SEBI plans to allow mutual funds with performance-based fees

India's market regulator is planning to permit a new category of mutual fund schemes where asset managers' charges will partly be linked to performance, according to an official document reviewed by Reuters and a source directly familiar with the matter.

As part of the proposal, the Securities and Exchange Board of India (SEBI) wants to allow additional charges if a fund consistently outperforms a relevant benchmark index and gives higher annualised returns, according to an internal SEBI document.

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The proposal to introduce performance-linked charges on select mutual fund schemes has not been previously reported. According to the plan, the base fees currently charged for mutual funds would be reduced and additional charges would be based on performance.

If introduced, India would be one of a handful of major markets to introduce performance-linked fees for mutual funds.

"The regulator is considering this proposal since it has observed that many actively managed funds fail to beat their benchmark index," said a person with direct knowledge of the matter, declining to be named since he was not authorised to speak to the media.

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"An option for additional charges could act as an incentive for funds to give better returns," the source said. Past performance will be used to judge whether a fund has performed better than the chosen benchmark.

There was no response from SEBI to a request for comment.

The proposal has been referred to SEBI’s mutual fund panel to work out implementation, said the source.

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Typically, such proposals are sent to internal panels for deliberation, following which public feedback is sought and a final decision taken by SEBI thereafter.

The proposed changes are part of a comprehensive review of fees that India’s 39.46 trillion rupee ($480.26 billion) asset management industry currently charges from its investors. There is a need for transparency on charges levied by mutual funds, SEBI chairperson Madhabi Puri Buch said on March 28.

At present, Indian Asset Management Companies are allowed to levy charges called Total Expense Ratio, which range from 0-2.25% of the investment amount. The fee includes the total costs associated for managing the fund.

To get more investors to invest in mutual fund schemes from India’s tier-2 and tier-3 cities, the regulator also allows fund houses to charge additional fees for marketing and to incentivise intermediaries.

However, during inspections of India’s 44 asset managers, SEBI found instances of malpractices, including incentive charges on the same investor by different funds, according to the document cited earlier.

To curb this, SEBI will only allow funds to charge additional fees if an investor is buying any mutual fund for the first time, the document showed.