SEBI Clarifies Borrowing Rules for Mutual Funds: What Has Changed and Why It Matters

SEBI Clarifies Borrowing Rules for Mutual Funds: What Has Changed and Why It Matters

The Securities and Exchange Board of India (SEBI) has issued a circular dated March 13, 2026, clarifying the rules related to borrowing by mutual funds. The circular is significant because it formally defines the framework for intraday borrowing and also specifies the circumstances in which equity-oriented index funds and equity-oriented ETFs may borrow funds.

These changes are linked to the SEBI (Mutual Funds) Regulations, 2026, which were notified on January 14, 2026 and will come into effect from April 1, 2026. The circular provides regulatory clarity on an area where the industry was already following an operational practice to manage temporary liquidity mismatches.

Why did SEBI issue this circular?

In liquid funds and overnight funds, a timing mismatch often arises. Redemption payouts to investors are generally processed in the morning of T+1 day, while maturity proceeds from instruments such as TREPS and reverse repo are received only in the evening of T+1 day.

This creates a temporary gap between cash outflows and inflows. To bridge that gap, mutual funds have been using formal intraday borrowing arrangements with banks and other financial institutions. SEBI has now recognized this industry practice and laid down a clear regulatory framework around it.

What do the new regulations allow?

Under Regulation 42(1) of the SEBI (Mutual Funds) Regulations, 2026, mutual funds are allowed to borrow for the following purposes:

• Repurchase or redemption of units

• Payment of interest

• Income Distribution Cum Capital Withdrawal payout to unitholders

• Settlement of trades by equity-oriented index funds and equity-oriented ETFs in case of under execution of sell trades on the stock exchange

At the same time, the regulation puts two broad limits on borrowing:

• Borrowing cannot exceed 20% of the net assets of a scheme

• Borrowing cannot continue for more than 6 months

However, SEBI has separately clarified that the 20% limit will not apply to intraday borrowings, subject to specified conditions. These conditions will be applicable from April 1, 2026.

What has changed for intraday borrowing?

The most important takeaway from the circular is that intraday borrowing has now been given a clear regulatory structure. SEBI has laid down the following conditions:

1. A board-approved policy is mandatory

The policy for using the intraday borrowing facility must be approved by both the Board of the AMC and the Board of Trustees. This policy must also be uploaded on the AMC’s website. This step is aimed at strengthening transparency and governance.

2. Intraday borrowing is allowed only for limited purposes

Intraday borrowing can be used only for:

• Repurchase or redemption of units

• Payment of interest

• Income Distribution cum Capital Withdrawal payout to unitholders

This makes it clear that the facility is only for meeting investor-related payout obligations and not for any broader investment activity.

3. Borrowing must be backed by same-day guaranteed receivables

SEBI has specified that the amount of intraday borrowing cannot exceed the guaranteed receivables due on the same day from:

• Government of India

• Reserve Bank of India

• Clearing Corporation of India Limited

The following receivables are eligible:

• Maturity proceeds from TREPS

• Proceeds from reverse repo

• Maturity proceeds from G-Sec / T-bill / SDL / STRIPS

• Interest on G-Sec / SDL

• Sale proceeds of G-Sec / T-bill / SDL / STRIPS

This condition ensures that intraday borrowing remains closely linked to highly reliable inflows expected on the same day.

4. AMC must bear the cost

SEBI has clearly stated that the cost of intraday borrowing, if any, must be borne by the AMC.

In addition, if there is any loss or cost caused by an unforeseen event or delay in receiving the eligible receivables, that too must be borne by the AMC. This is an important safeguard for investors because it prevents such costs from being passed on to the scheme.

What has SEBI said about equity-oriented index funds and ETFs?

The circular also addresses borrowing by equity-oriented index funds and equity-oriented ETFs.

SEBI has referred to its earlier circular dated January 16, 2026, under which a Closing Auction Session was introduced in the equity cash segment of stock exchanges. This framework will become effective from August 3, 2026.

SEBI has clarified that borrowing by equity-oriented index funds and equity-oriented ETFs due to under execution of sell trades on the stock exchange will be allowed only for the purpose of participating in the Closing Auction Session in the equity cash segment, and only in the manner specified in that earlier circular.

This means the borrowing facility is not open-ended. It is tied specifically to a defined trading situation.

What does this mean for investors?

For investors, the circular brings greater clarity and reassurance. While it deals with an operational issue within mutual funds, the rules are clearly designed to ensure that investors are not disadvantaged.

The biggest positives for investors are:

• The borrowing policy must be board-approved and publicly disclosed

• Intraday borrowing can be used only for specific payout-related purposes

• Borrowing must be backed by same-day guaranteed receivables

• The AMC bears the cost, not the investor or the scheme

In effect, SEBI has tried to balance operational flexibility for mutual funds with investor protection.