Check options well before investing in chit funds

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SummaryBankBazaar.com CEO Adhil Shetty on things to be kept in mind before making an investment in chit funds

A chit fund is a savings-cum-borrowings scheme, wherein a few people (known as members or subscribers) come together and invest a fixed amount every month for a fixed period. While the concept of chit funds has been very popular in South India for several decades, other states too have chit fund concepts now. Various state and Central regulations regulate chit funds in India. At the Central level, the Chit Funds Act, 1982, governs chit funds. Some states also have state-level laws. Chit funds have been associated with fraudulence for past couple of decades. Many fraudulent chit funds have closed down. Nevertheless, a few large chit companies have retained their popularity among people.

Let’s understand more on chit funds

How does a chit fund work?

In a chit fund, the number of months for which the investment is made is the same as the number of subscribers in the scheme. Every subscriber gets a turn to take the total amount collected in a month; this means, in every month, one subscriber will get the collected amount. The subscriber to get the money will be decided based on a bidding system. Once a subscriber gets his turn, he is not allowed to participate in the bidding again. Generally, those who are in need of money in a particular month participate in the bidding, and the subscriber with the lowest bid is allowed to take the amount. The chit fund scheme is managed by one of the members, who is known as the Foreman. He is responsible for collecting the subscription amount from the subscribers, recording details of members and conducting the auctions. For these duties, he is paid a fee, which is generally 5% of the amount collected. The Foreman’s fee is reduced from the amount paid to the subscriber who wins the bid. Any extra amount from the monthly collections is distributed equally among all the subscribers.

Illustration: Let’s assume there is a chit fund with 10 members contributing R3,000 each per month for 10 months. The total monthly collection in this chit fund is R30,000. Suppose in the first month, there are two members who need funds, who participate in the bidding. One member bids for R27,000 while the other member bids for R26,000. The second member becomes eligible to draw the money for the month as his bid is lower than the first member’s bid. If there is more than one member bidding

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