Law governing winding up of Mutual Funds in India

The recent news^[1] about winding up of mutual fund schemes by Franklin Templeton Mutual Fund during the present situation^[2] led to nervousness amongst regular investors of mutual fund. While no doubt the Mutual Fund companies promptly issued press releases assuring the liquidity and standing of their schemes, it left the investors grappling with questions about the repercussions especially when the mutual funds are wound down and its outcome especially on their investments.

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Consequently, this has also led to the questions being raised as to the legislative and regulatory framework which govern mutual funds and whether necessary measures for investor protection has been incorporated in the framework. The questions as to the powers and responsibilities of the Asset Management Companies, the Trustee Company as well as the Trust are also being raised.

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In this context, it is pertinent to briefly highlight the regulatory framework which governs Mutual Funds. The SEBI (Mutual Funds) Regulations, 1996^[3] (“Mutual Fund Regulations, 1996”) which was formulated by the Securities and Exchange Board of India constituted under the Securities and Exchange Board of India Act, 1992, the statutory regulator which governs the securities and capital markets in India is the regulatory scheme which govern complete life cycle of Mutual Funds.

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The Mutual Fund market is segregated into various segments and sectors and is ordinarily classified depending on the nature and composition of the Mutual Fund and the scheme floated by the Mutual Fund Company in terms of Mutual Fund Regulations.

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There is however one classification which is relevant to the issue in hand i.e. open ended schemes and close ended schemes. Close ended schemes are self-explanatory i.e. Mutual Fund scheme which have a sunset clause and the scheme stipulates an end date after which the Mutual Fund would be wound up without any further regulatory or investor action.

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On the other hand an open ended Mutual Fund scheme, the Mutual Fund remains operational as long as Mutual Fund scheme is not wound up in terms of the Mutual Funds regulations. Being an ‘open-ended’ scheme there is no end date and the Mutual Fund remains operational unless the Mutual Fund is wound up by initiating steps under Chapter V of the regulations.

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The winding up of an open ended Mutual Fund can be initiated under regulation 39 (2) of the Mutual Fund Regulations by either the decision of the Trustees or by the order of SEBI or by 75% of the unit holders passing a resolution for winding up of the scheme.

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Regulation 41 prescribes the procedure which the Trustee is required to follow for winding up a Mutual Fund scheme. The Trustee is required to call for a meeting of the unit holders; a simple majority of the unitholders who are present and voting can authorize either the Trustee or any other person to wind up the scheme.

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The regulation further empowers the trustee or other person to dispose-off the assets of the scheme and distribute the proceeds to the unitholders in proportion to the interest of the unitholders in the assets of the scheme.

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The distribution of the proceeds of the scheme would be conducted after discharge of dues and liabilities of the scheme and also towards the expenses incurred in winding up the scheme.

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After completion of the process, the trustee or other person empowered to wind up the scheme would report the outcome of the winding up process to SEBI as well as to the unitholders and only after the approval of the SEBI, the scheme would cease to exist.

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The overall negative market and investor sentiment was compounded by the news of Franklin Templeton Mutual Fund winding up six of its “open-ended” debt funds, it is incumbent upon to the unitholders and SEBI to exercise its powers and maintain necessary oversight on the winding up process in the interest of unitholders and mutual fund industry as a whole.

1. https://www.ft.com/content/334b1fda-ab39-4970-8cdf-f2229b92d923 ↑

2. Spread of Novel Coronavirus(officially named as SARS-CoV-2) and disease COVID-19 as well as the lockdown as imposed by the Government of India under the Disaster Management Act, 2005 which was extended upto 17-05-2020 as per orders of the Ministry of Home Affairs with limited relaxations. ↑

3. https://www.sebi.gov.in/legal/regulations/mar-2020/securities-and-exchange-board-of-india-mutual-funds-regulations-1996-last-amended-on-march-06-2020-_41350.html ↑

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