Chit funds, one of India’s oldest indigenous financial institutions, are regulated by the Chit Funds Act, 1982, a central statute, and various State-specific regulations. Further, the Securities and Exchange Board of India (SEBI) regulates the operation of ‘collective investment schemes’ (Collective Investment Schemes) through the SEBI 1999 Regulations (CIS Regulations). However, Section 11 AA of the Securities and Exchange Board of India Act, 1992 specifically excludes a chit fund business (as defined under Section 2 (d) of the above Chit Fund Act) from the purview of the CIS Regulations.

The chit fund scheme, floated by the West Bengal-based Saradha Group, has been in the news recently for allegedly mopping up close to Rs 1,200 crore through its bogus operations, duping gullible investors. SEBI, on April 23, issued an order against Saradha Realty India Ltd. directing the latter and its Managing Director, Sudipta Sen, to wind up the collective investment schemes, refund the money collected by it under the schemes with returns which are due to the investors, and submit a winding-up and repayment report to SEBI in accordance with the CIS regulations.

However, as chit funds do not form part of collective investment schemes, SEBI cannot systematically regulate such activities in accordance with the CIS Regulations.

In the present case, we can reasonably conclude that Saradha Group ran a ‘collective investment scheme’ in the guise of a chit fund to circumvent the more stringent CIS Regulations.

The order examines and concludes that the ‘activities of the noticee’ company fall within the ambit of ‘collective investment schemes’ and as such the scheme must mandatorily comply (including obtaining requisite registration) with the terms of the CIS Regulations.

The present case drives home the point that while we have a robust legal and regulatory machinery for administering CIS or, for that matter, chit funds, we must ensure that the powers given to appropriate authorities have the necessary ‘bite’ to ensure enforcement and prosecution under applicable laws.

There also appears to be a need to bring such schemes under one principal regulator that will oversee all cases where pooling of money is involved and investments are being made.

From time to time, the financial world has been rocked by stings involving multi-level marketing companies, art funds, time-sharing schemes and, maybe one day, a Bernard Madoff-inspired Ponzi scheme.

Such schemes will not always come under the express domain of any regulatory authority or statute. Given the popularity of such money-making schemes, our legal framework must keep pace with such hybrid investment arrangements and methods of raising funds from the public.

(The authors are with Advaya Legal, a full service law firm based in Mumbai.)

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