Understanding Category I, II, and III AIFs in India
                     UNDERSTANDING CATEGORY 
I, II, AND III AIFS IN INDIA
INTRODUCTION
Alternative Investment Funds (AIFs) have 
become a hot topic among HNIs and 
sophisticated investors looking for higher 
returns, portfolio diversification, and access 
to unique opportunities. But here’s the 
catch — most people get confused 
between Category I, II, and III AIFs. 
If you’re nodding in agreement, this blog is 
your simplified, no-jargon guide to 
understanding the three categories of AIFs 
in India, what makes them different, and 
how to decide which one fits your goals. 
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WHAT IS AN AIF? 
An Alternative Investment Fund (AIF) is 
a privately pooled investment vehicle that 
collects money from investors to invest by a 
defined strategy. These aren’t your regular mutual 
funds — they’re designed for qualified 
investors seeking exposure beyond the public 
markets. 
SEBI (Securities and Exchange Board 
of India) regulates AIFs under the SEBI 
(AIF) Regulations, 2012. AIFs are 
classified into Categories I, II, and III, 
based on their investment style and 
risk profile. 
CATEGORY I AIFS – 
BACKING THE FUTURE
WHAT THEY ARE:
Category I AIFs invest in economically and socially desirable sectors. Think 
startups, infrastructure, SMEs, or green projects. 
These funds are encouraged by the government because they align with 
national priorities — so they may receive incentives or tax benefits. 
Typical Investments:   Key Features:
• Venture Capital • Long-term investment horizon 
Funds 
• Higher risk, but potential for higher returns 
• Angel Funds 
• SEBI-regulated and often supported by policy 
• Social Venture Funds  initiatives
• Infrastructure Funds 
Ideal For: HNIs wanting to bet on India’s next big startup or nation-building 
projects. 
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CATEGORY II AIFS – 
THE BALANCED 
PATH 
What They 
Are:
These are the most popular type of AIFs among serious investors. Category 
II AIFs don’t get special government incentives, but they also don’t take 
excessive leverage or short positions like Category III. 
Typical Investments:   Key Features:
• Private equity  • Stable return profiles (esp. in private credit and 
real estate) 
• Debt funds 
• Lock-in periods usually 4–6 years 
• Real estate funds 
• No leverage or complex derivatives 
• Mezzanine funds 
• Most regulated Category by SEBI 
Ideal For: HNIs and family offices looking for moderate risk with predictable 
returns, especially via private debt or pre-IPO plays. 
See Rits Capital’s insights on private market 7
investing 
CATEGORY III AIFS – THE 
HEDGE FUND TERRITORY 
What They 
Are:
Category III AIFs are designed for high-return strategies using complex tools like 
derivatives, leverage, long-short trading, and intraday positions. This is the hedge 
fund model of India. 
They can invest in listed and unlisted securities, but their core play is agility and alpha 
generation. 
Typical Investments:   Key Features:
1. Long-short equity  • High risk, high reward 
• Higher churn, shorter lock-ins (1–3 years) 
2. Arbitrage 
• No restrictions on leverage or shorting 
3. Quant funds 
• Taxed like business income (unlike LTCG for 
4. Derivative trading Cat I & II)
Ideal For: Sophisticated investors looking for alpha and active trading exposure, often 
complementing their long-term portfolios.
Read more on hedge fund-like investing  9
KEY DIFFERENCES AT A 
GLANCE 
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REAL-WORLD USE CASES
• A tech-savvy investor in Bengaluru might put ₹1 Cr in a 
Category I AIF that supports early-stage AI startups. 
• A conservative HNI in Mumbai could allocate ₹3 Cr into a 
Category II real estate debt AIF for consistent annual 
yields. 
• A market-savvy entrepreneur might park ₹50 lakh in a 
Category III quant fund to ride short-term opportunities. 
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 IS AIF INVESTING 
SAFE?
AIFs are regulated by SEBI, but they are meant for informed investors. Each AIF comes 
with: 
• A Private Placement Memorandum (PPM) 
• Detailed strategy, tenure, and risk disclosures 
• Professional fund managers with skin in the game 
However, unlike mutual funds, AIFs are not daily liquid. You must stay invested until 
maturity or pre-defined liquidity events. 
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FINAL THOUGHTS
Alternative Investment Funds are no longer niche. In 2025, they’re mainstream for India’s 
wealth-conscious elite, offering access to private markets, innovation, and active strategies 
that can’t be found in traditional avenues.
Understanding the three categories — I, II, and III — is key to using AIFs effectively. Whether 
you’re a growth-seeker, yield-hunter, or market player, there’s an AIF that fits your style. 
But don’t invest blind. Work with licensed platforms like Rits Capital that conduct deep due 
diligence and help you navigate taxation, regulation, and fund performance with clarity. 
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THANK YOU
VISIT: WWW.RITSCAPITAL.COM
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