Third-party cheque

The rule is short and the workbook states it twice. A cheque issued by any person other than the investor is a third-party cheque. More precisely: any cheque drawn on a bank account of which the first holder or applicant is not one of the account holders is a third-party cheque.

It is not a formality. If money can enter a mutual fund from an account nobody can trace back to the unit holder, the fund becomes a laundry. Third-party rules exist so that every rupee entering a folio has a named, verifiable source, and every rupee leaving it goes back to a verified bank mandate in the unit holder's own name.

For a physical application the RTA must validate the payment through any one of:

1. the penny drop facility, or the PAN-based account validation facility provided by NPCI;
2. an original cancelled cheque bearing a name that matches the investor's;
3. a self-certified copy of the cheque or passbook, verified against the original by the AMC or RTA, matching the investor's name.

Beyond that, the AMC and RTA must accept money only through modes where independent traceability of the end investor is assured and the source account details are available. For net banking and similar modes, payments are permitted only from banks that provide real-time account validation or supply source-account information as a reverse feed not later than the day after the payment.

If funds arrive from an account that is not verified and registered in the folio and cannot be verified as the investor's, the subscription is rejected and refunded to the same account the payment aggregator collected it from.

The symmetry on the way out is absolute: redemption proceeds are credited only to a verified bank mandate, redemption cheques are payable to the first holder, and mutual funds cannot issue third-party payments at all. E-wallets carry the same bar — no third-party transactions are allowed through e-wallets.

Mr Menon wants to invest Rs 2,00,000 for his 16-year-old daughter. The folio will be in her name, with him as guardian: his PAN is given, he completes KYC, and he signs both the form and the payment instrument on her behalf.

He writes the cheque on his own savings account.

That cheque is a third-party cheque — the first holder of the folio is the minor, and she is not an account holder on his account. SEBI's uniform process for minors allows payment only from the bank account of the minor, or from a joint account of the minor with the guardian. The subscription is not processed.

He opens a joint account with his daughter, re-issues the cheque for Rs 2,00,000, and the RTA validates it by penny drop against the folio's registered bank details. Units are allotted.

Four years later she turns 18 and wants to redeem Rs 60,000. Whatever account the money originally came from, all redemption proceeds must be credited to a bank account in the name of the minor — so the AMC insists on a change of pay-out bank mandate before processing. Not a technicality: it is the same principle running in reverse.

An HUF is policed the same way. A karta transacting for an HUF folio must pay by cheque from a bank account in the name of the HUF only — his personal account, however clearly he writes "HUF" beside his name, will not do.

Chapter 13 (Banking Operations in Mutual Funds) defines the third-party cheque and then devotes section 13.2 to Third Party Verification and Payment to Valid Account, listing the three validation routes and the rejection-and-refund rule. Chapter 12 supplies the minor and HUF payment restrictions, and the Investor Charter in the same chapter makes "avoid using third-party bank accounts for fund flows" an explicit responsibility of the investor. Expect questions on what makes a cheque third-party, on which validation methods are acceptable, and on where redemption proceeds for a minor must go.

• The test is the first holder, not any holder. A cheque from a second holder's sole account is still a third-party cheque.
• A guardian paying for a minor from his own account is a third party. Payment must come from the minor's account or a joint account of minor and guardian, and redemption proceeds must go to an account in the minor's name regardless of where the money came from.
• An HUF folio needs a cheque from the HUF's own account, not the karta's personal account.
• Only one of the three validation routes is needed, not all three — penny drop or NPCI PAN-based validation, or an original cancelled cheque, or a verified self-certified copy.
• An unverifiable payment is refunded to the paying account, not to the investor. That is what makes it a control rather than an inconvenience.
• Mutual funds never make third-party payments outward. Redemption cheques are payable to the first holder and credits go only to a verified mandate.
• E-wallets do not create an exception. No third-party transactions through them, subscriptions capped at Rs 50,000 per investor per mutual fund per financial year as an umbrella limit with cash, and wallet balances loaded by credit card or cash-back are not usable at all.