By Sudhinam ChitsPublished Updated 9 min read
People usually arrive at a chit having already half-decided between two other things: a recurring deposit, because they want to save, or a personal loan, because they need money now. A chit is both, and that is the whole difficulty in comparing it.
Ask what you actually need — a way to save you will keep to, or money sooner than you can save it — and then ask which instrument gives you that at the lowest cost in the months you care about. A chit often wins on both counts, and sometimes on neither.
What each one is actually for
A recurring deposit is a commitment to save. You pay a fixed amount for a fixed period and receive it back with interest at the end. It is simple, safe and inflexible: the money is not available to you in the middle without breaking the deposit.
A personal loan is the opposite shape. You receive the money at the start and pay it back with interest over a period. It is flexible about timing and expensive about cost, and the total you repay is knowable on the day you sign.
A chit is both at once. Every member pays in every period, and every period one member takes the pot. If you take it early you have effectively borrowed; if you take it late you have effectively saved. Nobody decides which one you are until the auction does.
The cost, and where it shows up
In a recurring deposit the cost is opportunity: your money is locked away and earning a stated rate. In a loan the cost is interest, plus fees, and it is paid by you to a lender.
In a chit the cost is the discount you bid, and the interesting part is where it goes. It is not paid to the company — it is paid to the other members, minus the foreman's commission. A member who takes the pot in month three is paying the members who wait, and a member who waits is being paid by the members who did not.
That is why comparing a chit's cost with a loan's interest rate is not straightforward. On our standard example, a member taking ₹75,000 in month three against a ₹1,00,000 chit has given up ₹25,000, of which ₹20,000 came back to the group. Whether that is dear or cheap depends entirely on what the same money would have cost from a lender over the same seventeen months.
- Recurring deposit: cost is illiquidity, benefit is a known rate
- Personal loan: cost is interest and fees, paid to a lender
- Chit: cost is the discount, paid mostly to the other members
When a recurring deposit is the better answer
If you genuinely only want to save, have no foreseeable need for the money before the end of the term, and would be distressed by any uncertainty about the amount you receive, a recurring deposit is the cleaner instrument. It is a promise with a number on it.
It is also the better answer for somebody who would find the auction stressful. A chit asks you to make a judgement every month about whether to bid, and although the honest answer for most members is "not this month", some people find the standing question uncomfortable.
Deposits with banks in India also sit inside a deposit-insurance framework, which is a protection a chit does not have and does not pretend to have. Anyone weighing the two should know that the safety of a chit rests on its registration, its agreement and its foreman rather than on an insurance scheme.Sources for this passage: Reserve Bank of India
When a loan is the better answer
If you need a specific amount on a specific date and cannot risk not getting it, borrow. A chit gives you the pot when you win the auction, and winning depends on other members. Membership is not a credit line.
A loan is also better when the amount you need is far larger than any chit you could sustain the instalments on. Choosing a chit that is too big to keep up with, in order to reach a lump sum, is the most common way for a member to come to grief — and it damages the other nineteen people as well.
And a loan is better when the timing is immovable. A chit's auction happens on the chit's schedule, not on yours.
When a chit is the better answer
When you want to save but know you may need access, and you can live with the access being probable rather than guaranteed. That combination is common and is served badly by both of the alternatives.
When your income arrives in a rhythm that does not suit monthly instruments. Daily and weekly collection is something a chit does naturally and a bank product generally does not, and for a household with daily takings that difference decides whether saving happens at all.
And when you would like the cost of somebody else's urgency to come back to you. In a chit, the months you do not need money are the months you are being paid a dividend by the member who does. There is no equivalent to that in a deposit.
A fair way to compare them
Write down the amount and the date you need it, if there is one. Write down the instalment you are confident of in a bad month. Then check three things for each instrument: what you pay in total, what you receive and when, and what happens if you cannot pay one period.
That last question is the one people skip and the one that decides how it feels a year in. A deposit broken early loses interest; a loan missed incurs charges and follows your record; a chit missed affects nineteen other members and is governed by the default clause in the agreement.
None of the three is better in general. They are different shapes, and the right one is the shape of your actual problem.