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How Chit Funds Works

Let us discuss, how Chit Fund works, with an example of 5 lakh Chit Value for 50 months (Called Chit Group)
  • Chit Value (Chit Amount) = Rs.5 lakh (10K x 50)
  • Duration = 50 months
  • Members = 50 (No of Months & No of members should be equal)
Let us first discuss, how Foreman is creating a Chit group.
  • Foreman must have applied to Registrar of Chits for Prior Sanction Order, along with Security Deposit equivalent to Chit Value (in the above case Rs.5 lakh) and required forms/documents including net worth statement. Chit agreement terms & conditions should also be accepted by Registrar of Chits
  • ONLY after Receipt of Prior Sanction, Foreman can start sourcing the business. Also, after joining all the members of the Chit group, has to file/register each Chit Agreements with the Registrar.
Let us now learn the activities after getting Prior Sanction Order from Government.
  • The contribution in this case would be initially Rs.10k per month per member- Called Instalment(subscription).
  • In the first month, the collection would, therefore, be Rs.10k multiplied by the number of members i.e. Rs.5 lakh
  • Now the collected amount will be given to one of the members through a process called auction(bidding) to identify who offers the highest discount. He is called “Highest Bidder/Prized Subscriber”.
  • 40% is the maximum discount any one can quote (as per Law)
  • Let us assume in the given example, auction confirmed at 30% discount. (Discount amount is Rs.1.5 lakh)
  • So, out of Rs.5 lakh pooled, Rs. 3.5 lac goes to the highest bidder (Prized Subscriber), Rs. 25000(5% of Rs. 5 lac) goes to Foreman(company) and the balance Rs.1.25 lac will be equally distributed to all the 50 members.
  • Each member will get Rs.2500 (125000/50) as his income which is called Dividend & the same will be credited to his Chit account.
  • So next month, he will have to pay only Rs.7500(10000-2500) instead of 10k.
See the below pictorial representation of above case for more clarity