Imagine you’re a bank, juggling billions of rupees in loans, investments, and safety nets to keep your finances secure. Now, picture being told you can free up some of that locked-away money to boost profits or lend more to businesses and people.

Let’s break it down in simple terms for everyone, from curious readers to small investors wondering what this means.

What Are AIFs, Anyway?

Alternative Investment Funds (AIFs) are like exclusive investment clubs where wealthy individuals, companies, and institutions pool money to invest in things beyond regular stocks and bonds. Think startups, real estate projects, or even high-risk bets on small companies. In India, AIFs are regulated by SEBI (the market watchdog) and require a minimum investment of ₹1 crore—way out of reach for most of us regular folks. They come in three flavors:

• Category I: Funds startups, infrastructure, or social projects (e.g., National Investment and Infrastructure Fund for roads and energy).

• Category II: Invests in private companies or real estate (e.g., HDFC Property Fund for housing projects).

• Category III: Uses complex strategies like betting on stock price drops (e.g., Avendus Absolute Return Fund).

Banks often invest in AIFs to diversify their portfolios or support big projects. But these investments come with risks, and the RBI keeps a close eye to ensure banks don’t take on too much.

The Problem with the Old Rules

Back in December 2023, the RBI cracked down on AIFs to stop banks from using them to “evergreen” loans—essentially, hiding bad loans by funneling money through AIFs to struggling borrowers. The rules were strict: banks had to set aside large amounts of money (called provisions) to cover potential losses on all AIF investments linked to their borrowers. Some banks, like HDFC Bank and Axis Bank, reserved 2 to 550 basis points of their loan books—think of it as locking away millions in a vault just in case.

This was tough. It tied up capital that banks could’ve used for lending or other profitable activities. Plus, it hit banks with investments in government-backed AIFs (like those tied to roads or agriculture) the hardest, even though those were safer bets. The industry pushed back, saying the rules were too harsh.

Enter the New Rules: The RBI listened. Its new draft circular, released on May 22, 2025, loosens the leash while keeping risks in check. Here’s what’s changing and why it’s a big deal:

1. Less Money Locked Away: Banks now only need to set aside provisions for their specific share of risky AIF investments, not the whole amount. For example, if a bank invested ₹100 crore in an AIF, and only ₹10 crore went to a risky borrower, they only reserve money for that ₹10 crore. This could free up millions for banks like HDFC, Axis, and RBL, boosting their profits and financial health in the coming quarters.

2. Capital Relief: The old rules forced banks to deduct chunks of their capital (their financial safety cushion) for certain AIF investments. The new rules ease this by splitting deductions between different capital types and only targeting specific risky parts. This means banks can use more of their capital for lending or investing, which could fuel economic growth.

3. Government-Backed Funds Get a Pass: Investments in government-linked AIFs (like those run by NIIF or SIDBI for infrastructure or small businesses) are now exempt from these strict rules. Axis Bank, with nearly half its AIF exposure tied to such funds, is cheering—this could unlock significant capital.

4. Clearer Rules for Public Stocks: If an AIF invests in listed company shares, banks don’t face the same tough provisioning rules. This makes it easier for banks to back funds investing in big, stable companies. However, investments in complex securities like convertible debentures remain under scrutiny.

5. Real Estate Stays Tricky: Real estate AIFs are still tightly watched. If a bank’s exposure to a borrower through a real estate fund exceeds 5% of the fund’s total size, they must reserve 100% of that amount. Banks will likely tread carefully here.

What Does This Mean for Banks?

For banks, this is like getting a financial breather. They can:

• Boost Profits: Releasing excess provisions means more money on their balance sheets, which could show up as higher profits in 2025–2026.

• Lend More: Freed-up capital lets banks offer more loans to businesses, startups, or even homebuyers, potentially spurring economic activity.

• Invest Smarter: With clearer rules, banks can invest in AIFs more confidently, especially in government-backed or public market funds.

For example, HDFC Bank and Axis Bank, which had set aside hefty provisions, could see a short-term profit bump. Smaller banks like RBL could also benefit, strengthening their financial position.

Why Should You Care?

Even if you’re not a banker or a millionaire investor, these changes matter:

• More Loans for Businesses and People: Banks with more capital can lend to small businesses, startups, or individuals, which could mean more jobs or easier access to home or car loans.

• Stronger Banks, Stronger Economy: Healthier bank balance sheets mean a more stable financial system, which benefits everyone.

• A Peek into AIFs: While AIFs are mostly for the wealthy, platforms like Grip Invest are making similar investments accessible with lower entry points (e.g., ₹2 lakh for startup equity). This could open doors for regular investors to explore alternative assets in the future.

The Bigger Picture

The RBI’s new rules strike a balance: they curb risky practices like loan evergreening while giving banks room to breathe. It’s a win for banks, but it’s also a signal that the RBI is listening to the industry while keeping the economy’s safety first. For the average person, this could mean a more vibrant economy with banks better equipped to support growth.

Deepanjan