Alternative Investment Funds (AIFs) are gaining popularity among high-net-worth investors for deeper diversification and long-term growth.
As more investors explore the best AIFs in India or compare top PMS in India, understanding how AIFs work, their structure, returns, and regulatory framework becomes essential.

This article simplifies how AIFs function, helping investors build clarity and make informed investment decisions. So, let’s begin!

How AIFs Work?

Alternative Investment Funds (AIFs) may seem complex at first, but once you understand their structure and flow, they’re actually quite logical. 

At their core, AIFs are investment pools where high-net-worth individuals, NRIs, family offices, and institutions come together to invest in opportunities beyond traditional mutual funds, such as private companies, private credit, long-short strategies, real estate, or complex market opportunities.

Here’s a detailed explanation of how AIFs work:

The Structure of an AIF 

Every AIF has three main pillars:

Sponsor 

The sponsor is the entity that creates and launches the fund. They are required to invest their own capital as a minimum contribution, demonstrating commitment and accountability. You can think of them as the “fund’s founders”.

Manager of the fund 

The fund manager guides the AIF’s decisions: what to invest in, when to act, and how to manage risk to help grow investor wealth responsibly.

Trustee 

In a trust structure, the trustee makes sure everything is done properly. They don’t choose investments, but they ensure operations follow SEBI regulations and protect investor interests.

Together, these three create a safe, transparent, and well-regulated environment.

How Investors Invest?

AIFs don’t always take the full investment upfront.

Capital Commitment

Investors first commit a certain amount (minimum ₹1 crore as per SEBI rules). This is like saying, “I agree to invest this amount whenever the fund needs it.”

Capital Calls / Drawdowns

Instead of taking all the money at once, the fund manager asks for it in parts, only when good investment opportunities appear.

This ensures:

  • No idle capital

  • Better timing

  • More efficient allocation

Where do AIFs Put the Money?

AIFs operate under three broad categories defined by SEBI:

Category I & II AIFs

These invest in longer-term, often private-market opportunities, such as:

  • Startups

  • Private equity

  • Venture capital

  • Private credit/debt

  • Special situation assets

  • Real estate

Category III AIFs

These are faster, market-responsive strategies. They often use methods like:

  • Long-short strategies

  • Derivatives

  • Hedging

  • Arbitrage

  • Tactical trades

How AIFs Generate Returns?

Different AIF strategies create returns in different ways:

A. Private Equity / Venture Capital AIFs

They invest in companies early and exit when the company grows significantly. Returns come from:

  • Higher valuations

  • Strategic exits

  • IPOs

  • Secondary sales

B. Private Credit / Debt AIFs

These lend money to businesses in a structured way. They earn:

  • Interest

  • Coupons

  • Premiums

  • Exit charges

C. Category III Long-Short AIFs

They buy some stocks, short some stocks, hedge positions, and use smart trading strategies. Their goal: earn returns even in volatile markets.

How Returns Are Shared with Category 1 and Category 2 investor?

AIFs follow a tiered system to distribute profits:

Step 1: Return of Capital

Investors first get back the original money they contributed.

Step 2: Preferred Return / Hurdle Rate

Investors are given a minimum return before the fund manager earns performance fees.

Step 3: Catch-Up

After the investor receives their hurdle rate, the fund manager receives a portion of profits to “catch up.”

Step 4: Carry (Performance Fees)

Finally, fund managers earn a share of profits (typically 10–20%) above the hurdle rate. This aligns both sides. If the fund grows, both investor and manager benefit.

Reporting & Compliance 

AIFs are under strict SEBI regulations, meaning they must:

  • Share quarterly reports

  • Use independent valuers

  • Get annual audits

  • Follow transparent NAV policies

  • Maintain proper risk management.

Investors always remain informed about where and how their money is deployed.

How PMS AIF WORLD Helps Investors Navigate AIFs

PMS AIF WORLD’s strength lies in its research-backed methodology. Instead of simply listing investment products, they build a decision-making ecosystem that helps investors choose AIFs and PMS products based on risk-adjusted metrics, historical performance behaviour, and portfolio discipline.

They offer:

  • Research-first approach ensures that investments are data-backed, not sales-driven.

  • Complete transparency on performance, risk, and historical trends.

  • Curated strategy selection to match suitability, not popularity.

  • Continuous monitoring, newsletters, and performance updates.

  • Objective filters across categories help investors avoid emotional or biased decisions.

  • Personalized support for HNI and NRI clients.

For anyone exploring PMS or top AIFs in India for the first time, or even seasoned investors seeking a disciplined allocation, PMS AIF WORLD offers clarity, depth, and trustworthy guidance.

Wrapping Up

AIFs can truly strengthen a portfolio when chosen with clarity and a structured plan. Before investing, it’s important to understand each fund’s category, strategy, risk level, past performance, fees, and the experience of the fund manager.

Begin by setting your personal financial goals, diversifying your investments across various strategies, and regularly checking your progress. When selected thoughtfully and monitored patiently, AIFs can become a powerful partner in building long-term, meaningful wealth.