Fund of Funds (FoF) in India

A Fund of Funds (FoF) is a mutual fund scheme that invests in other mutual fund schemes rather than directly in stocks or bonds. FoFs provide a single-scheme structure to access multiple underlying schemes, simplifying portfolio construction and enabling specific allocations (e.g., international equity) that the AMC cannot easily offer directly. The SEBI Fund of Funds framework is regulated under the SEBI (Mutual Funds) Regulations 1996 with specific FoF provisions covering investment restrictions, disclosure and taxation.

For Indian retail investors, FoFs are particularly useful for:

• International equity exposure: Through international FoFs that invest in foreign mutual funds.
• Asset allocation simplification: Through multi-asset FoFs that bundle equity, debt and gold exposure.
• Specific underlying access: Where the investor cannot directly subscribe to the underlying schemes (e.g., institutional schemes, foreign schemes).

The trade-off is the double-TER structure: investors pay both the FoF-level TER and the underlying-scheme TER, increasing total cost compared to direct subscription. This article covers the SEBI FoF framework, the major types, the taxation framework including the 2023 harmonisation, and the use cases.

SEBI FoF framework

Definition

The SEBI framework defines a FoF as a mutual fund scheme that invests at least 95 per cent (some categories) or 80 per cent (other categories) of its corpus in other mutual fund schemes.

Investment restrictions

FoFs face specific investment restrictions:

• Concentration limits: Maximum exposure to a single underlying scheme is capped.
• Categorisation alignment: The FoF must invest in schemes aligned with its stated objective.
• No multi-layer: A FoF cannot invest in another FoF (preventing infinite-layer structures).

Disclosure requirements

FoFs must disclose:

• The underlying-scheme allocation in monthly factsheets.
• Combined TER (FoF TER + average underlying TER).
• Risk profile aligned with the underlying exposure.

Major FoF types

Domestic equity FoF

Domestic equity FoFs invest in Indian equity mutual fund schemes. Use cases:

• Asset allocation: Bundling equity exposure across multiple AMCs.
• Manager diversification: Diversifying across fund managers within Indian equity.
• Tax efficiency: Less common for domestic FoFs than for international FoFs.

Examples: Various asset-allocation FoFs from major AMCs.

International equity FoF

International equity FoFs invest in foreign mutual funds (typically operated by the AMC’s foreign parent or affiliate):

• Franklin India Feeder Funds: Investing in Franklin’s global parent schemes (US, Asian Growth, etc.).
• Motilal Oswal Nasdaq 100 FoF: Investing in the Nasdaq 100 ETF.
• ICICI Prudential US Bluechip Equity Fund: FoF investing in US-listed mutual funds.

The international FoF structure is the dominant Indian mechanism for accessing foreign equity, subject to the overseas investment cap .

Gold FoF

Gold FoFs invest in Gold ETFs of the same AMC. The FoF structure allows:

• Folio-mode access: For investors without demat accounts.
• SIP investing: For systematic gold accumulation.
• Operational simplicity: Compared to direct Gold ETF investing through demat.

Examples: SBI Gold Fund (FoF), HDFC Gold Fund (FoF), Nippon India Gold Savings Fund.

Debt FoF

Debt FoFs invest in debt mutual fund schemes. Use cases:

• Bond exposure aggregation across multiple debt schemes.
• Specific debt allocations (e.g., government plus corporate bonds).
• Target-maturity bond exposure through Bharat Bond ETF FoFs.

Multi-asset FoF

Multi-asset FoFs bundle equity, debt and sometimes gold exposure in a single FoF structure. The FoF allocates across multiple underlying schemes per a stated allocation framework.

Double-TER structure

TER stacking

FoF investors face two-tier TER:

• FoF-level TER: Charged by the FoF scheme itself, typically 0.50-2.00 per cent.
• Underlying-scheme TER: Charged by the underlying schemes the FoF invests in.

The combined TER is typically 0.75-3.00 per cent depending on the FoF structure and underlying schemes.

SEBI TER cap

SEBI’s FoF TER cap framework:

• FoF investing in domestic equity-oriented schemes: Maximum 2.25 per cent FoF-level TER.
• FoF investing in domestic debt-oriented schemes: Maximum 2.00 per cent.
• FoF investing in international schemes: Maximum 2.25 per cent.
• FoF investing in passive schemes (index funds, ETFs): Maximum 1.00 per cent.

The investor’s all-in cost is the sum of the FoF TER and the underlying TER, both of which reduce the FoF’s NAV daily.

Taxation

2023 FoF taxation harmonisation

The Finance Act 2023 amendment (implemented via the debt mutual fund taxation 2023 framework) harmonised FoF taxation based on underlying exposure:

• FoFs investing primarily (>65 per cent) in domestic equity: Treated as equity-oriented, taxed under Section 112A and Section 111A .
• FoFs investing in debt, international, or gold schemes: Treated as debt-oriented (slab-rate tax on all gains regardless of holding period).

International FoF tax treatment

International FoFs are treated as debt-oriented for tax purposes despite holding equity:

• All gains taxed at slab rate.
• No long-term capital gains preference.
• No indexation benefit.

This taxation treatment makes international FoFs less tax-efficient than domestic equity exposure, which the investor must factor in to the overall asset-allocation decision.

Gold FoF tax treatment

Gold FoFs (investing in Gold ETFs) are similarly treated as debt-oriented for tax: slab-rate tax on all gains.

Equity FoF tax treatment

FoFs investing >65 per cent in domestic equity (e.g., asset-allocation FoFs heavy on equity) are treated as equity-oriented:

• LTCG (>12 months): 12.5 per cent above Rs 1.25 lakh annual exemption.
• STCG (≤12 months): 20 per cent.

Use cases

International equity allocation

The dominant FoF use case for Indian retail investors is international equity exposure:

• Direct foreign investment through LRS is complex.
• Direct foreign-fund subscription is unavailable to most retail investors.
• International FoFs provide single-scheme access to US, Europe, Asia exposure.

The overseas investment cap can constrain international FoF subscription availability.

Gold accumulation

Gold FoFs (rather than direct Gold ETF) for investors who prefer folio-mode holding or SIP-based gold accumulation.

Multi-asset simplification

Multi-asset FoFs for investors wanting professionally-managed asset allocation across equity, debt and gold in a single scheme.

Considerations

Costs

The double-TER structure can be a meaningful drag on returns. Investors should compare:

• FoF combined cost (FoF TER + underlying TER).
• Direct subscription to underlying schemes (single TER).
• Where direct subscription is feasible, it is typically more cost-efficient.

Taxation

Post the 2023 harmonisation, non-equity FoFs (international, gold, debt) face slab-rate taxation, reducing their tax efficiency. Investors should factor this in.

Operational

FoFs simplify operations (single folio, single statement) at the cost of additional layer. For investors who manage their portfolios directly, the additional layer may not justify the cost.

See also

• Mutual funds in India
• ETF in India
• Index fund
• International mutual fund
• Gold ETF India
• Bharat Bond ETF
• Overseas investment cap for MFs
• Debt mutual fund taxation (post-2023)
• Equity mutual fund taxation
• Section 112A
• Section 111A
• FoF taxation harmonisation
• Liberalised Remittance Scheme (LRS)
• TER regulation and slabs
• SEBI (Mutual Funds) Regulations 1996
• Multi asset mutual fund

External references

• SEBI
• AMFI India
• Income Tax Department of India

References

1. SEBI (Mutual Funds) Regulations 1996 covering FoF provisions.
2. Finance Act 2023 covering FoF taxation harmonisation.
3. AMFI scheme categorisation data on FoF schemes.
4. SEBI October 2017 categorisation circular covering FoF categorisation.