Many of the investors have the same question- what’s chit fund how do chit funds work? There are no lacks of chit funds in India. We are going to demonstrate you the working principles and the pros and cons of chit funds. Many scams and deceits were done by large chit fund companies throughout the last few years. Yet, many people don’t apprehend the working principles of chit funds.
What are chit funds & their working principles
Suppose there are 20 people together from a group. Everyone will give INR 1,000/ per month for the next 20 months (it’s equal to the number of people in the group). In a group, there will be a coordinator who will manage all the meetings, money collection, and the other operations.
Certainly, all those 20 people will congregate on a specific day to deposit the INR 1,000 individually. So totally INR 20,000 will be gathered each month. Next, there will be a bid on who will grab the money. Instinctively there will be few people who need a big amount of money for their own purposes. Someone will bid the lowest amount, depending on how eager he is for the money. The lowest bidder will be the definite winner. Assume 3 people bade for INR 18,000, 17,000 and 16,000. The INR 16,000 bidder will be the winner.
Moreover, there will be “organizer charges” too. The charge is around 5 % (standard) of the entire amount. In that situation, the 5% of INR 20,000 is INR 1,000. So the winner will receive INR 15,000 after abstracting the INR 1,000 organizer charges. After the INR 4,000 profit will be distributed among the 20 people. So everyone will get INR 200. We think you understood that the foremost winner is actually the looser cause of his yearning requirement of the money, but the others get profits from it. Certainly, everyone paid 800, not 1,000 (they already got 200 back). FYI, an individual can’t bid from next time if he takes the money after bidding. So the rest 19 people will be entitled to bidding.
The same occurrence will happen next month. Assume the best bid was INR 18,000, the winner will get INR 17,000 (after abstracting the organizer fees). The remainder 2,000 will be distributed among the 20 people. So everyone will get INR 100. Effectively each individual is paying INR 900. The same process will occur every month. The lowest bidder will grasp the money, the organizer will get his profit and the rest profits will be divided among all the investors. One thing you should perceive is that the last person will get all the money except organizer fee cause there will be no one else to bid. So the last person will get INR 19,000 at the end. Are you trying to find out the returns he got out of the entire deal? It’s easy. Just calculate how much lower bids were every month and organizer fees. Suppose the bids and charges are low. Then the person will make more money at the cost of other conditions.
We think you got the working principles of chit funds. There are numerous versions of chit funds, but the basic models are identical.
Trusted and distrusted chit funds & some pros and cons
We are going to answer your most supreme question “should I invest in chit funds?” Well, let you know that chit funds are not investment commodities to invest. From its business model, you can easily perceive that chit funds are devised for the needful people who need money immediately for some big expenditure. Chit funds are exclusively for those people who won’t be able to get loans from banks. But we would recommend you to be enlightened because there are too many chit funds which will gather all the money from the investors and run away with it. You can invest to chit fund only if all the investors of the chit fund are known to each other appropriately. So the trust level will be high. For instance, you can do it with your good friends or colleagues at your office, whom you can trust blindly. But if you can take a loan from a bank, then there is no need of chit funds.
You will notice father, grandfather, and housewives from the groups of friends in trivial towns. Few people from our audience might have experienced their fathers who were used to get immense cash at the time of requirement from those networks.
Well, there are definitely some cons because avidity has no restriction. The model which was designed to help each other under a trusted network is now transformed into a business. Furthermore, too many people have begun opening chit fund shops. They don’t have any established business model; they just become the chief organizer and embezzle the organizer fee. Many investors have also started investing their diligently earned money after noticing the high returns. Most of those chit fund startup companies are frauds. They just collect all your money and run away with it. In most of the states, chit funds are modulated by Central Chit Funds Act, 1982 and they also appear under the purview of the state governments. Keep it in your mind that RBI has no responsibility in regulating them. After all, you must know that it is too easy to scam in India.
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Can you imagine that 5-10% families in south India are connected with chit funds? For instance – The family’s share engaging in chit funds enlarged by 9% in Andhra Pradesh, 89% in Delhi, 15% in Tamil Nadu, and 4% in Kerala between 2003 and 2006.
According to IFMR, chit funds entice most of the people in smaller towns because of its availability of painless credit and lucidity of chit funds. In small towns, banks don’t allow poor people to lend money and their beliefs go to the chit funds as the painless way to get a loan even at a high cost. You can also research on your own. So all the south India and Delhi have inundated with thousands of chit fund companies and their outreach is more than your thinking.
Should you go with chit funds?
After all, the most important question is should you invest in chit funds? Well, we won’t suggest you investing in chit funds until the group are formed by your trusted friends and relatives. People from smaller towns can go for chit funds if there is no other option available. Ultimately, chit funds are not appropriate for investing your earned money. We would recommend you to evade it until you are ready to take a big risk.
You can always comment below on your experience about chit funds. Share both good and bad experiences with us.