

Revised framework lays down updated mandatory investment requirements for designated employees in mutual fund schemes with specific clauses governing investment structure. Clause 6.10.1.1 stipulates designated employees invest a certain percentage of gross annual CTC after deducting income tax and various statutory contributions into specific mutual fund schemes. Option B applies where ESOPs form part of the CTC.

AMCs must adopt one of the two options across all designated employees. Investment obligations under each option are defined in the following slab structure:

Designated employees are classified into two categories:

• Category A includes employees directly involved in investment-related functions. These include the Chief Executive Officer, Chief Investment Officer, fund managers, investment research staff, dealers, Chief Risk Officer, Compliance Officer, and Investment Committee members. For these employees, investment requirements are based strictly on the CTC slab.
• Category B includes employees indirectly linked to investment functions. This includes those directly reporting to the CEO (excluding personal assistants and Category A personnel), Chief Operating Officer, Chief Information Security Officer, Sales Head, Investor Relations Officers, and other department heads not involved in investment or risk roles. For these employees, AMCs may apply either Slab 0 or Slab 1, irrespective of CTC. If any such employee performs an investment-related function, Slab 1 must be applied.

If an employee manages only liquid fund schemes, then Slab 1 applies, even if the CTC would place them in a higher slab. If other schemes are also managed, the investment obligation will be based on the full CTC slab. Up to 75 percent of the required investment in liquid funds may be redirected into higher-risk schemes, provided the risk level is determined based on the risk-o-meter of the previous month. Clause 6.10.2.2 states that investments will remain locked in for three years. Upon superannuation, designated employees may redeem their units immediately, except in close-ended schemes, which remain locked until maturity. If the employee exits due to resignation or early retirement, the lock-in period reduces to one year from the date of exit or until the original three-year lock-in ends, whichever occurs first.

Clause 6.10.2.3 is removed.

Clause 6.10.2.4 permits redemptions post-lock-in from open-ended schemes, subject to insider trading rules. These include obtaining pre-clearance from the compliance officer. Pre-clearance is not required for redemptions linked to the mandatory investment under Clause 6.10. Clause 6.10.2.5 is removed. Clause 6.10.7.2 introduces a procedure for addressing misconduct or violations. Sentences should appear irregular in length and be somewhat unpredictable. Gross negligence or breach of conduct by designated employees necessitates a review by AMC’s Nomination and Remuneration Committee or its equivalent body for SEBI.

Clause 6.10.8.3 requires quarterly disclosure of total investments made by designated employees under each scheme. These disclosures must be published on the websites of stock exchanges within 15 calendar days from the end of each quarter.

Conclusion:

Revised circular drastically alters application of skin in game principles for certain designated employees apparently within AMCs suddenly now. Key investment personnel are required holding significant exposure in schemes under their management henceforth for quite some time obviously. Circular introduces percentage-based investment obligations alongside role-based classification and stipulates conditions for redemption and thorough disclosure subsequently. These changes kicked in on April 1 2025 and got issued under Sections 11(1) and 25(16B) and 77 of MF Regulations. AMCs must revise internal policies thoroughly and alter employment contracts fairly quickly in accordance with newly revised regulatory requirements.