Mutual Fund Structure and Constituents

What this chapter covers

Units 9 to 11 carry 25 marks between them — about 8 marks for this chapter.

LEARNING OBJECTIVES: After studying this chapter, you should know about: Structure of a Mutual Fund — Sponsors, Trustees, Asset Management Company · Other Constituents and Service Providers to Mutual Fund — Custodians, Registrar and Transfer Agents, Depositories, Distributors · Regulatory aspects of Mutual Fund · Digital Platforms and Payment Aggregators

The three-tier structure

Mutual funds may be structured either as a company in which investors hold shares or as a trust in which investors are the beneficiaries. In the USA, where mutual funds first began, they are set up as investment companies. In the UK, open-ended funds are created in the form of unit trusts while closed-end funds are set up as investment trusts or companies.

In India, mutual funds are created as trusts. The investors are the beneficial owners of the investments held by the trust. The structure to be followed by mutual funds in India is laid down in SEBI (Mutual Funds) Regulations, 2026. Mutual funds in India follow a three-tier structure of sponsor, trust and asset management company (AMC).

The sponsor promotes the mutual fund and sets up the AMC. The mutual fund itself is structured as a trust. It is managed by trustees in the beneficial interest of the unit holders. Trustees appoint an asset management company (AMC) to manage the funds.

Sponsor → trust (with trustees) → AMC.

9.1 The sponsor

The sponsor is the promoter of a mutual fund, who sets up the trust and the AMC, appoints the custodian, board of trustees and the board of directors of the AMC. The sponsor seeks regulatory approval for the mutual fund from SEBI. SEBI (Mutual Fund) Regulations define a sponsor as any person who, acting individually or in concert with another body corporate, establishes a mutual fund.

Note what the sponsor appoints — the custodian, the board of trustees, and the board of directors of the AMC.

Eligibility

A sponsor should have a sound track record and general reputation of fairness and integrity in all his business transactions, i.e.

Should have at least five years' experience in the financial services industry.

Should ensure a good financial track record with positive net worth in all the immediately preceding five years.

Should ensure that the net worth is more than the proposed capital contribution of the sponsor in the asset management company. Also should ensure that in case of any change in control of the existing AMC due to acquisition of shares, the net worth of the sponsor is more than the aggregate par value or market value of the shares so acquired, whichever is higher.

Five years' experience; five years of positive net worth.

Disassociation

A sponsor may disassociate from the asset management company and the mutual fund subject to the approval of SEBI guidelines:

a. Where the sponsor disassociates if the existing asset management company of the mutual fund may act as the sponsor of the mutual fund, subject to compliance with the conditions specified by SEBI;

b. if the existing asset management company fails to act as sponsor, any other entity, including the disassociated sponsor, may become the sponsor of the mutual fund, subject to compliance with the conditions specified by SEBI;

c. the shareholding for any shareholder in the asset management company shall be below ten per cent; and

d. the board of directors of the asset management company shall comprise at least two-third independent directors.

Below ten per cent shareholding, two-thirds independent directors — the conditions of a sponsorless AMC.

The other three requirements

Contribute at least 40 percent of the net worth of the asset management company (AMC).

The sixth sample question tests this — at least 40%.

Be a fit and proper person.

Not have been guilty of fraud or has not been convicted of an offence involving moral turpitude or has not been found guilty of any economic offence.

Sponsors can be Indian companies, banks or financial institutions, foreign entities or a joint venture between the two.

9.2 Trustees

The mutual fund itself is set up as a trust. Trustees are appointed by the sponsor with SEBI approval, to act on behalf of the investors. Trustees act as the protectors of the unit holders' interests and are the primary guardians of the unit holders' funds and assets.

Trustees, under SEBI (Mutual Fund) Regulations, mean the Board of Trustees or the Trustee Company who hold the property of the Mutual Fund in trust for the benefit of the unit holders.

**Where the trusteeship is with a trustee company, the term trustees under SEBI (MF) Regulations shall be deemed to mean the directors of board of the trustee company.

The trust deed is executed by the sponsor in favour of the trustees and it deals with the establishment of the trust, the authority and responsibility of the trustees towards the unit holders and the AMC.

The trustees have the fiduciary responsibility of protecting the beneficiaries of the trust, namely the investors in the mutual fund. At least two-thirds of the members of the board of trustees have to be independent of the sponsor. Trustees are paid fees for their services.

The first and eighth sample questions both test this — two-thirds of the board of trustees must be independent of the sponsor.

SEBI regulations for trustees govern the appointment and functions of the trustees. There are aspects of general and specific due diligence to be exercised by trustees, to oversee the working of the AMC and the management of the mutual fund. Half Yearly Trustee Reports (HYTR) are to be submitted by trustees to SEBI specifying about the non-compliances along with the corrective measures taken on the same.

The second sample question follows from that oversight duty — the AMC's functioning is overseen by the trustees.

9.3 The Asset Management Company

Asset Management Company (AMC) is the investment manager of the mutual fund. The AMC is set up by the sponsor, and registered with SEBI. AMCs can be structured as public or private limited companies. The capital of the AMC is contributed by the sponsor and its associates.

AMCs specialise in investment management. They manage money for a fee, usually determined as a percentage of the Assets under Management (AUM).

AMCs... are appointed by sponsor or trustees (if so authorised by the trust deed) to manage the funds contributed by the investors to the various schemes of the mutual fund in line with the investment objective of the respective schemes.

AMCs are the face of mutual funds. They set up offices, employ staff, create and market products, mobilise funds through distributors, manage the money and report the portfolio performance to trustees and investors.

The rights and obligations of the AMC are specified in the Investment Management Agreement signed between the trustees and the AMC.

Between the trustees and the AMC — not the sponsor.

AMCs cannot engage in any business other than that of financial advisory and investment management. AMCs are required to submit to the trustees quarterly reports of each year on its activities and the compliance with the SEBI (Mutual Funds) Regulations in the specified format. Compliance Test Report is submitted by AMC to SEBI on a quarterly basis.

Quarterly to the trustees; quarterly Compliance Test Report to SEBI.

9.4 Custodians

Custodians hold the securities or goods or gold or gold related instruments or silver or silver related instruments or other assets of the mutual fund and are responsible for their safekeeping. They hold actual custody of the assets of the mutual fund.

Custodians, registered under SEBI (Custodian) Regulations, are appointed by the trustees to carry out the custodial services for the schemes of the mutual fund. They represent the only constituent not directly appointed by the AMC. Custodians should be independent of the sponsor. That is, a sponsor cannot be a custodian of the fund as well.

The seventh sample question tests this — the custodian is the entity not directly appointed by the AMC.

Example: ICICI Bank is a sponsor of ICICI Prudential Mutual Fund. It is also a custodian bank. However, it cannot offer its custody services to ICICI Prudential Mutual fund, because it is also the sponsor of the fund.

Assets kept with a custodian

Gold and gold related instruments, in case of a Gold ETF scheme.

Silver and silver related instruments, in case of Silver ETF scheme.

Title Deed of real estate assets held by Real Estate Mutual Fund (REMF) schemes.

Underlying goods of the exchange traded commodity derivatives (physical settlement) wherein mutual fund schemes have invested.

The settlement function

Custodians settle the securities transactions of the mutual fund. This function involves:

Delivering and accepting securities and cash, to complete transactions made in the investment portfolio of the mutual fund.

The fourth sample question tests this — receiving securities and settling funds for capital market transactions is the custodian's role.

Tracking and completing corporate actions and payouts such as rights issue, bonus issue, offer for sale, buy back offers, dividends, interest and redemptions on the securities held by the fund.

Coordinating with the Depository Participants (DPs) who hold the securities account of the mutual fund schemes.

Some custodians also offer fund accounting and valuation services to mutual funds.

9.5 Regulation of mutual funds

Mutual funds in India are regulated by SEBI (Mutual Funds) Regulations, 1996. SEBI regulations define the activities of the mutual fund on aspects relating to registration, management, products, investments, accounting, valuation, investor services and investor protection. The sponsors, the trustees, the asset management company and the custodian are required to comply with the provisions of the regulations.

Mutual fund investors have recourse to the trustees, AMC and SEBI, in that order, for the redressal of their complaints.

Trustees first, then AMC, then SEBI.

Key aspects

Mutual funds have to obtain SEBI approval before they set up their business.

AMCs have to be registered with SEBI before they get into the business of investment management.

The constitution and management of the mutual fund, AMC and custodian have to be according to the regulations.

All mutual fund constituents such as custodians, R&T agents, bankers and brokers have to seek SEBI registration before they work for mutual funds.

The scheme related documents have to be prepared in the prescribed format and filed with SEBI for their comments/ observations. AMC should incorporate all such comments/ observations of SEBI and file the final copy of the offer document with SEBI prior to the launch of the scheme.

Investment objectives, accounting and valuation of the portfolio have to be as per the SEBI regulations.

Mutual funds have to submit periodic reports and are subject to SEBI inspection and audit.

Mutual funds also have an industry association called the Association of Mutual Funds in India (AMFI). All AMCs are members of the AMFI. AMFI recommends and promotes best business practices and code of conduct to be followed by their members and others engaged in the activities of mutual fund and asset management.

9.6 Constituents and service providers

AMCs focus on managing the portfolio of the mutual fund. The functional divisions in a typical AMC can be classified as: fund management · operations · sales and marketing · customer service · compliance · finance and accounts

Six divisions.

The core function is fund management, which cannot be outsourced. Other functions may be outsourced. All outsourcing service providers must be registered with SEBI and adhere to the specific guidelines relevant to them. SEBI has laid down principles of outsourcing which identifies nature of activities that can be outsourced and the risk management processes to be put in place.

Fund management cannot be outsourced.

AMCs have their direct sales teams, and also appoint distributors to sell their products. Portions of the operations functions such as investor records, fund accounting and valuation are outsourced.

Mutual fund constituents (except custodians) are appointed by the AMC with approval of the trustees. All constituents have to be registered with SEBI. Constituents are paid fees for their services.

The third sample question tests that last sentence — constituents are remunerated by fees.

Table 9.1 — roles of constituents

Core functions in these areas are done in-house, while other functions are outsourced to constituents. Some funds may choose to do some of these functions in-house.

9.6.1 Registrar and Transfer Agents

Registrar and Transfer agents (R&T agents) are primarily responsible for providing services to the investors. They accept and process investor transactions. R&T agents are paid a fee for their services.

They also operate investor service centres (ISCs) which act as the official points for accepting investor transactions requests with a fund.

R&T functions include:

Issuing and redeeming units and updating the unit capital account.

Enabling investor transactions such as purchase, redemption and switches.

Creating, maintaining and updating investor records.

Banking the payment instruments (cheques and drafts) given by investors and notifying the AMC.

Processing pay-outs to investors in the form of dividends (IDCW) and redemptions.

Sending statutory and periodic information to investors.

Processing change in/ updation of the KYC details of the investors for physical holdings like change of address/ bank account details/ e-mail address/ telephone/ mobile/ nomination and PAN.

Processing and updating investor holding/ title change requests viz name deletion, transmission.

Process grievance received through e-mails and letters and those through SCORES also.

Nine functions.

9.6.2 Depositories and depository participants

Unit holders may choose to hold their mutual fund units in a statement of account or in their demat accounts. They may hold the dematerialised units in their demat account with any Depository Participants of the 2 depositories, NSDL or CDSL.

Each MF scheme has been granted a unique International Securities Identification Number (ISIN) to facilitate holding of units in demat form. If the units are held in demat i.e., with the depository, such units will be transferable in accordance with the provisions of the SEBI (Depositories and Participants) Regulations, 2018.

One ISIN per scheme.

9.6.3 Banks

Banks provide collection and payment services to mutual funds. Investor cheques are collected into the mutual fund scheme accounts by banks. The banks are responsible for collection of funds and reporting the same to RTA and other constituents on a daily basis. In case of pay-outs due to dividends (IDCW) or redemption, the same are processed through the banking system.

Daily reporting to the RTA.

9.6.4 Fund accountant

The fund accountant is responsible for calculation of AUM, NAV and determining applicable TER, commissions etc. The fund accountant relies on data provided by the RTA, bankers and custodians.

Three sources — RTA, bankers, custodians.

9.6.5 Auditor

Auditors audit the books of the mutual fund. There are separate auditors for the AMC's accounts. The auditor of a mutual fund, shall be a firm, including a limited liability partnership, constituted under the LLP Act, 2008 who is eligible and qualified to audit the accounts of a company under section 141 of the Companies Act, 2013.

Separate auditors for the fund and for the AMC.

9.6.6 Brokers

Brokers execute the buy and sell transactions of the fund managers.

9.6.7 Distributors and Registered Investment Advisers

AMCs appoint distributors who sell the mutual fund products to investors on behalf of the mutual fund. Distributors may work for more than one mutual fund. There is no exclusivity in mutual fund distribution.

The fifth sample question tests this — distributors are appointed by the Asset Management Company.

The sponsor or an associate may act as a distributor for the fund with which they are associated. For example, ICICI Bank is the sponsor of ICICI Prudential Mutual Fund also one of its distributors.

Note the contrast with the custodian — a sponsor may distribute, but cannot be custodian.

Distributors may be individuals or institutions such as banks, Non-Banking Finance Companies (NBFCs) or broking and distribution companies. Individual distributors form the largest geographical network.

All distributors must obtain an AMFI Registration Number (ARN) and stamp the same on all application forms sourced by them to ensure payment of commission. Further, AMFI will assign a unique identification number to the employees (EUIN), relationship managers, and other such sales personnel of the distributor who interact with the investors. This number is in addition to the ARN and should be mentioned in the application forms along with the ARN.

ARN for the distributor; EUIN for the individual who met the investor.

Investment Advisers (IA) are registered under the SEBI (Investment Advisers) Regulations, 2013. IAs are expected to be neutral intermediaries who have a fiduciary responsibility to their clients. They do not earn any commission or remuneration from the AMC. They may charge a fee from their clients for providing "advice". IAs cannot undertake any distribution or execution services.

Fee from the client, not commission from the AMC — and no distribution or execution.

An EOP means any digital or online platform which facilitates transactions such as subscription, redemption and switch transactions in direct plans of schemes of Mutual Funds.

9.6.8 Stock exchange and digital platforms

In order to make mutual fund transactions more convenient and to have a wider reach, SEBI has allowed Stock Exchanges (SEs) to offer their existing infrastructure for buying and selling of mutual fund units, in addition to the prevailing distributor route. Accordingly, stock exchanges provided various platforms to the investors for dealing in mutual fund units such as BSE StAR and NSE Mutual Fund Platform (NMF).

Advantages: Independent view of customer's entire portfolio at one place · Reduction of paperwork and ensuing errors · Reduction of redundancy in process and data duplication at RTA and Distributor levels · De-risking MF settlement processes by using superior Delivery v/s Payment (DVP) process provided by Stock Exchanges · Efficiently & effectively address customer servicing issues · Extending present convenience available to Secondary market to mutual fund investors · Enable transparency to customers · Enable charging customers for service at the point where it is rendered

MF Utility (MFU) is an innovative "Shared Services" initiative by the Mutual Fund industry under the aegis of Association of Mutual Funds in India (AMFI), which acts as a "Transaction Aggregation Portal" through which a Mutual Fund customer is enabled to transact in multiple schemes across Mutual Funds using a single transaction and consolidated payment.

MFU facilitates the distributors / RIAs with online access to submit investor transactions thereby improving the service capability of distributors / RIAs.

MF Central (www.mfcentral.com) is a unified platform developed by both QRTAs that allows an investor to access portfolio / account statements, place service request and execute all types of financial transactions (purchase / redemption / switch), initiation of tracking of queries and complaints, access investment related reports, transaction reports, capital gain/loss, details of unclaimed dividend/redemption on a single platform.

Developed by both QRTAs.

The platform allows only investments in "single holder mode".

And a new protection: SEBI has introduced Voluntary Lock-in / Debit freeze facility for Mutual Fund Investors across demat and non-demat (i.e., Statement of Account) folios to ensure that no units shall be debited from such folios till the time they are unlocked. The RTAs are required to facilitate the lock the folio by the RTAs through MF Central platform only for KYC complied (Registered / Validated) investors having valid Email ID and Mobile number (both mandatory).

9.6.9 Payment aggregators and gateways

Payment aggregators are service providers through which Mutual Funds process their payment transactions. Aggregators allow mutual funds to accept payment and bank transfers without having to set up a merchant account with a bank.

Payment Gateways are entities that provide technology infrastructure to route and facilitate processing of an online payment transaction without any involvement in handling of funds.

The aggregator handles funds; the gateway routes the transaction without touching them.

The chapter's sample questions confirm that at least two-thirds of trustees must be independent of the sponsor; that the AMC's functioning is overseen by the trustees; that constituents are remunerated by fees; that receiving securities and settling funds is the custodian's role; that distributors are appointed by the Asset Management Company; that a sponsor must contribute at least 40% of the AMC's net worth; that the custodian is not directly appointed by the AMC; and that two-thirds of a board of trustees must be independent of the sponsor.