Part 22 addresses a question fund managers increasingly ask as their operations scale: how much of fund administration should be outsourced, and how should the resulting third-party relationships be governed?
Q1. When is a custodian mandatory for an AIF?
AIFs with a corpus above a specified threshold are required to appoint a SEBI-registered custodian; Category III AIFs are required to appoint a custodian regardless of corpus size, given the leverage and trading complexity typically involved.
Q2. What is the custodian's core function for an AIF?
The custodian safeguards fund securities and assets, and provides an independent check on portfolio holdings — distinct from and independent of the investment manager, who makes the investment decisions but does not itself hold fund assets.
Q3. Does having a custodian eliminate the need for independent audit of fund holdings?
No — the custodian provides asset safekeeping and independent verification of holdings, but does not replace the statutory audit function, which covers the fund's full financial statements, valuation, fee computation, and compliance position, not just asset custody.
Q4. What does a fund administrator do, and is this role mandatory?
A fund administrator typically handles capital account maintenance, NAV computation support, investor reporting, and other back-office fund accounting functions. Engaging an external fund administrator isn't universally mandatory in the way a custodian is above the corpus threshold, but many funds outsource this function for operational efficiency and to introduce an independent check on manager-prepared numbers.
Q5. What is the trustee's oversight role over service providers like the custodian and fund administrator?
The trustee, in its broader fiduciary oversight capacity, is expected to satisfy itself that service providers engaged by the fund — custodian, administrator, valuer, auditor — are appropriately qualified and performing their functions adequately, as part of its overall responsibility to safeguard investor interests.
Q6. Should the fund administrator and the investment manager be independent of each other?
Independence between the party executing investment decisions (the manager) and the party maintaining the fund's books and investor records (the administrator) is considered good governance practice, reducing the risk of manager-favourable numbers going unchecked.
Q7. What due diligence should a fund conduct before engaging a third-party service provider?
Verification of the provider's regulatory registration/licensing (where applicable, such as SEBI-registered custodians), track record with comparable funds, data security and confidentiality practices, and clear service-level agreements defining deliverables and timelines.
Q8. Who is responsible if a service provider makes an error that affects investor reporting — the fund manager or the service provider?
Ultimate responsibility for accurate investor reporting rests with the fund/manager, regardless of whether specific functions are outsourced — engaging a service provider doesn't transfer the manager's underlying regulatory and fiduciary responsibility to investors.
Q9. How should service provider agreements address confidentiality of investor and portfolio data?
Through explicit confidentiality and data protection clauses in the engagement agreement, particularly important given that fund administrators and custodians have visibility into sensitive investor and portfolio information across potentially multiple client funds.
Q10. What happens if a fund wants to change its custodian or administrator mid-life?
This requires a structured transition process — data migration, reconciliation between old and new provider records, and investor notification where the PPM or governance documents require it — planned carefully to avoid gaps in recordkeeping or reporting during the transition.
Q11. Should a fund's related party transaction policy extend to its choice of service providers?
Yes, where a service provider is itself an affiliate of the manager or sponsor (for example, an in-house fund administration arm), this should be treated and disclosed as a related party arrangement, subject to the same governance scrutiny discussed in Part 21 of this series.
Q12. How does the choice of service providers affect a fund's due diligence attractiveness to sophisticated investors?
Institutional investors and family offices increasingly diligence a fund's service provider ecosystem — custodian quality, administrator independence, auditor reputation — as a proxy for overall operational discipline, alongside the manager's own track record.
Coordinating Your Fund's Service Provider Ecosystem
We work alongside custodians, administrators, and trustees as part of our fund accounting and audit engagements, ensuring the numbers each party produces reconcile cleanly across the full service provider chain.
This FAQ is for general informational purposes and does not constitute a recommendation of any specific service provider or arrangement.