The Committee has recommended that to encourage the healthy growth and development of the mutual fund industry, it is desirable to provide for establishment and regulation of mutual funds by a separate comprehensive statute. The rationale is as follows :

1. Institutions of importance in the capital market are usually set up under important statutes. Besides meeting the regulatory requirements, the setting up of such institutions under a statute give these institutions the due recognition of their roles in the capital market. The banks are governed by the Banking Regulations Act, companies are incorporated under the Companies Act, 1956, the all India financial institutions were initially set up under statutes, the stock exchanges are regulated and administered under the SCRA,1956 and rules framed thereunder, and depositories are set up under the Depositories Act. The SCRA and Depositories Act are administered by SEBI.

The mutual funds constitute a very important sector of the capital markets and have immense potential, some of which is yet to be fully tapped. Time has now come to the critical role of mutual funds in the development of a healthy capital market in order to give due recognition to this, it is felt that like other institutions in capital market, it may be expedient to have an independent statute for mutual funds.

2. The Indian Trusts Act appropriately deals with property entrusted by a settlor in the hands of trustees for the benefit of beneficiaries. It does not contain adequate provisions to deal with a trust where there is large scale mobilisation of public funds entrusted by prospective investors for expert fund management to maximise investor value to the fund provider. In the traditional trusts, the bifurcation of responsibility between trustees and managers is neither visualised nor clearly delineated and provided for. Consequent upon the establishment of mutual funds, the healthy principle of separating management from ownership, control and supervision has been built into the structure of Mutual Funds under the Mutual Funds Regulations, 1993 and followed in the Mutual Funds Regulations, 1996. Therefore, the rights, duties and obligations of the different layers of the sponsor, the trustees, the AMC, the Custodian, the beneficiaries need to be focused under a specific statute rather than seeking to enforce these partly under the SEBI Act of 1992 and partly under the Indian Trusts Act, 1882.

3. The basic thrust of the SEBI Act is protection of investors and Regulation of the securities market. The Regulations and Rules framed under that Act need to be consistent with the Act and aimed to carry out the purposes of the Act (Section30). It is clear under Section 11 that registration and regulation and the working of collective investment schemes including Mutual Funds falls within the purview of SEBI. However, SEBI Regulations of 1993 and 1996 have been used to define the rights, responsibilities and duties of various bodies set up under other specific legislations like the Indian Trusts Act and the Companies Act. Such relationship could lead to several legal complexities. The intention of a regulator should be to reduce the potential for litigation.

4. The complexities are further aggravated when the trustees are constituted as a company under the Companies Act. The Trustee Company as a person created in the eyes of law, has also to comply with various provisions enacted by the statute of Company Law. This adds a further dimension and increase the complexities. Additionally, if as a measure of investor protection, regulations are drawn up to spell out the rights, duties and responsibilities of a Director, the need to harmonise these with the Companies Act and the Trusts Act becomes necessary.

5. Under the Indian Trusts Act read with the Transfer of Property Act, there is a rule against perpetuity. The whole idea is to have mutual funds which continue for generation in perpetual succession. The Trusts Act does not permit this.

6. While the Companies Act permits perpetual succession, it has various checks and balances to regulate the rights, duties and responsibilities of the stake holders. Mobilisation of savings through Unit Trusts are quasi equity in character and not mere debt instruments. The thrust of Company Law to protect the interests of creditors in the face of the privilege of limited liability creates problems in structuring mutual funds as investment companies.

7. The properties cannot be registered in the name of the trust as the trust is not an entity or person in the eyes of the law. Such property needs to be registered in the names of trustees. Whenever there is a change of trustees, it becomes necessary to register the property in the names of new trustees. If a mutual fund is constituted as a body corporate with perpetual succession, it is capable of entering into contracts and being sued and suing others in its own name and is capable of holding property as a legal person.

8. The thrust in promoting several mutual funds as opposed to the single Unit Trust of India existing between 1964 and 1987 was to provide investors with a choice. The mutual fund industry is intended to be developed with a particular focus of mobilising public savings in a specified segment of the financial sector. Mutual Funds in the past have mobilised upto Rs.1900 crore in a given financial year. In future years, the amounts annually mobilised are likely to increase substantially. The regulatory system should facilitate such substantial step up of savings mobilisation and should also encourage professionalisation of procedures and practices. This will be best done through a separate statute which can focus on the special characteristics of such entities.

9. In several countries of the world, a Mutual Funds Act has been passed. Apart from advanced countries like U.S.A., even smaller countries like Brazil, Mexico, British Virgin Islands and Seychelles, find it appropriate to promote mutual funds through a separate statute.

10. The Mutual Fund Act can combine the provisions of various Acts. It can set out the rights and responsibilities of the board of trustees and can provide for meetings of trustees and unit holders, proxies, quorum, facility for nomination etc.. The regulatory authority and jurisdiction of SEBI under the SEBI Act can extend over the mutual funds. The powers, obligations and responsibilities of the sponsor can be spelt out. The rights and obligations of beneficiaries under various schemes floated by the mutual funds can be specified. Reporting and disclosure requirements can be built in the Mutual Funds Act.

11. The present anomaly of the mutual funds being set up under the Indian Trusts Act, 1882, an Act not enacted for the purpose of mutual funds, would also get rectified. Mutual funds would also not be dependent on the provisions of other Acts. Through the Mutual Fund Act, necessary amendments could be carried out in other statutes as was done in the Depository Act.

12. A single Mutual Fund Act will provide a uniform regulatory framework for all mutual funds including UTI which is now governed by a separate statute. UTI Act could be repealed through the Mutual Fund Act. This would place on a statutory basis, the voluntary arrangement of UTI complying with the regulations for post-July 1994 schemes.

13. It has also been asserted that if the mutual funds are established as companies under the Companies Act, 1956, the aforesaid advantages can be achieved without enactment of a separate Act for mutual funds. The company may be incorporated solely for the purpose of setting up and operating the business of mutual fund. Such companies will be subjected to SEBI Regulations. Such companies will have their objects under the memorandum of association restricted to mutual fund business. Also their articles of association will include mandatory requirements of SEBI Regulations. As regards corporate management like board of directors, issue of capital, holding of meetings of shareholders and unit holders, maintenance and auditing of annual accounts, etc. will be governed by the provisions of the Companies Act. However, the problems of control on reduction of capital and buy back of capital as provided under the Companies Act cannot be avoided if this structure is followed. If funds mobilised through units are recognised with the characteristics like quasi-equity, problems in defining these rights and difficulties in regulation as observed in NBFCs will surface.

14. Another complication which remains unresolved is whether shares held by a Mutual Fund are subject to declaration of beneficial interest under Section 187C of the Companies Act requiring considerable paper work to be generated.

15. In the present structure, the ownership of the AMC and the Trustee company is invariably exclusively with the sponsors. Ensuring independence of independent Directors on the AMC and the Trustee company becomes extremely complex. The separate statute would provide for the Board of Managers as well as the Board of Trustees. The control of the sponsors over the appointments on these two Boards can be achieved through the statute.

The Committee deliberated the issue at length. The majority of members are of the view that a separate statute be enacted for establishment and regulation of mutual funds. Mutual Funds registered under the said Act would, upon registration, be a body corporate capable of exercising all functions of an incorporated entity and having perpetual succession with limited liability. The Act should clearly spell out the rights, duties and obligations of the various constituents of the Mutual Fund like the sponsor, the Trustees, the asset manager, the Custodian, the Registrar, etc.. Provision should be made registering existing Mutual Funds under the statute when enacted.

The recommendations regarding Statute change has not yet been implemented. However all the other recommendations of the Committee within the sphere of SEBI were implemented in 1998, through amendments to SEBI Regulations of 1996 governing Mutual Funds.