Please read the first part for continuity.
The chit funds are used mainly for the purposes of savings and loan.
The percentage of people using the chit fund as savings is less and as we saw earlier it does not offer any benefit only increased risk of loss of capital. Majority of the people use chit fund for loan purposes. This amount is normally used for buying jewellery , major house hold expenditure or to cover the short fall in the big ticket expenditure like marriage etc. There is feeling among such people is that the chit fund comes with no interest whereas if they avail loan they may have to pay the interest and it is an extra burden.
In this article we will just see whether it is wiser to go for loan from the bank or to opt for a chit as is done by many people.
In continuation of our last example with a chit amount of Rs 1.00 lakh we will see what will be the net gain/loss.
Normally in all such chit fund, the organizer/owner of the fund takes the first month amount without any auction and only from the second month it is available for auction. In the initial months the demand will be more and the discounted amount may go up to 40000 to 50000. We will take a realistic figure of Rs.30000 and if a person discounts Rs.30000, he will get a sum of Rs.70000. Then he continues pay the sum Rs.2500 every month till the end. As we saw earlier if the chit fund precloses before say 05 months the gain will be Rs.2500*05 = 12500 Finally his net loss/interest will be as follows
| amount | month | total |
total paid | 2500 | 35 | 87500 |
amount received | (by withdrawal from chit) |
| 70000 |
loss/interest |
|
| 17500 |
So he finally he pays a excess amount of Rs.17500 for the withdrawn amount of Rs.70000.
Now we will see what happens if he opts for a loan from bank. Normally these R&D organization have their own bankers for bank transactions and the employees salaries are also dispersed through these banks. These bank will lend at lower rate of interest than the market rates since they can recover their loan amount through the office.
Suppose if a person opts for a personal loan for the same amount of Rs.70000 at a interest of 10.5 % (prevalent rate ) his EMI for the loan amount will be Rs 2275 for a three year period. Then his net loss/interest will be
| amount | month | total |
total paid (EMI) | 2275 | 36 | 81900 |
amount received | (by loan) |
| 70000 |
loss/interest |
|
| 11900 |
He finally incurs a excess amount of Rs.11900 only which is less than what he pays
in the chit. Even if we take the bank administrative /processing charges as 1% of loan amount still he gains. The loss is equated only if he auctions at Rs.20000 and get a sum of Rs.80000. Such a scenario is not possible and the demand will be always higher .Further chit is based on auction and someone also in need of money then the bid amount goes up and one will end up paying more. The difference persists even after many intervals say one or two years ,hence the notion that chit fund is free of any interest is not correct and actually one ends up paying more than availing a personal loan from the bank. Hence chit fund does not benefit common man either by way of savings or by loan.
I welcome your comments on the article.
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3 comments:
Good observation. However you have missed a point in your argument which is the 'dividends' that chit members earn every month (bid amount divided by the number of members). Given the dividend factor, the implicit interest rates of loan and savings are different from those you suggest. I have analyzed the interest rates for a few schemes and the average loan interest rate comes to 2-3% for 20 months on a reducing balance and savings interest rate come to 9-10% on the same basis. Your views on this is appreciated.
Although i acknowledge your efforts on the analysis, i would want to question your assumption of a 10.5% personal loan rate.Pls let me know which bank offers at that rate at a reducing rate.Also i seems when you are talking of risk factor you are mentioning about unregistered chits, as the illustration does seem to be on unregistered chits or the unorganised sector
dear pristy,
as i stated earlier the dividend is paid every month or retained and allowed to grow to become the full chit amount.For example the bid amount of Rs.30000 of the first month, Rs.20000 of second month and so on becomes Rs.1.00 lakh in another say 06 or 07 month it is auctioned along with regular chit.I have take this mehod which is more beneficail since it fetches dividend on dividend and accordingly the chit closes before 04 0r 05 months. Hence the net savings will be Rs.15000 and so on.This is more benefical than the dividend pay out and hence i have taken this method and if you see the example i have taken pay out as only 35 months. if it is dividend pay out as stated you will be paying for 40 months and not 35 months as shown in the example. whatever way you take it is not beneficial .
coming to the query of srinin,
If you refer to state bank of india web site,The personal loan against security like NSC,IVP etc the interest charged is 11.75% only and interest is charged on monthly rests.
Further i stated earlier that when salary disbursement is made through bank and your loan application is counterguarenteed by office for recovery of EMI, the bank further reduces the interest rate and it is charged at 11% now.(charged by SBI)
I have taken at 10.5 % ,since the news paper reports mentioned about reduction of 50 basis point for all loans by SBI, though i am yet to verify the same from the bank.
I am unable to comprehend the last line of your comments, the unorganised chits are more risker that what is stated in example and i have not taken into account the risk element. If the organiser is bankrupt oe vansihes one day your entire amount is gone and the discussion of interest difference becomes irrelavent. Apart from the above, even if some member of you chit fund fails to pay his subscription, you will be at great risk and at the mercy of the organiser.
My final suggestion is if you had read my earlier articles on GPF( If you have not read i request you to go through all), then the bank loan, chit fund etc are not necessary and it will make finanicl sense to make good use of GPF.
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