Legal chit funds safer but many risk the illegal route. In other words, they are sitting on a powder keg
Every once in a way, the media reports about unregistered chit fund operators fleeing with crores of rupees belonging to gullible investors. But that does not seem to deter people who continue on the same path of risky investment.
In Bangalore, there are 193 registered chit fund operations under the Chit Funds Act 1982, with a turnover of about Rs. 4,000 crore per annum. However, the number of unregistered chit operators is estimated to be at least 100 times that. In other words, investors are sitting on a powder keg that can blow up any time.
What is a chit fund?
Chit fund is a traditional financial scheme carried out based on trust between operators and members, which prevailed even before formal banking began. Unregistered chit funds, whose chit value exceeds Rs. 100, are illegal in India.
Why do people risk dealing with unregistered operators? There are three main reasons: there is no need for any document to participate in chit fund schemes, unlike in the case of registered companies; flexibility in borrowing, and an easy way to invest unaccounted for money.
And how do unregistered chit operators flourish despite cases of cheating against many of them? The main reasons are: non-implementation of preventive measures as prescribed in the Chit Funds Act to prosecute unregistered chit operators; lack of stringent provisions in law to check their operations and third, many unregistered operators adopt dubious methodology to ensure that their schemes are slightly different from the chit fund scheme as defined in the Act, to avoid registration.
Overregulation and the multilayered procedures to get a chit fund registered under the Act also are a deterrent for people to go the legal way.
While there are innumerable instances of unregistered chit operators duping investors, there has been no such instance involving a registered chit fund operator in Bangalore in the recent times.
Both Karnataka Chitsters’ Association president B. Shivalingappa and Registrar of Cooperative Societies and Chits N.S. Chinnappa point out that except for minor cases of non-payment of the instalment by a member and delay in payment of the chit fund amount or prize money, there have been no complaints against registered chit fund operators in the State.
The 1982 Act prohibits operators from utilisation or appropriation of the money collected as chit fund subscription, says Mr. Shivalingappa, pointing out that chit fund companies are barred from accepting deposits.
“Chit funds are overregulated but less governed, and regulations on chit funds are more stringent than banking regulations. Simplification of the Act will solve many hurdles and prevent people from being attracted towards unregistered chit fund operators,” says T.S. Sivaramakrishnan, general secretary of All Indian Association of Chit Funds, while pointing out that Saradha Group of West Bengal, which is still making news following the collapse of its ponzi scheme, was not registered to operate chit funds.
Why they are popular
Shivakumar, an advocate, says that less stringent documentation and easy investment of unaccounted for money drive people towards unregistered chit fund operators. Penal provisions for operating an unregistered chit fund are too soft. They should be changed to ensure longer imprisonment with higher penalty amount of at least Rs. 5 lakh from the Rs. 5,000 now, he said and added that that the Registrar of Chits has, perhaps, never used his power to raid an illegally operated chit fund firm/operator in Bangalore.
‘Vehicle for the poor’
A study by the Institute for Financial Management and Research, Chennai, found that 96 per cent of chit fund members surveyed had commented that participation in registered chit fund operations as “safe”.
“The results from this study underscore the importance of chit funds as a savings and borrowing vehicle for the poor and lower income households in India. The data we collected from the Chit Fund Registrars of Andhra Pradesh, Tamil Nadu, Karnataka, Kerala and Delhi for the first time allows us to estimate the size of the registered chit fund industry. We find that the total amount of capital lent per year through registered chit funds is between 10 per cent and 50 per cent of all priority-sector lending which is extended by regular banks in these same States,” stated the IFMR report.
The study pointed out that though chit funds are an important source of finance for small businesses and low-income households, there has been a general exodus of low value chit fund schemes from the registered chit fund market. “This is mainly because registered chit funds find it less lucrative to serve the poor due to the increased cost of operating such schemes imposed by the regulators. Most registered chit funds have moved away from smaller chit fund schemes and mainly offer large schemes. These developments make it very difficult for the poor to participate in chit fund schemes and often leave them without any institutional savings options,” said the report.