MUMBAI: India’s central bank on Tuesday barred entities regulated by it, including banks and non-banking finance companies (NBFCs), from investing in alternate investment funds (AIFs) that have investments in existing and recent borrowers.

This includes companies in which lenders have current exposure such as an investment or a loan or in the past 12 months, the Reserve Bank of India (RBI) said.

The tighter rules follow concerns over instances where AIFs, including private credit funds, were used to mask bad loans in the financial system.

India’s central bank likely sold US dollars to limit rupee’s losses

RBI said that lenders would need to liquidate their investments in AIFs within 30 days should the fund invest in an existing borrower.

If the regulated entity is unable to do so, they will be required to make 100% provisions on these investments, the RBI added.

In instances where a regulated entity has invested in subordinate units of a fund that follows a ‘priority distribution’ model, the investment shall be subject to full deduction from the entity’s capital, the RBI said.

In the priority distribution model, a fund pays a certain category of investors before the other. Subordinate units are those that have a lower priority for payouts.

The rules are effective immediately.

India’s market regulator is investigating cases involving 150 billion to 200 billion rupees ($1.8 billion to $2.4 billion) where AIFs have been misused to circumvent rules, including to mask bad loans, Reuters reported in October.