Net Settlement for Mutual Funds: Understanding SEBI’s New Regulatory Framework
The Securities and Exchange Board of India (SEBI) issued a circular (Ref. No. HO/24/13/(1)2026-IMD-POD-2/1/25242/2026) introducing a significant change to the settlement mechanism for cash market transactions undertaken by mutual fund schemes. Titled “Framework for Net Settlement of Funds for Transactions Undertaken by Mutual Fund Schemes in Cash Market,” the circular introduces a net settlement mechanism for fund obligations at the scheme level, while retaining gross settlement for securities. Effective from April 1, 2027, the framework is aims to optimize operational workflows and enhance liquidity efficiency across asset management companies (AMCs).
Shift from Gross Settlement
Traditionally, institutional investors, including mutual fund schemes, were restricted from intraday trading or square-off transactions in the cash market segment. Accordingly, their transactions were required to be delivery-based, with settlement processed on a strict gross basis.
Under the gross settlement mechanism, each purchase and sale transaction is settled independently, without adjusting one obligation against another without creating any temporary cash tie-ups.
Recognising the scope for improving capital efficiency, SEBI has introduced a similar relaxation for mutual fund schemes, following the relaxation extended to Foreign Portfolio Investors (FPIs) in April 2026. The revised framework permits net settlement of eligible fund obligations arising from cash market transactions, thereby reducing the need for maintaining additional cash buffers while preserving the existing safeguards governing securities settlement.
Understanding Net Settlement and Gross Settlement
The fundamental distinction lies in how financial obligations are calculated and discharged:
- Gross Settlement: Under this mechanism, each transaction is settled independently. Purchase and sale obligations are not adjusted against each other, requiring investors to arrange funds for their purchase transactions separately, irrespective of any concurrent sale transactions.
- Net Settlement: Under this mechanism, eligible purchase and sale obligations arising within the same settlement cycle are offset against each other. Accordingly, only the resulting net fund obligation is required to be transferred.
Under SEBI’s revised framework, netting is permitted only in respect of fund (cash) obligations. The physical settlement of underlying securities remains strictly on gross, delivery-backed basis to preserve market integrity and prevent unauthorised short – exposure risks.
Major Features and Operational Framework
The facility of net settlement is subject to specific conditions prescribed by SEBI. The key provisions governing its applicability are discussed below.
- The net settlement facility is available exclusively for transactions classified as outright transactions. An outright transaction refers to either a purchase transaction or a sale transaction of a particular security by a mutual fund scheme within a same settlement cycle.
- If a scheme executes both purchase transaction or a sale transaction in the same security during the same settlement cycle, such transactions will be classified as non-outright transactions. These transactions will not qualify for net settlement and will continue to be settled on a gross basis. Accordingly, the eligibility for netting is determined at the security level within the relevant settlement cycle, based on the nature of transactions undertaken by the scheme.
- Netting is permitted solely within an individual mutual fund scheme, The circular explicitly prohibits cross-scheme netting, inter- scheme funding, or obligation adjustments across different portfolios managed by the same AMC.
- Derivative transactions, securities lending and borrowing, short sale- related transactions are excluded from the said framework, and netting won’t be applicable.
- If total outright purchase values exceed outright sale values in a cycle, the remaining balance must be funded directly by the scheme. Furthermore, Securities Transaction Tax (STT) and stamp duty obligations remain unaffected and continue to apply on a standard delivery basis.
Regulatory Safeguards
To prevent operational oversight or systemic misuse SEBI has mandated risk mitigation measures:
- Protection of NAV and Scheme-Level Accounting
AMCs and custodians must ensure that the netting procedures do not compromise scheme-wise accounting, Net Asset Value (NAV) accuracy, asset allocation compliance or unit holder equity.
- Audit Trails and System Controls
Custodians are required to maintain transparent audit logs distinguishing gross obligations, netted balances and excluded non-outright trades.
- Governance and Implementation Standards
Trustees must review implementation processes to safeguard unit-holder interests. Simultaneously, the Association of Mutual Funds in India (AMFI), alongside corporations and stock exchanges, is charged with developing standard operating protocols (SOPs), cut-off timelines, file formats and reconciliation mechanisms prior to the implementation deadline.
Strategic Implications for the Mutual Fund Industry
The introduction of net settlement represents a structural upgrade to India’s financial market infrastructure. By reducing the reliance on temporary cash buffers to cover gross pay-in requirements, mutual fund schemes can manage daily liquidity more efficiently, minimize uninvested cash drag, and streamline fund transfers with custodians. Ultimately the framework delivers greater operational efficacy while maintaining effective risk controls across the institutional investment landscape.
