Alternative Investment Funds vs Mutual Funds

The main difference between Alternative Investment Funds (AIFs) and Mutual Funds (MFs) is that AIFs are usually available only to a select group of accredited investors and require higher minimum investments. In contrast, mutual funds are accessible to a wider audience and have lower entry requirements.
EXPLORE FUNDS
Alternative Investment Funds vs Mutual Funds
EXPLORE FUNDS
3 min
14-May-2024
The fundamental difference between alternative investment funds vs mutual funds lies in their accessibility and minimum investment amounts. AIFs can be made available only to accredited investors and HNIs as they involve high minimum investment amounts.

Mutual funds, on the other hand, are available to a broad segment of the Indian population. The minimum investment amounts are also quite low, so the entry barrier is lower compared to AIFs.

In this article, we will understand alternative investment and mutual funds and the difference between AIF vs mutual funds.

What are alternative investment funds?

An alternative investment fund is a private fund designed for a small group of HNIs or sophisticated investors with a high-risk tolerance in exchange for higher returns.

These funds are regulated by SEBI and are not subjected to the same rules and frameworks as mutual funds. AIFs come with longer maturity periods, so your funds will not be easily accessible. However, in exchange for this, individuals get to invest in distinct and potentially profitable investment opportunities that will not be available to the public at large.

Alternative investment funds include a variety of investment vehicles, such as hedge funds, private equity funds, venture capital funds, real estate investment trusts (REITs), infrastructure investment trusts (InvITs), commodity funds, and distressed debt funds.

What are mutual funds?

Mutual funds are a type of investment where individuals contribute to pool money, which fund managers then use to invest in financial instruments like stocks, equities, commodities, and bonds. Mutual funds are professionally managed funds in which each investor owns a percentage of the fund’s holding, denoted by units proportional to their investment amount.

The aim of the portfolio manager here to help investors earn an income or generate capital gains after taking into account your investment objectives and risk appetite.

Mutual funds are also strictly regulated by SEBI (or the Securities and Exchange Board of India) to protect investors and ensure the process remains safe and transparent.

Mutual funds have become a popular investment vehicle for many Indians, as they are a great way to diversify your portfolio, can be bought and sold easily to provide liquidity, and do not require very sophisticated knowledge. Hence, they are a good option for both beginners and experienced investors. Read more about, What is a mutual fund.

Alternative investment funds vs Mutual funds

Here are some of the differences between AIF vs mutual funds:

Who can invest in alternative investment funds?

Since AIF vs mutual funds are two completely different financial instruments, they also cater to different kinds of investors. SEBI has laid down certain guidelines investors must follow before investing in AIFs. Let us understand the ideal profile of an AIF investor:

  • The investor can be an Indian national, and if not (a non-resident Indian or a foreigner), they can only invest in equity.
  • A minimum amount of Rs. 1 crore must be invested in an AIF by an investor.
  • If an individual happens to be either an employee, fund manager or at the director level, then the minimum amount for them is Rs. 25 lakhs.
  • An AIF must have a minimum corpus of Rs. 20 crore to make all individual investors eligible to invest. The maximum number of investors in an AIF scheme cannot be more than 1000.

Who can invest in mutual funds?

The criteria for investing in mutual funds are not as stringent as AIFs. As defined by SEBI, here are some of the rules and regulations regarding mutual funds:

  • All Indian citizens and non-resident Indians can invest in mutual funds. Foreigners can not make use of SIPs or STPs.
  • Different mutual funds have different minimum investment amounts, but you can easily find mutual funds that let you invest with a minimum amount of Rs. 500.
Are you curious about your mutual fund SIP investment's growth potential? Try our free mutual fund calculator to forecast your maturity amount accurately.

Are mutual funds alternative investments?

Even though the end goal of mutual funds and alternative investment funds is the same, they are not similar for several reasons. Some of these are:

Alternative investment funds

  • Foreigners can invest only in equity
  • Minimum investment requirement: Rs. 1 crore
  • Minimum corpus: Rs. 20 crore
  • Maximum number of investors per scheme: 1000
  • Designed for sophisticated investors with a high net worth
Mutual funds

  • Foreigners cannot use SIPs or STPs
  • Minimum investment requirement: Rs. 500
  • Minimum corpus: Rs. 1 crore (typically)
  • No limit on the number of investors
  • Suitable for any retail investor, regardless of portfolio size

Should I invest in AIF or mutual funds?

Many investors get confused about which investment avenue—AIF vs mutual funds—would be best for them. Here are some pointers that can help you make an informed decision.

1. Diversification

Both AIFs and mutual funds offer ample diversification to minimise risks and maximise gains. As both deploy funds in multiple asset classes, they help spread risk and reduce the impact of any single asset's poor performance.

2. High ROI vs Low risk

AIF products are not directly linked to the stock market. Hence, they do not see massive fluctuations, making them relatively low-risk investments. Mutual funds, on the other hand, are subject to market risks, making them riskier.

3. Ownership and taxation

These financial instruments give you direct ownership in proportion to your investment amount and tax benefits in the long run.

4. Lock-in period

Mutual funds can broadly be divided into the following types:

Closed-ended funds have a lock-in period of three to five years, during which investors are not allowed to redeem their investments. Open-ended funds have a lock-in period of three years. Other mutual funds do not have such strict lock-in periods.

In the case of alternative investment funds, a lock-in period of three years is prevalent.

5. Easy vs difficult investment

Mutual funds do not have an entry barrier as they can be as low as Rs. 500, making them extremely affordable. AIFs, on the other hand, require a significant investment of Rs. 1 crore, making them accessible to HNIs.

Conclusion

Alternative investment funds and mutual funds have their unique benefits and are targeted at different investor profiles. Given our country's population, with people from different socio-economic sections, AIFs and mutual funds play crucial roles in the financial market.

In the case of alternative investment funds vs mutual funds, selecting the right option depends on your capital, investment objective, and future plans.

Essential tools for mutual fund investors

Mutual Fund CalculatorLumpsum CalculatorSIP CalculatorStep Up SIP Calculator
SBI SIP CalculatorHDFC SIP CalculatorNippon India SIP CalculatorABSL SIP Calculator
Tata SIP CalculatorBOI SIP CalculatorKotak Bank SIP Calculator


Frequently asked questions

What is an alternative investment fund?
An Alternative Investment Fund (AIF) is a privately pooled investment vehicle that allocates capital to alternative asset classes, including private equity, venture capital, hedge funds, real estate, commodities, and derivatives.

What is the difference between AMC and AIF?
A private placement AMC (Actively Managed Certificates) cannot be marketed to the public and is limited in the number of professional investors it can target, depending on its structure and location. In contrast, an AIF can be offered to an unlimited number of professional investors.

Why is PMS better than mutual funds?
Mutual funds provide a diverse selection of stocks and are ideal for investors with smaller portfolios and simpler tax compliance needs. Conversely, Portfolio Management Services (PMS) offer customised portfolios tailored to individual preferences and goals, making them suitable for investors with larger portfolios requiring personalised management.

Why is AIF better than MF?
AIFs primarily cater to affluent investors willing to take on higher risks and employ complex investment strategies. Conversely, mutual funds are designed for general investors seeking diversified and comparatively stable portfolios.

Is AIF tax-free?
Category I and II AIFs enjoy exemption from all tax obligations on investment income or capital gains. However, if the income generated by the fund is classified as business income, it is then taxed at the fund's level.

Is AIF risky?
AIFs include private equity, venture capital, real estate, infrastructure, and commodities. AIFs are typically more complex and risky than traditional investment funds, but they also have the potential to generate higher returns.

What is the difference between mutual funds and alternative funds?
AIFs can be used to achieve various investment objectives, including high returns, capital preservation, or diversification, whereas mutual funds are typically aimed at achieving long-term growth and income.

Who can invest in AIF?
Investors, including Indian citizens, NRIs, and foreign nationals, can diversify their portfolios through AIFs with a minimum investment of Rs. 1 crore (Rs. 25 lakh for directors, employees, and fund managers). AIFs typically have a minimum lock-in period of three years, and the number of investors per scheme is capped at 1000, except for angel funds, which can have up to 49 investors.

What is the advantage of AIF?
AIFs are structured to potentially achieve higher returns than traditional investments. Their utilisation of a wide array of assets and strategies can result in performance independent of stock and bond market fluctuations. Skilful leveraging can enable AIFs to perform strongly even amid market volatility.

What is a category 3 AIF?
Category III AIFs invest in listed and unlisted securities, derivatives, complex products, or other AIF units. They can be open-ended or closed-ended, with a minimum tenure of three years for closed-ended funds. The minimum investment requirement for Category III AIFs is Rs. 1 crore, and they can leverage up to two times their total fund corpus. Taxation of income at the AIF level varies based on the fund's structure as a trust, LLP, or company.

Which investment is 100% tax-free?
Investors have several tax-free investment options to choose from, including life insurance plans, Public Provident Fund (PPF), National Pension System (NPS), five-year bank tax-saver fixed deposits (FD), Employees' Provident Fund (EPF), five-year Post Office Term Deposits, and Senior Citizens Savings Scheme (SCSS).

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