“I lost money investing in a chit fund,” is a constant refrain. Yet, there are many people who are loyal long-term investors in unregistered chit schemes. What attracts them to these schemes? The reasons could be many — chit schemes are the only option for some, there’s the lure of high returns and a way to save regularly. What clinches the deal is also the fact that you can take a loan against the investment any time you need money.

All chit funds are legally required to register under the Chit Funds Act, 1982. Registered chit funds are subject to many rules, enforced by State governments.

Yet, unregistered and informal neighbourhood chits proliferate, and many savers seem to prefer them.

In any chit scheme, you make monthly payments for a specified number of months. The duration of the scheme equals the number of investors; each month, one person gets the chance to withdraw the monthly collection. For instance, let us take a scheme where a group of 10 people contribute ₹100 every month for 10 months. In any month, ₹1,000 will be the amount “auctioned”. The person offering the lowest bid, say ₹700, will take home this amount. The remaining ₹250, after deducting 5 per cent fund administrator’s commission (₹50), will be distributed as dividend among all the 10 members. So, the effective payment, after the “dividend” of ₹25, will be ₹75. The bid-winner continues to contribute to the chit fund, but cannot bid again. The members who wait till the end for lower discounts get higher returns.

Lack of choices

“Chit fund was the only option I had 30 years ago to save and manage the finances of our extended family,” says 60-year-old Sona Bai of Chennai. “In the past 10 years, many new options such as housing loan, credit cards and personal loans have become available. This was not the case earlier, especially for a homemaker,” she says.

She enrolled in chit schemes from Balussery, a registered chit fund, to save for goals such as children’s education, buying a plot, building a home or wedding expenses. This made her “disciplined in money management.” And when emergencies invariably came up, she was able to bid for the funds to tide over the financial crises. “Now my children are abroad and I earn regular interest income from my late husband’s retirement funds,” she says. “But I continue to invest in chit schemes,” she adds. She explains why. “I have some upcoming repair work for my house and no bank will give a loan because of my age and my not being a salaried employee.”

Regular savings

Not just old timers, but young folks are also investing in chits. Take the case of G Thiagarajan, 30, who is not from Chennai but employed in the city as a driver. His motivation is regular saving. “If I have access to money, I will spend it,” he declares. So, instead of keeping his salary in a bank account, he invests in an unregistered chit fund. “It is very easy to enrol and there are no penalties for late payment or long forms to fill,” he adds. Usually his goal is to save a lumpsum, around ₹1 lakh. But in a few instances, he had to withdraw early. “Once I had to pay an advance when renting a house. I bid for the chit money and paid the landlord,” he says.

Good returns

He also likes the higher returns earned through chit funds. “In the early months, I may not be required to pay the full amount. In months where there are festivals such as Deepavali, my payment is quite low,” says Thiagarajan. This is because there is more demand for money and hence the bid amount is low, yielding a higher upfront dividend.

Anju Hameed, from Chennai, who earns regular rental income from her property investments, agrees whole-heartedly. “I earn returns of 18 to 20 per cent,” she asserts. However, calculating returns from a chit fund is not very straightforward (see box). She explains that she typically waits till the end of the scheme period and “invests in fixed deposits.” Being with a registered chit fund that provides online account access, she makes monthly payments and checks her account “quite easily.”

Easy operation

Like Anju, ease of operation is why CA Murugesan, who owns a photo business in Erode, near Coimbatore, has taken to chit funds. “We collect cash everyday in our shop. Taking the money to bank everyday to deposit and then planning any investments on the funds is quite tedious,” he laments. Instead, the local chit that collects cash daily towards various schemes is ‘immensely helpful,” in his view. He adds that bus owners in Bhavani, who also have daily cash collections, find it very convenient to save with chits. “Putting away the money this way is effortless. And when an investment opportunity comes, I know the money is available immediately,” he says.

Comfort factor

So while all the above factors seem to play a role, the recurring theme was the ‘comfort’ investors derived from the chit scheme. The inherent nature of the product — systematic investment with loan — seems to be the main draw. “Just a few months ago, an expensive camera came up for sale,” says Murugesan, “and I just bid for the chit and purchased the equipment.” Getting money from chit is easy and quick and ‘assured’ compared to bank loans, in his opinion.

Anju Hameed also finds the option to withdraw the funds a great attraction. “Unlike a recurring deposit, I can take money out and not pay any early withdrawal penalties. Sometimes, I bid for the money when I find a good investment, say a property,” she says. Thiagarajan too feels chits can be handy. “When there are medical emergencies in the family, I can withdraw from the chit. Without that, whom can I approach for money?” he asks.

Emotional connect

Also, the nature of the chit scheme provides an emotional connection between the participants in a scheme. In the case of Murugesan, who invests in schemes run by a relative in his village, the fund organisers are really his family. “We sometimes start a scheme when a wedding is planned in a relative’s family. We let them withdraw the funds and we also chip in to help out,” he says.

Risky bet

However, investing in an unregistered chit fund can be very risky. Take the case of S Aphoorva, an engineer who had just landed her first job. She was keen to save towards her wedding expenses. Her aunt, living in a village in Andhra Pradesh, suggested that she enrol in a chit scheme run by a long-time neighbour.

A few months and ₹1 lakh later, the chit organiser — a widow with two young children — was robbed and murdered on her way to the bank. Aphoorva has very little hope of recovering her hard-earned money.

Unregistered chit funds which exceed ₹100 in value are illegal in India. The rules for registered funds vary from State to State, but in general, one month’s chit value must be deposited with the Registrar of Chits before the scheme starts. The amount will be refunded only after the successful completion of the chit cycle, including maintaining and filing minutes of the monthly auction and auditing of accounts.

Also, the maximum discount is capped at 40 per cent of the chit value, while in unregistered chits there could be no cap. Data from registered chit funds show that their default rates are very low (under 1 per cent) after recovery. So if you think chit funds are for you, go with well-established registered chit funds.

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