Holding

The Chit Funds Act, 1982 is a valid exercise of Parliament’s power under Entry 7 of List III, and its provisions are regulatory, not violative of Article 19(1)(g).

Summary

The Supreme Court examined the constitutional validity of the Chit Funds Act, 1982, challenged by various chit fund companies and individuals on the grounds that it infringed their right to carry on business under Article 19(1)(g) and that Parliament lacked legislative competence, alleging the Act dealt with money‑lending falling under State List Entry 30. The Court held that the pith and substance of the Act is the regulation of a special form of contract between subscribers and a foreman, which squarely falls within Entry 7 of List III of the Seventh Schedule, making Parliament competent to enact it. The contested provisions (e.g., Sections 4(3)(b), 6(3), 9(1), 12, 13, 16(2), 16(3), 17(1), 20, 21(1)(a‑c), 25, 48) were deemed regulatory measures aimed at protecting subscribers and not unreasonable restrictions on trade, thus not violative of Article 19(1)(g). Consequently, all appeals and writ petitions were dismissed with costs.

Issues considered

The legislative competence of Parliament to enact the Chit Funds Act, 1982 under Entry 7 of List III versus the claim that it falls under money‑lending (Entry 30, List II).
Whether the provisions of the Act infringe the right to carry on any trade, business, or profession guaranteed by Article 19(1)(g) of the Constitution.
The validity of specific sections of the Act: 4(3)(b), 6(3), 9(1), 12, 13, 16(2), 16(3), 17(1), 20, 21(1)(a‑c), 25 and 48.
The nature of chit transactions: whether they constitute money‑lending or a special contract.
The reasonableness of regulatory restrictions such as discount ceiling, aggregate chit limits, and prohibition on other businesses.

Legislation cited

Banking Regulation Act, 1949s. Section 8
Chit Funds Act, 1982s. 12, s. 13, s. 16(2), s. 16(3), s. 17(1), s. 20, s. 21(1)(a), s. 21(1)(b), s. 21(1)(c), s. 25, s. 2(b), s. 2(c), s. 2(d), s. 2(e), s. 2(j), s. 3, s. 4(3)(b), s. 48, s. 59, s. 6(3), s. 9(1)
Companies Act, 1956s. Section 58A
Constitution of Indias. Article 19(1)(g), s. Entry 30 of List II (State List), s. Entry 7 of List III (Concurrent List)
Reserve Bank of India Act, 1934s. Section 45K, s. Section 45L, s. Section 45M, s. Section 45S

Subjects

Chit Funds Actlegislative competenceArticle 19(1)(g)special contractregulatory legislationfinancial consumer protectiondiscount ceilingaggregate chit limitforeman dutiesconstitutional validity

Judgment

A SHRIRAM CHITS AND INVESTMENT (P) LTD.
v.
UNION OF INDIA AND ORS.
JULY 13, 1993
• [J.S. VERMA, YOGESHWAR DAYAL AND
B N. VENKATACHALA, JJ)

Chit Funds Act, 1982 :

Sections 2(b ), 2(c), 2(d), 2(e), 2(j) and 6-Constitutionol validity of the
Act-Legislative competence of Parliament to enact the Act-Held:
C Valid-Predominant purpose of the Act is to regulate the chit and control r'
activities of the foreman-Chit Fund transaction not some as money-Lend-
ing-Legislation squarely foils within Entry 7 of List III of Schedule VII of
the Constitutiorr-Hence Parliament competent to enact the legi.slotion-Chit
of agreement-Nature of
D 4(3)(b), 6(3), 9(1), 12, 13, 16(2), 17(1), 20, 21(1)(0), 21(1)(b),
21(1)(c), 25 and 48-Constitutionol validity of-Restrictions on Chit busi-
ness-Whether violative of Alticle 19( l)(g)-Held: Provisions ore merely
regulatory in nature and safeguard the interest of subscribers-Hence not
violative.
E
Constitution of India, 1950:

Article 19(1)(g) and Entry 7 of List III of Schedule VII....:.Chit Funds
Act, 1982 and certain provisions thereof-Validity of

·F On the recommendations of various Expert Bodies, Parliament
enacted the Chit Fund Act, 1982, regulating the Chit Funds business. The
Act was brought into force in various States on different dates.

Consequent on the coming into force of the Act in the State of
Karnataka, on 2nd January, 1984 the Appellant-Companies were asked for_
G the State to comply with the requirements of the Act. Therefore, they filed
writ petitions before the High Court complaining of violation of their
.constitntional rights to carry on the Chit Fund business and challenging
the vires of the Act. Accepting the contention of the Union of India that
the legislation in question fell within Entry 7 of List ill (Concurrent List)
H of Seventh Schedule of the Constitution oflndia, the High Court dismissed
54
SHRIRAM CHITS v. U.0.1. 55
the writ petitions . A
.JI.
The appellants/Petitoners, Public/Private Limited Companies incor-
porated under Companies Act, 1956/Proprietory or Partnership con-
cerns/Individual organisers filed appeals and writ petitions before this
Court, challenging vires of the various provisions, and also the legislative B
competence of Parliament to enact the Act. It was contended that the
Parliament had no legislative competence on the subject matter as the Act
dealt with money-lending and the same fell within Entry 30 of List II (State
List) of VII Schedule of the Constitution, that Sections 4(3)(b), 6(3), 9(1),
12, 13, 16(2), 16(3),.17(1), 20, 21(1)(a), 21(l)(b), 2l(l)(c), 25 and 48 were
violative of Article 19(1) (g) of the Constitution; that their Companies were C
registered under the Companies Act and the Companies Act provided
sufficient regulatory meas,ilres over their busines by prescribing provisions
for running the day-to-day business through Board of Directors, who were
responsible to the shareholders, maintenance of various statutory returns
which had to be submitted to the Registrar of Companies from time to D
time for enabling him to have an effective control over the business of the
appellants/petitions and annual statutory audit proceeded by internal
audits; and, therefore, an additional control by the Registrar of Societies
under the Act made a serious inroad into their rights to carry on their
business, that the provisions of Section 3 of the Act had an overriding.
effect and imposed unreasonable restrictions on the existing rights of the E
appellants/petitioners to carry on chit fund business, that the. ceiling on
the discount provided in Section 6(3) was highly arbitrary aud imposed an
unreasonable restriction on the business of the petitioners, that under
Section 13 different criteria had been fixed for chit business for individual
firms on the one had, and co-operative societies and companies on the p
other, whereas in the case of individuals, the maximum permissible chit
business w.is Rs.25,000, in the case of firms for each partner it was Rs.
25,000 subject to the limit of rupees one lakh; and in the case of companies,
the maximum business was linked with its 'net owned funds' which had
been defined in the explanation thereto, that there was· no provision in
Section 20 of the Act to pay interest to the Foreman on the bank G
deposits/Government or approved securities that he was required to keep
in the name of the Registrar of Chits; that in law, the beneficial owner
would be entitled to the refund of the securities/cash deposited llith the
Registrar or with the Bank as also the accrued interest thereon, if any, and
undrawn, on the Registrar being satisfied that there was no outstanding H
56 SUPREME COURT REPORTS (1993] SUPP. I S.C.R.

A amount payable to the subscribers; and that when there was no liablity to
the subscribers, the registrar was not entitled to retain the accrued interest
or benefits accrued to the securities.

It was submitted on behalf of the Union of India that it was found
that some of the Companies which were carrying on chit business in
B association with other businesses had diverted chit funds by way of advan·
ces to allied firms of the foreman or financing activities unconnected with
chit business; many of those advances had become irrecoverable which, in
turn, affected the liquidity of the chit fund companies and as a result, the
chit fund companies failed lo pay the dues to the subscribers; some of the
C companies had utilised the funds for shipping business, producing
cinemas and also utilised the funds for venturing into fields with high
degree of risk; some of those ventures had flopped, and the chit fund
companies, had come to grief and conset1uently defaulted in the payment
of dues to the subscribers i.e. subscribers were left high and dry to suffer
in silence in view of the prohibitive cost and time consuming nature of
D litigations; in regard to policy guideline for exemption i.e. permission to
carry on other business, the highest authority in Administration had been
given the power to determine and the guidelines, of course, or' 'public
interest' and 'the interest of the subscribers to the chit'; the provisions of
the Act, gave sufficient guidelines to ensure subscribers' interest; Section
E 12, therefore, was again regulatory and was not hit by Article 19(1)(g) of
the Constitution, and that the Reserve Bank of India had advised the State
Governments to amend their Chit Rules stipulating payment of interest
accrued on the securities/ Deposits remaining unpaid to the foreman while
releasing the securities, vide Circular of 28th February, 1990.

F Dismissing the appeals and writ petitions, this Court

HELD: 1.1 The pith and substance of the Chit Funds Act, 1982 is
that it provides for a special contract and thus squarely falls within Entry
7 of List III of Schedule VII, and is within the legislative competence of
G the Parliament. [80-C] '-
°l.2. Section 6 of the Act provides that the agreement should be signed
by each of the subscribers or by any person authorised by him in writing and
the foreman and attested by at least two witnesses. TI1e particulars that have
to be stated in the said agreement have also been prnvided in the Section.
H This clearly shows that a contract has to be entered into between the
SHRIRAM CHITS v. U.0.1. 57

subscribers and the foreman and in view of the definitions provided in A
Sections 2(b), 2(c), 2(e) and 2(j) enforceable contract comes into existence
and the Act provides how the contract has to be implemented and acted
upon by the parties to the contract. Therefore, it is a special form of contract
contemplated by Entry 7 of List III of Vllth Schedule of the Constition of
India and it cannot be termed as money lending business. [79-E-G]
B
13. The foreman does not lend his money to any of the subscribers.
He acts only as person to bring together the subscribers and certain obliga-
tions are cast upon him with a view to protect the subscribers from the
mischief and fraud committed by the foreman in view of his position. The
amounts are paid to the subscribers as per the chit and in accordance with c
the provisions of Act. It will not be correct to state that each subscriber
lends money to the person who gets chit earlier. It cannot also be construed
that the person who gets chit later should be treated as the money lender.
The agreement between the parties that is entered as per Section 6 of the
Act, only provides for distribution of the chit amount. This agreement has
to be treated as contract between the subscribers and the foreman and it is D
the foreman who brings the subscribers together and therefore, the Act
~
provided for payment of commission for the services rendered by the
foreman as he does not lend money belonging to him. The dominant pur-
pose of the Act is to regulate the chit and control the activity of the foreman
and protect the interests of the subscribers. (79-G-H; 80-A-C]
E
1.4. Conventional chits are also matter of contract with an added
element of chance of draw of lot to choose the successful bidder. The prized
chits are chits with an element of draw of luck. Otherwise prized chits and
conventional chits are forms of contract and arise out of contracts only.
[84-CJ F
Srinivasa Enterprises and Ors. v. Union of India etc., [1981] 1 SCR
801; relied on.

Chockanathan Chit Funds & Finance (P) Ltd., Pondicheny & Ors. v.
.I Union Territory of Pondicheny & Or.<., AIR (1972) Madras 99; Janardhana
Malian & 01>. v. Gangadharan & On., AIR (1983) Kerala 178; P.K Aclmtan G
v. State Bank of Travancore, Calicut, AIR (1975) Kerala 47; Ramanatha lyyar
v. Narayana Swami, AIR (1937) Madras 364; Dhoosa Narasimloo v. Ye/ala
Rajanna & Anr., ILR (1958) Andhra Pradesh 49; Raghavan v. Annugham,
(1934) 68 MW 283; Timmarsa Pai v. Subba Rao, AIR (1928) Madras 256;
K.P. Subbarama Sastri & Ors: v. K.S. Raghavan & Ors., [1987] 2 SCC 424; H
58 SUPREME COURT REPORTS (1993] SUPP. 1 S.C.R.

A Mayavaram Finance Corporation Ltd. v. Reserve Bank of India, (1971) 41
Company Cases 890; A.S.P. Aiyar & Anr. v. Reserve bank of India & Anr.,
(1984) 56 Company Cases 352 and P. Subramaniam and Anr. v. Reserve
Bank of India and Ors., (1985) 57 Company Cases 755, referred to.

S.L.P. (Civil) No. 4015 of 1985, decided on 20th August, 1990 and
B Civil Appeal No. 2194 of 1985, decided on 16th January, 1990; referred to.

2.1. Section 3 of the Act which overrides other laws, memorandum or
articles of association or bye-laws or any agreement concerning the chit
fund business, as a result, to the extent to which it is repugnant to the
C provisions of this Act, become void. The Act itself is one of the socio-
economic legislations which had been enacted primarily and predominantly
to safeguard the interests of the chit subscribers who are gnillible and
unwary public and who have been subjected to exploitation by chit foreman.
The Act is intended to regulate and to bring in financial discipline in the chit
business, as the foremen deal in and dabble with the funds of the subscrib-
D ing public. The banks, financial institutions and non-banking financial
institntions, who accept deposits or deal with moneys of the public are
disciplined and regulated by the various legislations. Section 45 of Chapter
III C of the Reserve Bank of India Act deals with acceptance of deposits
from the public by unincorporated bodies such as individuals, firms and
E associations of persons. Acceptance of deposits by non-banking non-finan·
cial companies, like trading and manufacturing companies, are regulated
by the Companies (Acceptance of Deposits) Rules, 1975 framed under
Section SSA of the Companies Act, 1956. [88-H; 89-A-C; 89-F)

2.2. The Act is not a hasty legislation. It was conceived and legislated
F after a lot of deliberations and discussions and is the outcome of the views
of the Expert Committees and Select Committees and prevalent State
legislations on chits were also taken into account. [90-G]

3.1. All the provisions of Act under challenge are in the interest of the
G subscribers and are very material. In any case, if the order is unreasonable,
a party has a right of appeal under Section 59 of the Act. [99-G)

3.2. Section 4(1) contemplates that no chit shall be commenced
without the previous sanction of the State Government. Sub-section (3)
gives guidance to the State Government for granting and/or refusing to
H grant previous sanction. Clause (b) like clause (a) ·gives gnidance to the
SHRIRAM CHITS v. U.0.1. 59

State authorities conferred on them discretion to grant or refuse to grant A
/
. the sanction. This provision is discretionary and merely gives guidelines
to grant or refuse to grant sanction as per various clauses and is
regulatory in nature and not violative of Article 19(1)(g) of the Constitu-
tion. (91-F-G]

33. The ceiling of discount laid down in Section 6(3) is on the higher B
side and the subscribers, who are in n~ed of money, per force, have to give
the discount to that extent and cannot be expected to take care of their
own interest when they bid at the time of chit auction. The restriction is
neither arbitrary nor unreasonable. (92-B]

3.4. Section 9(1) of the Act provic!es for commecement of chit. It
c
contemplates that the foreman shall, after all the tickets specified in the
chit agreement are fully subscribed, file a declaration to that effect with
the Registrar. This provision too is merely regulatory and is in the interest
of the subscribers and cannot seriously be chalfonged under the provisions
of Article 19(1) (g) of the Constitution of India. (92-C] D

3.5. Section 12 creates a bar for a Company carrying on chit to desist
from carrying on any other business. Similar provisions in regard to the
ban are contained in Section 8 of the Banking Regulation Act, 1949 which
restrain the banks from carrying on any other business. Sub-section (1) of E
Section 12 of the Act, however, provides that 'with the general or special
permission of the State Government' the chit company can carry on any
business other than the chit business. This section is intended to leave
discretion with the State Government to decide whether or not to allow the
chit company to do any other business. (92-H; 93-A]
F
3.6. The main purpose for laying down the ceiling on the limited
amounts of chits that may be conducted by the foreman, in Section 13, is
to ensure that the foreman does not overtrade to the deteriment of the chit
subscribers and at the same time to see that the foreman has a sufficient
.J stake in the chit business. It is in the context of these factors that the
aggregate chit fund which could be considered as reasonable in respect of G
the chit conductecd by individual or partnership concerns and as a mul-
tiple of'net owned funds' in the case oflimited companies, came to be fixed.
In the case of individuals and partnership concerns or association of
individuals, it is not unlikely that the individuals/partnership firms etc.,
may do other types of business and divert portion of chit business funds H
60 SUPREME COURT REPORTS [1993] SUPP. 1 S.C.R.

A for such business. Moreover, it is also not feasible to lay down the ag-
gregate chit amount of chits to be conducted by such bodies with reference
to their net means or individuals worth since it would be very difficult to
assess and monitor such net w11rth and even if such assessment could be
made, the position could change rapidly. On the other hand, in the case of
companies it is not difficult to arrive at the net worth having regard to the
B balance sheet position of the company. Hence it was thought desirable to
fix the aggregate chit amount of chits which may be conducted by the
limited companies with reference to their net owned funds while in the case
of individuals, partnership firms etc., the amounts were fixed in absolute
terms. (94-F; 95-A-B]
c
3.7. As regards the fixing of limit of Rs.25,000 in the case of in-
dividual and Rs.1 lakh in the case of a firm having not less than four
partners, two of the Committees had recommended that only public
limited companies should be allowed to do chit business. Another Com-
D mittee, however, suggested that individuals/sole proprietorship con-
cerns/partnership firms may be allowed to conduct chit business on a
limited scale. In the light of this it was thought fit to allow in-
dividuals/partnership firms to do chit business in a limited way. Unlike
companies, the individuals and partners are not precluded from carrying
on other business which will supplement their income. Again the risk in
E the case of partnership firms and individuals is in a way minimised as the
chit fund business in these cases can be set out in absolute term. The risk
factor related to the amounts involved and the vulnerability of in-
dividuals/partners disappearing from the mid-stream of the business
would be to the detriment of the subscribers, more the quantum of amount,
F greater the sufferenace of the subscribers in case there were to be a
, collapse of chit funds business of the individuals and partnership firms.
The offences under the Act, in terms of Section 81, are compoundable. The
limits on the aggregate amount of chits put by Section 13 are not violative
of Article 19(1)(g) of the Constitution. In any case, they are in the interests
of the subscribers. There is no doubt that in view of the intlation in the
G country, the appropriate authorities, in case a dc~and is so raised, from
time to tin1e increase the limits. However, it is not necessary to give any
direction in this behalf. [95-C-E; 96-A]

3.8. The provisions in Section 16(2), 16(3) and 17(1) are again
H regulatory and are with a view to avoid fraud on the subscribers by delying
SHRIRAM CHITS "- U.O.l. 61

their payments. [96-G] A
3.9. In view of the Circular issued by the Reserve Bank of India
advising the State Governments to amend their· Chit Rules stipulating
payment of interest accrued on the securities remaining unpaid to the
foreman \l'hile releasing the securities, i:io further discussion is required
in regard to the objection of the appellants/petitioners on non-payment of B
interest. [97-C; 98-F]

3.10. There is reason for the appellants/petitioners to have any
objection to clause (a) or (c) of Section 21. As regards maximum commis-
sion of 5% of the Chit amount, the objection is not legitimate because any C
foreman is not debarred from doing any other business and he is not
supposed to incur the expenditure at the cost of the subscribers and then
claim higher commission. Expert Bodies have only recommended two per
cent commission whereas the Act provided for 5 per cent commission.
There is nothing unreasonable in respect of the commission. (99-D]
D
3.11. Again objection.to Section 25 regarding the liability of foreman
to subscribers ·is not acceptable. This is a normal duty of the foreman
which has been converted into a statutory duty. There is nothing un-
reasonable. The provision is in subscribers' interest. [99-E]
E
3.12. The objection to the vires of Section 48 as to the circumstances
in which chits are to be wound up cannot be accepted. (99-F]

CIVIL APPELLATE JURISDICTION : Civil Appeal No. 448 of
1989.
F
From the Judgment and Order dated 29.4.1988 of the Karnataka
High Court in W.P No. 1932 of 1986.

(With C.A. Nos.474/89, 466-473/89, W.P. (C) Nos.18/91, 968/90, C.A.
No.449-65/89, W.P. (CJ Nos.5176-80/85, 11922/85, 1133/91, 1116/91, 322/92, G
323/92, 1340/90, 777/89, S.L.P. (C) No.8882- 8907/89, I.A No.1-26/89 in
W.P. (C) No.1092/91, 465/89, I.A. No.1/89, in C.A.448/89, W.P. (C)
Nos.511/89 and 3~7/89 and W.P_ (C) No.362/89)

R.N. Narasimhamurthy and R.P. Wadhwani for the Appellants in
C.A. Nos.449-65 and for the Petitioners in W.P. 1092 of 1991. H
62 SUPREME COURT REPORTS [19931SUPP.1 S.C.R.

· A Raju Ramachan<lran and R.P. W<t<lhwani for the Appellants in C.A.
No.474 of 1989.

R.P. Wadhwani for the Petitioners in W.P. No.18/91, 968/90, 1133/91,
1116/91, 322/92, 323/92, 777/89 and for the petitioners in SLP (C) Nos.
8882-8907/89.
B
P. Chidambaram, Vijay Narayan and Ms. Seita Vaidialingarn for the
Petitioner in W.P. No. 465 of 1989.

Vijay Narayan and Ms. Seita Vaidialingam for the Petitioner in W.P.
No. 397 of 1989.
c
P.S. Poti, Ms. Malini Poduwal and K.M.K. Nair for the W.P. Nos.
5176-80/85.

T.S. Krishnamurti Iyer and Rama Subrarnaniam, K. Ram Kumar and
S. Prasad for the Appellants CA No. 448/89 and for the Petitioner in W.P.
D No.1340 of 1990.

K. Chandramouli arid K.K. Mani for the Intervener in C.A. No.448
of 1989 and for the petitioner in W.P. No.511/89.

A.S. Nambiar, P. Parameswaran, A. Subba Rao, M. Veerappa and
E K.H. Nobin Singh for the Respondents.

The Judgment of the Court was delivered by

YOGESWAR DAYAL, J. This order will dispuse of Civil Appeal
No.448 of 1989 and the batch coupled with Writ Petition No.1092 of 1991
F and the batch. Civil Appeal No.448 of 1989 arises from the judgment of
the Karnataka High Court at Bangalore dated 29th April, 1989 passed in
Writ Petition Nos.19321/86, 17110/84, etc.

The above appeals and writ petitions involve challenge to constitu-
G tional validity of the Chit Funds Act, 1982 (Central Act No.40 of 1982) \.
(hereinafter called as 'the Act' or 'the impugned Act').

The various appellants/petitioners are either Public/Private Limited
Companies incorporated under the Companies Act, 1956 or proprietary or
partnership concerns or individual organisers. According to Section 1(3)
H 9f the Act is will come into force on such date as the Central Government
SHRIRAM CHITS "· U.0.1. IDAYAL, J.] .63

may by Notification in the Official Gazette, appoint and different dated•may A
be appointed for different States. In all these matters, apart from challenge
to the vires of various provisions of the Act, the legislative competence of
Parli3ment, which enacted the Act, has also been challenged.

In karnataka the impugned Act came into force on 2nd January,
1984. There was no Act in this State for regulating Chit fund business and B
as a result, some of the Chit Fund Companies in Tamil Nadu, Kerala,
Maharashtra and Andhra Pradesh which came under their respective
regulatory measures shifted their business to Karnataka State and carried
on Chit fund business in that State without being hampered by the
regulatory measures of the respective encatments in such States. When the C
impugned Act was brought into force, the appellants were asked to comply
with a number of requirements under the Act by the State of Karnataka,
therefore, complaining of the violation of their constitutional rights to carry
on business, they had filed writ petitions challenging the vires of the Act.

D
The competence of the Parliament to enact the Prize Chits and
Money Circulation Schemes (Banning) Act, 1978 (Act 43 of 1978) came
up for consideration before this Court in Srinivasa Enterprises and others
v. Union of India etc., [1981] l SCR 801. This Court in the aforesaid case
held that having regard to pith and substance of that Act, it fell within
Entry 7 of List III and not in the ambit of Entry 34 of List II within the E
· State List. While dealing with the constitutional validity of banning private
prized chits, this court drew support from the reports of Expert Commit-
tees. In the circumstances, before going to the question of legislative
competence and reasonableness of the various provisions of the Act, it will
be useful to refer to the recommendations of various expert bodies who F
had occasion to examine the matter - The report of the Banking Commis-
sion prepared in the year 1972; report of the Study Group on Non-Banking
Financial Intermediaries (dated 10.8.1971} constituted by the Banking
Commission; the report of the Study Group of Non-Banking Companies
, headed by the Chairman J .S. Raj (otherwise known as Raj Committee)
dated 14.7.1975 and the report of the Select Committee of Parliament. G
These reports give us an insight into the origin of Chit fund business in this
country, the mechanism of Chit fund transcations, the benefits that accrued
to the needy public who are not in a position to avail themselves of the
credit facilities from the financing banks, th.e evifa that flow from such Chit
fund transacti~_ns on account of the unscrupulous and unethical methods H
64 SUPREME COURT REPORTS I1993] SUPP. 1 S.C.R.

A employed by persons who run and control Chit fund business and need for
the legislation in order lo protect the interests of the subscribers to the
Chitfunds from some of the unscrupulous promoters and foremen.

The first report dated 10th August, 1971 wt_, >uhmitted by the Study
Group of the Non-Banking Financial Jntermemaries appointed by the
B Banking Commission. Chapter 6 of this report is devoted to Chit Funds.
The introduction to this report is quoted in the judgment under appeal and
reads as follows:

"In this chapter it is proposed to study thw working and role of
c one of the oldest of the indigenous NBF!s, viz. Chit Funds. We
have, in particular, examined the role of chit funds as a saving and
lending institution. Our analysis and observations are based on
published material, data collected by the Resetve Bank of India,
memorada received from van·ous chit fund companies as well as
material submitted by the representatives of some of the leading chit
D fu11ds to the Banking Commission. The Annual reports of a few chit
fu11ds have also bee11 made use of The Study Group received in all
twelve memoranda (listed in Appendix II). The Banking Commis-
sion had issued a questionaire to commercial banks and the replies
received in response thereto pertaining to their chit fund business
E have been analysed and used for our discussion.

(emphasis supplied)

Paras 6.4 to 6.29 of the report deal with various aspects of Chit
fund business. Paras 6.2. and 6.3 of the report deserve to be
F excerpted since they tell us about the origin of this financial
institution in India. They read as:-

Chit Fund is perhaps the old<;st indigenous financial institution
in India. The origin of chitty or kuri or chit fund is traceable beyond
more than a century in the rural parts of Southern India. Peri-
G odically, a fixed measure of grain could be deposited with a trustee
'
and received back when sufficiently large quantity was collected.
The needy person was ascertained through draw of lots. The word
'chit'-suggests its origin. Chiemeans a W!itten note on a sarnll piece
of paper. Since the winner of the Chit amount was to be ascer-
H tained though draw of lots, it involved writig of names of eligible
SHRIRAMCHITS v. U.0.1.[DAYAL,J.] 65

members on separate chits, as in a lottery. The Scheme thus came A
to be known as 'chit funds'. Its equivalent in Malayalam 'kuri' is
derived from 'Kurippu' which is a synonym of chit.

The trustee's reputation for honesty attracted more savers to
him. In the earlier stages when the idea of modern banking had
not reached the people, chit fund institutios developed quickly and B
spontaneously. It was an expression of co-operative efforts of
nustering savings through instalments and advancing the pooled
savings as loan to the members with facilities of repayment in
instalments. With the growing importance of commerce and in-
dustry and the consequential rise in the population of towns and c
cities, chit fund was brought to the urban areas.

In paras 6.7, 6.8 and 6.9 the working of business chit is con-
sidered and we are concerned with this type of chit business. They
read as:-
D
In this case, there is a promoter called foreman who enrolls a
number of subscribers and draws up the terms and conditions of
the scheme in the form of an agreement. Every subscriber has to
pay his subscription in regular instal_ments. The foreman charges,
for his service, a co1nmission on which there is a ceiling fixed by E
law in some States. He also reserves the right to take the entire
chit amount at the first or second instalment as prize. Depending
on the terms of the agreement, a fixed amount is also sometime
set aside for distribqtion among the non-prized members. After
making provisioin for the above deductions, the balance is put to F
auction (except at the last nstalment) and given as prize to the
member who is prepared to forego the highest discount. The
amount of discount is distributed as dividend either among all the
members or only among the non-prized members. In some States
a ceiling has been fixed on the discount that a member can offer.
In case more than one person is prepared to offer the same G
discount or when there are no bidders, lets are drawn to choose
the prize winning member. The number of subscribers in a chit
series equals the number of instalments so that every member is
assured of the opportunity of getting the prize. Sometimes with a
view to catering to as many subscribers as possible, a chitty com- H
•
66 SUPREME COURT REPORTS [1993] SUPP.1 S.C.R.

A prises a series expressed in terms of a sub~division or fraction of
a full ticket (ticket means the share of a subscriber which entitles
the holder thereof to the prize amount at any one instalment). In
such cases the number of subscribers can exceed the number of
insalments. In some cases only auctions are held to determine the
prize winner while there are chit funds in which prize winning
B
tickets are determined both by lots and by auction.

The prize winner can get the prize only on furnishing security
acceptable to the foreman for the payment of the remaining
instalments. In the event of default by subscribers in payment of
c instalment" on due dates, panalties are imposed in various forms,
e.g., forfeiture of dividends or levy of penal interest.

The above are the essential features of a business chit scheme
although there are any number of variants. Chit fund can thus be
described as a mutual recurring deposit scheme under which every
D member is entitled to receive prize amount as loan from the chit
fund; for the last prize \\1.nner, however, the prize amount cannot
be considered as loan. Although no rate of interest is specifically
mentioned, the deductions on account of discount and. the
foreman's commission make the loan in a majority of the cases~- an
interest-b~aringone, the interest rate depening on the specific
E
terms and conditions under which the scheme operates. For the
foreman, however, no interest rate is involved on his 'loan'.

(/Paras 6.13 to 6.18 deal with the role of the foreman, his actions
legal and illegal and the risks and responsibilities in his intrepid
F role. They read as under :

At this stage it would be useful to study the foreman's role in
the chit transactions. Subject to law, he decides practically every-
thing about the chit - the nomber of members, the amount of
instalments, the chit amount, his commission, the instalment at
G
which he himself would remain the prize, the penalties to be
imposed on defaulting members, etc. It is easy for him to exercise
his powers because the number of subscribers is in many cases
large and they are usually scattered over many places.

H Some foremen, in addition to carrying on the business of chits,
SHRIRAMCHITS v. U.O.l.[DAYAL,J.] 67

also accept deposits from third parties. These arc utilised as A
working funds and lent at high rates of interest to subscribers and
perhaps to others. According to Reserve Bank survey, the amou.nt
of deposits of 106 reporting chit fund companies at the end of March,
1968, was about ]. 1 crores. In terms of Reserve Bank's directions,
a chit fund company cannot accept deposits repayable after a
B
period of less than 12 months from the date of receipt of such
deposits nor can the amount of such deposits exceed 25 per cent
of its paid-up capital and free reserves. It may be noted that the
subscriptions received from the members of chit funds in terms of
contract are not treated as 'deposits' for the purpose of Reserve
Bank's directions. Accoding to available information, one-third of C
the outstanding loans and advances as on 31st March 1967, given by
the foremen of JOO chit fund companies were personal loans; 27 per
cent were nieant for the conimerce sector and 15 per cent were
professional loans. 'Industry' and 'agriculture' got a negligible propor-
tion, these advances accounting respectively for 0.5. per cent and 0.1. D
per cent of the total.

The foreman derives his income in different ways, both legal
and illegal. In the former category can be included items such as
admission fee from members, penal interest or penalty fee from
defaulting members and forfeiture of their dividend, interest on E
loans to non-prized chit holders, fees for transfer of shares in the
chit, deduction from the subscription paid by a member who wants
to resign, dividends on the chit reserved for himself, -interest on
the chit prize taken without deduction, interest on the chit prize
which the prized member may not be in a position to collect F
immediately, and subscriptions paid by members who discountinue
in the middle of the scheme but do not care to claim refund.

The unscrupulous among the foremen reso1t to so many unfair
methods to secure illegal gains. A few of these methods are briefly G
mentioned below:

(i) Enrolement of fictious members to complete the required
nu.1nber of n1en1bers in a chit selies. If a real and needy non-prized
member is not able to come forward to offer a high discount at the H
68 SUPREME COURT REPORTS (1993] SUPP. 1 S.C.R.

A auction, one of these benanii n1en1bers is shown to get the prize
thereby dep1iving the real members of the opp01tunity, (ii) Similarly,
it is possible to e:iploit needy non-prized member or a new member
so that he gets the prize only at the maximum discount. (iii) The
p1ized member is supposed to get the amount soon after the draw or
auction is over of course 011 furnishing the secwity. But the foreman
B
adopts tacties·which delay the actual payment for a considerable
time, meanwhile he uses the money interest-free. If he succeeds in
delaying the payment till the succeeding draw, the earlier prize winner
is given the prize outof the collections of the succeeding draw. Thus,
one instalment is perpehtally in the hands of the foreman to be
c utilised in any way he likes.

The above are only examples to illustrate the way in which some
foremen maximise their profits. They do not take into account the
cases where the fore1nan and his associates disappearfron1 the scene
and are untraceable. The police have n1any such cases on their
D
record. During 1962-66, as many as 255 chitties collapsed in several
districts of Kera/a on account of such malpractices.

It may be noted that the foreman has to undertake some
responsibilities and risks. He is responsible for regular collection
E of subscriptions from a widely scattered body of members. He has
to conduct the draws or the auction and maintain accounts. He is
under obligation to pay the prize amount on the due date whether
or not all the members have paid their subscriptions. In case of
defaults, he had often to make good the deficit out of his own
F resources. If the prized member defaults in his instalments, litiga-
tion follows to recover the amount. If the defaulter is a non-prized
member, the foreman has to find out a suitable substitute or, in
the alternative , has to take over the chit himself and continue the
business. According to the memoranda submitted by some chit
funds to the banking Commission, the foreman requires finance
G from banks as well as moneylenders and others private sources.
Some companies have also pointed out that their profits are not
very large in relation to the risks involved. According to memoran-
da submitted to the Study Group, 15 to 18 per cent of the sub-
scribers fail to pay their subscriptions after getting the prize
H amount. (emphasis supplied)
SHRIRAM CHITS ,._ ll.O.L [DAY1V __ J.[ 69

Paras ti.23 to 6.34 deal with the pecuniary aspects of the Chit Fund A
from the point of vic\v ot lhc sub:;cribl:rs. Some basic issues
highlighted in the Report require to be noted. They are found in
paras 6.30 and 6.31. They read as:

As emphasised earlier, the rate of return on the savings of a
B
subscriber to a chit fund and the interest rate that is involved for
a subscriber joining the chitty as a borrower, v. ill vary according
1

to the terms and conditions of the chit fund. In fact, examples can
be worked out on the basis of certain assumptions where the rate
of return to prized subscribers al late stages will be quite high and
the interest rate involved for a prize winner will be comparatively C
low. The essential poit is that the rate of of interest involved in chit
funds is discriminatory and varies front person to person so that there
is an irrational distribution of gains and losses. Ordinarily, the niore
needy a person, the higher will be the discount that he l~·ould be
prepared to offer for winning a prize. Therefore, the n1ore ta:gent his D
need the higher th.e rate of interest that a bo"oiver has to pay.
Another point is that there arc institutions which offer savings
schemes which are superior to the one involved in a chit fund. The
savings and fixed deposits, recurring deposits, monthly income
deposits schemes, cash certificate schemes, annuity or retirement
schemes, insurance linked deposit schemes, small savings, provi- E
dent funds and insurance schemes) cash certificate schemes, an-
nuity or retirement schemes, insurance linked deposit schemes,
small savings, provident funds and insurance schemes have features
which are superior lo those in chit funds. The populaiity of chit
funds can be explained by the fact that a subscirber is entitled to F
bol70W fronz it. Also, 'ong standing social habits and the gaining
e/en1ent involved in the schenie, ivhich perhaps provided a1L added
attraction to son1e subscn.bers are also factors accounting for
popularity of this institution.

So far as the end-use of the prize is concerned, there are G
conflicting views. It would appear that the likelihood of productive
use of the prize money is small. A prospective producer would not
depend on the uncertainties involved in a chit fund. 17ie rates of
interest generally involved for a pn·ze ivinner in a chit fund are so
high that an inference can be dra1v~1 that the prize money is 1nostly H
70 SUPREME COURT REPORTS [1993} SUPP. 1 S.C.R.

A used for co11sun1ptio11 or speculative pu17Joses. Sonic pc1Jons join
chit funds and are prepared to pay high rates of imerest by way of
lmge discoum for tl1e pw]Jo~e of hoarding ce1tai11 scarce com-
·nrodities. 77iey are not only able to recoi er the interest but also ean1
1

a profit 011 account of the difference between tire relatively low price
at which they buy the goods and the high price at which they sell
B them later. (emphasis supplied)

The Study Group in paras 6.52 to 6.54 considered the legislative
measures to be introduced for eliminating the malpractices usually
prevelant in Chit Funds. It observed as foll.owes:
c
We considered the above two suggestions, viz., starting of chit
funds in the public sector and the commercial bank entering the
chit fund business with a view to eliminating, through competition,
the malpractices, usually prevelant in private chit funds. It may be
noticed _that most of the unhealthy practices arise fro the lack of
D
integrity of the foreman. It was, therefore, natural that the regulation
of chit fund business assumed high priority in the States where the
business is concertrated i.e., in the Southern States."

"At present State legislation regulates the running of chit funds
E in the areas where such legislation is in force. The Tamil Nadu •
Chit Funds Act of 1961, seeks to regulate the chit fund business
in the State of Tamil Nadu. With appropriate changes, this Act
was adopted, with effect from 15th July, 1964, in the Union Ter-
ritory of Delhi. The Union Territory of Pondicherry has the Pon-
F dicherry Chit funds Act, 1966, which came into force from [st
August, 1967. In Kerala, the Travancore Chitties Act of 1964, and
Cochin Kuris Regulations 1932, are in force in some areas of the
State. The question of introducing a uniform enactment in Kerala
has been under the consideration of the Government for some
time. Some States are in the process amending or enacting laws to
G regulate chit fund activity. In Andhra Pradesh a bill on the lines
of the legislation in the neighbouring State is under consideration.
Mysore and certain other State Government are also contemplat-
ing passing of legislation for regulating chltties. Punjab Govern-
ment is contemplating the starting of chit funds in the public sector
H on the lines of Kerala Government. In Uttar Pradesh, chit funds,
SHRIRAM CHITS 1·. U.O.l. [DAYAL,J.J 71

il1ttcries etc., arc rcgulatL:d by the provisions of the Manual of A
Government ()rdcrs. According to these regulations, publication
of advertisements in ne\vspapers, of any proposals regarding lot-
teries not authorised by the llovernment is an offence under the
Indian Penal Code. Also local authorities have been asked not to
accord sanction for holding lotteries nor should they authorise
advcrisements regarding such undertakings. B

The ohject of legislation is to regulate the conduct of chit funds
by requiring the foreman to obtain permission of competent
authoritie.s before a chit fund can be started, stipulating security
to be provided by the foreman to the Registrar, detailing his rights c
and obligations and providing for punishment for infringement of
law. Wherever legislation is in force, no foren1an can state a chit fund
until the Registrar is satisfied about the bye-laws of the Jund and the
security offered by the foreman." (emphasis supplied)

This report of the Study Group was incorporated in the report of the D
Banking Commission dated 31st January, 1972. The Banking Commission
again emphasised the need for legislation in para 17.43 of its report thus:-

'A few States have le!,>islation on chit funds, the object of which is
Io safeguard the interests of the members. The Commission feels E
that it fr essential to have a unifonn chit ftmd legislation applicable
to tire l-vhole country. Depending upon the constitutional position,
whether chit funds con1e under the Union list, Concu"ent list or the
State list, either an All- India Chit Fund Act 1nay be enacted or a
model law may be framed which may be adopted by all the States
with such modifications as may be necessaiy. It will be desirable to
F
provide in the legislation that only public limited Companies can 1w1
chit funds. Pending such uniform legislation, existing State laws
regulating chit funds registered within the State should be made
applicable to their branches in the States having no legislation. This
will essentially be an interim measure because only the members·· G
of those chit funds which are registered in State where chit fund
laws have been enacted will get protection." (emphasis sµpplied)

The report of the Banking Commission found favour in the report of
the Raj Committee on Non-Banking Companies in its report dated 14th H
72 SUPREME COURT REPORTS [1993) SUPP.1 S.C.R.

A July, 1975. The terms of reference of the Raj Committee may be noted lo
appreciate its recommendations regarding Chit business. They arc:

"I. To examine the relative provisions of the Reserve Bank of India
Act, 1934, the Non-Banking Financial Companies (Reserve Bank)
Directions, 1966 and the Miscellaneous Non-Banking Companies
B (Reserve Bank) Directions, 1973, with a view to assessing their
adequancy in regulating the conduct of business by non-banking
Companies covered by the said directions in the context of the
monetary and credit policies laid down by the Reserve Bank from
time to time; to suggest measures for further tightening up the
c provisions so as to ensure that the activities of such Companies, in
so far as they pertain to the acceptance of deposits, investments,
lending operations etc., suhserve the national interest and serve
more effectively as an adjunct to the regulation of the monetary
and credit policies of the country besides affording a degree of
D protection to the depositors' monies. In this connection, the Study
Group may examine and make recommendations for regulating the
conduct of the business of non-banking companies governed by
the above sets of directions generally, and in particular, in regard
to -
E
(a) the norms which may be adopted in respect of the capital
structure and debt-equity ratio that may be maintained by the
various classes of non-banking co1npanics covered by the said
directions;

F (b) the extent to which and the periods for which such com-
panies may borrow. by way of deposits/unsecured loans and the
distinctions, if any, to be made between public and priviate Com-
panies;

(c) the maintenance of cash reserves and/or a percentage of
G
their deposit liablities in the form of liquid assets by such Com-
panies.

(d) the norms which may be adopted in respect of the rates of
interest payable by such companies on their borrowings by way of
H deposits/unsecured loans and also those which may be charged on
SHRIRAMCHITS v. U.O.I.[DAYAL,J.] 73

loans and advances made b~~ them; A
( e) the extent to which any of the activities carried on by these
companies through their subsidiaries can or should he controlled;

(!) the need for the imposition of a ceiling on risk assets to be
acquired or loans to be granted by the companies; B

(g) the restrictions, if any, on the grant of loans to directors
and their friends and relations and companies in which they are
interested;

(h) the manner in which the loopholes, if any, in the existing C
directions taken advantage of by private limited companies in the
context of certain concessions enjoyed by _such companies under
the privisions of the Companies Act, 1956, could be plugged; and

(i) the need to empower the Bank to apply for compulsory D
winding up of non-banking financial companies under certain
circumstances.

II. To make recommendations on any other related topic which
the Study Group may consider germane to the subject matter of
the enquiry. E
The Committee discussed the terms of the reference with various
individuals of eminence and learned and also the representatives
of companies, Associations all. over India and in Bangalore."

During arguments we were referred to paras 6.17, 6.18 and 6.19 of F
the Raj Committee where the Raj Committee noticed the legal opinion as
to the competence of Parliament hich enactedthe chit legislation in view of
the provisions contained in Entry'7 of List III of Schedule VII of the
Constitution of India and observed as follows:-

"It will be seen from the foregoing that chit fund legislation has G
been enacted only in a few States/Union Territories. There is also
a diversity of the regulatory provisions made in the various enact-
ments. It is not, therefore, unlikely that unscrupulous promoters
or chit companies might exploit the situation by conducting chits
in such of the States as have no chit legislation or in States where H
74 SUPREME COURT REPORTS [1993] SUPP. 1 S.C.R.

A the provisions of such legislation are less rigorous. In fact, it was
brought to the notice of the Group during the course of its discussions
in New Del/ti that a number of chit fund companies had shifted their
registered offices from the Del/ti area to the nearby places in Haryana
(where there is no chit legislation) with a view to avoiding compliance
with the provisions of the Tamil Nadu Chit Funds Act, 1961 as
B
extended to the U11ion Territory of Delhi. In the circumsta11ces, the
need for enactment of a unif01111 legislation applicable to chit fund
institutions throughout the country cannot be underestimated.

In the context of the recommendations of the Banking Com-
c mission in· regard to regulating activities of non-banking financial
intermediaries, the Central Government has, inter alia, decided
that a model Jaw to regulate chit business may be formulated for
adoption by all the State which have no such legislation. It has also
decided that the question of making it a requirement of law that
only public limited companies should run chit funds should be
D
examined. Pursuant to. the above decisions, the Reserve Bank has,
at the instance of the Central Government, drafted a Model Bill
which was referred to the Group for its comments in October 1974.
The draft Bill is generally on the lines of the Andhra Pradesh Chit
Funds Act, 1971 (which itself follows the pattern of the Tamil Nadu
E Chit Funds Act, 1961) and the Kerala Chittis Bill 1972 as reported
by the Select Committee. Besides the usual provisions found in the
existing State enactments, certain additional provisions have been
made therein. We have examined the provisions of the Model Bill
and after taking into account the opinions expressed by the repre-
sentatives of some of the State Governments which have enacted
F
legislation regulating chit funds in their respective States as also
certain individuals having intimate knowledge of the running of chits,
our views in this regard have already been conveyed to the Reserve
Bank by a Jetter dated .Tune 30, 1975 addressed by the Chariman
of the Group to Shri S.S. Shiralkar, Deputy Governor of the
G Reserve Bank of India. It will be seen therefrom that the main
recommendations of the Study Group are as under:

(a) Since the legal opinion is that Parliament is competent to
enact the chit legislation in view of the provisioin contained in
H Entry 7 of List III (Concurrent List) of Schedule VII to the
SHRIRAMCHITS v. U.0.1.(DAYAL,J.] 75

Constitution of India, the proposed Bill should be enacted as a A
Central legislation. Such a step would, besides ensuring uniformity
in the provisions applicable to chit fund institutions throughout the
country, also prevent such institutions from taking undue ad-
vantage either of the absence of any law governing chit funds in
any law governing chit funds in any State or exploit benefits of any
lacuna or relaxation in any State law by extending their activities
B
to such States;

(b) While the Bill should be enacted as a Central Act, its
administration shonld be left to the State Governments concerned
which, in turn, may seek the advice of the Reserve Bank on policy C
matters. (For the purpose of tendering advice to the Central or
State Governments, the Reserve Bank may have to inspect chit
fund institution on a selective basis to have an idea of their working
including their methods of operation. Chit funds are "funancial
institutions" as defined in clause (c) of section 451 of the Reserve D
Bank of India Act, 1934. Hence, it would be open to the Reserve
Bank to undertake inspections of chit fund institutions whenever
deemed necessary in exercise of the powers vested in it under
Section 45N ibid);

( c) as regards the question whether only public limited com- E
panies should be allowed to conduct chit funds, the Group is of
the view that there should be no objection, in principle, to chits being
conducted by private limited companies also, mid on a limited
companies also, and on a limited companies also, and on a limited
scale, even by unincorporated bodies such as individuals/sole F
proprietorships/partnership firms. It might be of relevance to note
in this connection that the enactments regulating chit funds in force
in certain States do not prohibit chit funds being conducted by
unincorporated bodies; and

( d) having regard to the nature of their business, there is no G
neceesity for chit fund institutions to borrow from the public by
way of deposits and as such they may be prohibited from accepting
deposits except as advance payment of subscription or deposits
from prized subscribers by way of security towards payment of
their future instalments. H
76 SUPREME COURT REPORTS [1993] SUPP. 1 S.C.R.

A The views of the Group on certain other issues which arose for
consideration are given in the Annexure to the above letter dated
June 30, 1975. These are summarised below-

(i) Conduct of other business by chit fund institutions: Chit
fund institutions may be prohibited from conducting any other type
B of business except chit business or granting of loans to subscribers
against their paid-up subscriptions.

(ii) Utilisation of funds: Chit fund institutions should utilise
their surplus funds only for giving loans or advances to non-prized
c subscribers against the security of the subscriptions paid by them
or investing in trustees securities or in deposits with the approved
banks.

(iii) Restriction on the opening of new places of business: Chit
fu!ld companies should obtain the prior approval of the Director
D of Chits within whose jurisdiction their registered offices are
situated. The Director of Chits should take certain criteria into
account before granting permission for the opening of offices.
j
Unincorporated bodies should not be allowed to conduct business
at more than one place.
E (iv) Maximum duration of chits : The duration of chits should
not odinarily exceed five years; but chits of a longer duration upto
ten years may be started in very special cases only by chit fund
companies/banks with the prior approval of the State Government
concerned which should take into account factors such as the
F financial position and methods of operation of the company in
question, interests of the prospective subscribers, requirements as
to security, etc. The security deposit to be kept by the foreman of
company in the case of chits of longer duration may be propor-
tion~tely higher.

G (v) Mode of settlement of disputes : The machinery for settle-
ment of disputes arising between the foreman and the subscribers
relating to the adequacy of security offered by prized subscribers
to the foreman for payment of future instalments, substitution· of
subscribers in case of default, etc. should be self-contained, cheap
H and expeditious on the lines of the machinery prescribed under
SHRIRAMCIJrlS 1·. U.O.i.!DAYAL..l.J 77

the St<Jll'. (~o-npl'.rali\"t..'. la\~'S for scltlcmcnt of Jisputcs by arbitra- A
tion.

(vi) Ceilings in respect of the aggregate amount of chits that
may he conJucteJ at any poinl of time. The aggregate <.1mount of
chits conducted hy a chit fund .company at any point of time may
not exceed 50 per cent of the net \VOrth of company, i.e., the B
paid-up capital plus free reserves less the balance of accumulated
loss and other intangible assets such as deferred revenue expendi-
ture and goodwill, if any. In the case of commercial banks con-
ducting chit funds, no ceiling on the aggregate amount of chits that
may be conducted at any point of time need be prescribed since C
these chits are subject to the close scruitiny of the Reserve Bank.
As regards chit funds conducted by unincorporated bodies such
as individuals, sole proprietorships and partnership, the aggregate
amount of chits should not, at any point of time, exceed Rs.10,000.

(vii) Minimum capital requirement and the creation of a D
reserve fund: The minimum paid-up capital of chit fund companies
incorporated under the Companies Act, 1956, whether private or
public, should be Rs.1 lakh. Companies having paid-up capital of
less than Rs. I lakh may be allowed time up to three years to
increase their paid-up capital to the minimum referred to above. E
The State Government concerned may be authorised to grant
extension of time for a period not exceeding two years in ap-
propriate cases. These companies should also be required to credit
20 per cent of their annual net profits to a reserve fund." (emphasis
supplied)
F
It was in view of these recommendations of expert bodies that the
Parliament enacted the impugned Act in 1982 and the same was brought
into force in various States on different dates.

LEGISLATIVE COMPETENCE.
G
The impugned Act regulates the Chit fund business. The Scheme of
Act, at this stage, may also be noticed.

Chapter II of the Act deals with Registration of Chits, Commen-
cement dnd conduct of Chit business. Chapter III deals with the H
78 SUPREME COURT REPORTS I1993] SUPP. I S.C.R.

A Rights and Duties of Fnreman. Chapter IV deals with the rights
and duties of non-prized subscribers. Chapter V deals with the
Rights and Duties of Prized subscribers. Chapter VI deals with the
restrictions on TransfL:r of Rights of Foreman) etc. Chapter VII
regulates the Meetings of General Body of Subscribers, Chapter
VIII pr(l\i<les for continuation of c~its in certain cases and ter-
B mination of chits. Chapter IX provides for inspection of docu-
ments. Chapter X provides for winding up of chits. Chapter XI
provides for appointment of Officers and levy of fees for the
purpose of discharging the duties imposed on the Registrar under
the Act. Chapter XII deals with the disputes touching the manage-
c ment of Chit business by arbitration. Chapter XIII provides for
miscellaneous provisions, viz., advisory role of Reserve Bank, Ap-
peals from the order of the Registrar, Power of Registrar to give
extension of time for filing documents, penalties, offences by com-
panies, etc.
·o The submission of Union of India before the High Court was that
the legislation in ques\ion falls in Entry 7 of List III (Concurrent List) of
Vllth Schedule to the Constitution of India. Union of India also relied on
the aforesaid reports of various Study Groups. The High Court accepted
the contentions of the Union of India about the legislative competence of
E the Parliament to enact the impugned Ad and dismissed the writ petitions.
The point raised in the Civil Appeals inter alia is that the Parliament has
no legislative competence on the subject matter as according to the appel-
lants, the Act deals with the money lending and the same falls within Entry
30 of List II (State List) of Vllth Schedule to the Constitution of India. It
was, however, submitted in reply by the Union of India that the Act falls
F
within Entry 7 of List III of V!Ith Schedule to the Constitution of India
Section 2(b), 2(c), 2(d), 2(e) and 2G) defines 'chit', 'chit agreement', 'chit
amount', 'chit business' and 'foreman' respectively which read as follows:

"2(b) - "chit" means a transaction whether called chit, chit fund,
G chitty, kuri or by any other name by or under which a person enters
into an agreement with a specified number of persons that every
one of them shall subscribe of certain sum of money (or a certain
quantity of grain instead) by way of periodical instalments over a
definite period and that each such subscriber shall, in his turn, as
H determined by lot or by auction or by tender or in such other
SHRIRAM CHITS 1·. lJ.0.1. IDAYAL,J.J 79

manner as may be specified in the chit agrecn1cnt, be entitled to A
the prize amliunt.

Explanation - A transaction is not a chit within the meaning uf
this clause. if in such transaction, -

(i) some alone, bul nol all, of the subscribers gel the prize B
amount without any liability to pay future subscriptions; or

(ii) all the subscribers get the chit amount by turns with a liablity
to pay future subscriptions;

2(c) ·"chit agreement" means the document containing the articles C
of agreement between the foreman and the subscribers relating to
the chit;

2(d) · "chit amount" means the sum-total of the subscriptiions
payable by all the subscribers for any instalment of a chit without D
any deduction of discount or otherwise;

2(e) · "chit business" means the business of conducting a chit;

2U) · "forman" means the person who under the chit agreement is
responsible for the conduct of the chit and includes any person
discharging the functions of the foreman under section 39."
E

Section 6 provides that the agreement shall be signed by each of the
subscribers or by any person authorised by him in writing and the foreman
and attested by at least two witnesses and the particulars that has to be
stated in the said agreement have also been provided in Section 6 of the F
Act. This clearly shows that a contract h1S to be entered into between the
subscribers and the foreman and in view of the definitions provided in
Sections 2(b), 2(c), 2(d), 2(e) and 2(j) enforceable contract comes into
existence and the Act provides how the contract has to be implemented
and acted upon by the parties to the contract. Therefore, it is a special
form of contract contemplated by Entry 7 of List III of Vllth Schedule of G
the Constitution of India and it cannot be termed as money lending
business. It is clear that the foreman does not lend his money to any of the
subscribers. The foreman acts only as person to bring together the sub·
scribers and certain obligations are cast upon him with a view to protect
the subscribers from the mischief and fraude committed by the foreman in H
80 SUPREME COURT REPORTS ll993J SUPP. I S.C.R.

A view of his position. The amounts are paid to the subscribers a-" per the
chit and in accordance with the provisions of Acl. It will not bl'. Cllrrcct to
state that each subscriber lcn<ls money to the person who gel-" chit earlier.
It cannot also be construed that the person who gets chit later should he
treated as the money lender. The agreement. bct\vccn the parties that is
entered as per Section 6 of the Act, only provides for distribution of the
B chit amount. This agreement has to be treated as contract bl'.l\vccn the
subscribers and the foreman and it is the foreman who brings the sub-
scribers together and therefore the Act provided for payment of commis-
sion for the services rendered by the foreman as he does not lend money
belonging to him. The dominant purpose of the Act is to regulate the chit
c and control the activity of the foreman and protect the interests of the
subscribers. The pith and substance of the Act is that it provides for a
special contract. The legislation provides for a special kind of contract and
thus squarely falls within Entry 7 of List III of Schcduie VI!. If any support
thereof is required the reference may be made to the decision of this Court
in S1inivasa Ente!]nises' case (supra). That decision was involved with the
D
power of the Parliament to enact the Prize Chits and Money Circulation
Schemes (Baning) Act, 1978 and this Court held that the legislation fell
within Entry 7 of List III of the Vllth Schedule as opposed to the claim ·of
the petitioners therein that the legislation fell within State List Entry 34 of
List II. That was a case which dealt with prohibition of dealing in private
E prized chits and the Court fund that the pith and substance of the legisla-
tion therein was not one against lotteries and it dealt with a special species
of contracts. Similar view was taken by the Madras High Court while
dealing with the Pondicherry Chit Funds Act, 1966 and held that the
legislation fell within Entry 7 of List III of the Vllth Schedule and not
under Entry 45 of List I or Entry 30 of List II (see) Chocka11a1ha11 Chit
F
Fu11d and Finance (P) Ltd., Pondicherry a11d others v. Union Tmitory of
Pondicherry a11d others, AIR (1972) Madras 99.

The question as to the nature of chit agreement came up for con-
sideration before a Full Bench of five Judges of the Kerala High Court in
G Janardhana Malian and other v. Gangadharan and others, AIR (1983)
Kerala 178. The Full Bench there was concerned with the chit agreeme~t
under the Kerala Chitties Act (Act 23 of 1975) where the Kerala High
Court speaking through Foti, Acting Chief Justice, took the view that on
entering into the chitty agreement a debt is not incurred by the subscriber
H for the amount of all the future instalments and in respect of such amount
SHRJRAM CHITS v. U.O.l. [DAYAL,1.J 81

there is no debtor-creditor realationship. The chilly variola only embodies A
a promise to pay on future dates. That is not a promise to repay an existing
debt, but to pay in discharge of a contractual obligation. For similar reasons
neither the prizing of the chilly nor the execution of the security bond
would give rise to a debt, for , the prize amount is not received as a loan,
but as of right by virture of the terms of the contract between the parties. B
Therefore, no debt due to the foreman arises by reason of the receipt of
the price amount or of the execution of the security bond for securing
future subscriptions. '!'he Full Bench in this decision over-ruled its earlier
decision in the case of P.K. Achutan v. State Bank of Travancore, Calicut :
AIR (1975) Kerala 47. While rendering the decision in Janardhana Malian
and others (supra) the Full Bench of the Kerala High Court considered a c
catena of decisions starting from 1937 in the matter of Ramanatha Iyyar v.
Narayauaswami, AIR (1937) Madras 364. The Andhra Pradesh High Court
also, while dealing with the transaction of a chit fund organisation, in the
matter of Dhoosa Narasimloo v. Ye/ala Rajanna and another, I.L.R. (1958)
Andhra Pradesh 409, where the petitioner had filed a suit in the Court of D
the District .Judge against the respondents on a promissory note executed
by them for the amount they drew in a pool from a chit fund organisation
and where the District Judge had dismissed the suit for want of a licence
under Section 9 (2) of the Hyderabad Money Lenders Act (Act V of 1349
F.) and on revision, the question that came for consideration was whether
the chit fund organisation could be regarded a& a money lender within the E
meaning of the said Act and whether its transaction partake the nature of
a loan. Srinivasachari, J. speaking for the Court held that the amount drawn
by a member of a chit fund who bid al the periodical auction giving the
largest
v
discount could not . come 1vithin the definition of a loan within the
meaning of the Money Lenders Act nor could such a transaction be
F
regarded as a money lending transaction be and in the circumstances
Section 9 of the Hyderabad Money Lenders Act (V of 1349 F.) could have
no application to such a case. At page 415 of the aforesaid report it has
been observed "in our opinioin there is nothing in the chit fund transaction
which could be called the business of money lending. It is in essence an
organisation for mutual benefit." It approved the decision of the Madras G
High Court in Raghavan v. Ammgham : (1934) 38 M.L.J. 283. That was
also a case of chit fund transaction and the question for decision was
whether a provision in the bond for payment of the whole amount in default
of any one instalment was in the nature of a penalty coming \Vithin Section
H
82 SUPREME COURT REPORTS (1993) SUPP. 1 S.C.R.

A 74, Illustration (g) of the Contract Act. The learned Judges ruled that a
chit fund transaction was not a case of borrowing at all and it was entirely
different from a loan transaction. The learned Judges further held that "a
loan envisages the relationship of a creditor and debtor in so far as the
lender and the borrower are concerned. There cannot be the relationship
of a creditor and debtor between the stake holder and a subscriber, in a
B chit fund transaction. lf the stake-holder advances any amount he advances
only to one of the members, the funds of the whole body of the chit fund,
as the funds belong to the whole lot of subscribers, the members, borrower
is as much a creditor as a debtor. The amounts are in deposit with the
stake-holder only as a trustee for the benefit of the members of the fund."
C Srinivasachari, J. noticed the observations of Srinivasa Iyengar, J. in Tim-
marsa Pai v. Subba Rao : AIR (1928) Madras 256 where Srinivasa Iyengar,
J. regarded the position of the Manager of a kuri chit as a trustee for all
the subscribers of the chit fund.

D We were referred to the decision of this Court in K.P. Subbarama
Sastri and others v. K:S. Raghavan and others, [1987] 2 S.C.C. 424 wherein
a contract providing for payment of money in instalments and stipulating
that on default in payment of any of the instalments all the future instal-
ments shall be payable at a time with interest was held not penal in nature
in the case of kuri transaction under the Kerala Chitties Act, 1975. While
E upholding the transaction a Bench of this Court approved the decision of
the earlier Full Bench decision of the Kerala High Court in the case P.K.
Achuthan (supra)_ wherein the Kerala High Court had upheld such a
transaction and held it, to be of not a penal nature. In this context Eradi,
J. (as His Lorship then was) speaking for the Full Bench observed that a
F subscriber truly and really becomes a debtor for the prized amount paid
to him. It will be noticed that the later Full Bench decision of the Kerala
High Court in Janardhana Malian and others (supra) was not brought to
the notice of this Court and the Court was referred to the over-ruled
decision of the Kerala High Court. The fact remains that the question
involved before us as to the true nature of transaction for the purpose of
G finding oul the relevant entry in the Constitution into which it may fall, was
not involved in that case.

It appear to us, but for the discordant noire struck by the other Full
Bench of the Kerala High Court in the aforesaid case of P.K. Achuthan
H (Supra), the consistent view of all the High Courts has been that it is not
SHRIRAM Cl-IITS v. U.0.1. [DAYAL, J.] 83

a moneylending transaction and that there is no relationship of debtor and A
creditor for the purpose of it being treated as a money lending transaction.

Before the Act came into force, the deposits acceptance activities of
the chit companies were controlled by the directions issued by the Reserve
Bank of India under Sections 45K, 45L, 45M etc. of Chapter Ill-B of the
Reserve Bank of India Act. Chapter Ill-B dealing with non-banking institu-
B
tions and financial institutions receilling deposits from third parties was
introduced in the Reserve Bank of India Act, 1934 by the Amending Act
(Act 55 55 of 1963) in the year 1963. In the case of Mayavaram Finance
Cmporation Ltd. v. Reserve Bank of India reported in (1971) 41 Company
Cases 890 Before the Madras High Court, the constitutional validity of C
Non-Banking Financial Companies (Reserve Bank) Directions, 1966, which
were made applicable to 'chit fund' also were challenged on the ground
that the impugned Reserve Bank of India (Amendment) Act and the
Directions issued thereunder were beyond the legislative competence of
the Parliament. At page 902 of the report the Madras High Court observed D
that "this special kind of contract falls under Entry 7 of List III. After the
subscriptions are received and funded, it is no longer in the region of
money lending and money lenders .....We are of the opinion that the con-
tract entered ito by the former with the subscriber is a special contract
falling under Entry 7 of List III of the Seventh Schedule. The President's
assent to the Act confirms our view ........ ". The question considered by the E
Madras High Court was whether the Directions could be fairly covered
under the entry 'moneylending' or 'banking' of the List II or List I respec-
tively. The learned Judges of the High Court after considering the various
rulings observed that "we are, therefore, oi the opinion that the impugned
provisions falling under Chapter Jll-B of the Reserve Bank of India Act,
F
1934 and the Notification dated October 29, 1966 issued by the Reserve
Bank of India are valid and that there is no substance in any of the
contentions raised by the petitioners 1'.

The above judgment in the case of Mayavaram Finance Corporation
Ltd. (Supra) was followed by the Madras High Court in the case of A.S.P. G
Aiyar and another v. Reseive Bank of India and another: (1984) 56 Company
Cases 352 and P. Surahmaniam and another v. Reseive Bank of lndia and
others : (1985) 57 Company Cases 755. Jn these two judgments the Madras
High Court followed the ratio laid down in Mayavaram Financial Corpora-
tion Ltd. (supra) case. The. decisions in A.S.P. Aiyar (supra) case, and P. H
84 SUPREME COURT REPORTS [1993) SUPP. 1 S.C.R.

A Subrahntaniani's case which approvd the decision in N!ayavarani's case,
were also approved by this Court in S.L.P. (Civil) No. 4015 of 1985 decided
on 20th August, 1990 and Civil Appeal No. 2194 of 1985 on 16th January,
1990 respectively.

The judgment of this Court in Srinivasa Enterprises (supra) fairly
B covers the present Act as well. The prized chit is covered by entry 7 of List
III as observed by the Court in that case. Conventional chits are also matter
of contract with an added element of chance of draw of lot to choose the
successful bidder. The prized chits are chits with an element of draw of
luck. Otherwise prized chits and conventional chits are forms of contract
C and arise out of contracts only. They are not money lending business.
Applying the ratio laid down in the case of Srinivasa Enterprises (supra) it
has to be held that the Chit Funds Act, in pith and subtance, deals with
special contract and consequently falls within Entry 7 of List lII of the
Third Schedule. It must, therefore, be held that the Chit Funds Act is
within the legislative competence of the parliament.
D
Learned counsel appearing for various sets of appeallants/petitioners
before us including Mr. Narasimhamurthy, Mr. Chidambaram, Mr. T.S.
Krishnamurti, Mr . .S. Foti and Mr. K. Chandramouli challenged inter a/ia
Sections 4(3) (b); 6(3); 9(1); 12; 13; 16(2); 16(3); 17(1); 20; 21(1) (a); 21(1)
E (b); 21(1) (c); 25 and 48 of the Act.

Before we consider the contentions of the appellant/petitioners in
detail, the report of the Select Committee which considered the Chit Funds
Bill, 1980, deserves to be noticed because the impugned Act incorporates
all the recommendations of the Select Committee. In this regard the High
F Court observed as under :-

"The Committee held as many as 25 sittings after issuing notices
to the State Government, Chit Companies, Public bodies and
organisations, individuals etc. interested in the subject ·matter of
the Bill and also decided to hear oral evidence on the provisions
G of the Bill from interested parties. The Committee also issued
Press communique fixing 21st February, 1981, as the last date for
receipt of memoranda and requests for oral evidence. Wide
publicity was given on three successive days by broadcasting the
matter from all stations of All India Radio and telecast from all ·
H Doordarshan Kendras. Several requests were received from
SHRJRAM CH.ITS v. U.O.L [DAY AL, J.] 85

various parties for being heard by the Committee and accordingly A
several sittings were held at Madras on 28th, 29th and 30th of May,
1981, at Bangalore on 1st and 2nd June, 1981 and at Trivandrum
on 4th and 5th of June, 1981. Oral evidence was taken from the
representativ~s of various Chit Companies, Associations, Federa-
tions, individuals etc. and the Committee also heard the repre-
B
sentatives of the State Government of Tamil Nadu, Karnataka,
Kerala and the Union Territory of Pondicherry. Since the Com-
mittee felt that sufficient number of subscribers were not forthcom-
ing for tendering oral evidence, they decided to_ extend the time
for receiving memoranda and receiving oral evidence upto 30th
June, 1981. Further, a series of sittings were held at Ahmedabad, C
Hyderabad, Calcutta and New Delh and the Committee, in all,
examined 101 witnesses who appeared before the Committee for
giving oral evidence. The Bill was considered clause by clause and
the report of the Committee was adopted on 18th November, 1981.
The recommendations of the Committee in respect of the following D
clauses in the Bill are :-

Clause 4 : The period of 12 months was substituted for the period
of six months in the proviso to the co'd clause since the Committee
felt that the period of 6 months was not sufficient f.1r registering
the chit from the date of sanction. Under Clause 6 (i) (c) the words E
'interest or penalty' were included for any default in the payment
of instalments. Likewise, in clause 6(i) ( d) amendment was
proposed to specify the probable date of commencement of the
chit agreement. Clause .7(3) : The words 'within a period of three
months' were incorporated with a vie'YI' to ensure that the foren1an F
did not take unduly long time to start the chit and did not misap-
propriate the subscribers' money. Clause 8 : Instead of the figure
20 percent, 10 percent was suggested as the a1nount to be trans-
ferred to the Reserve Fund. Clause 11 (2) : A period of one year
was incorporated for complying with the requirements of Clause
11 (1) to avoid any hardship being caused to such persons carrying G
on business on the commencement of the proposed legislation.
Clause 13 : The Committee considered the aggregate amount of
chit to be conducted by an individual foreman, partnership
foreman and foreman- Company. The Committee felt that in order
to ensure that the foreman has sufficient stake in the chit business H
86 SUPREME COURT REPORTS [1993] SUPP. 1 S.C.R

A conducted by him, recommended an- increase of the amount from
Rs. 10,000 to Rs. 25,000 in the case of individual foreman, from
Rs.· 40,000 to Rs. 1 lakh in .case of partnership foreman. As regards
the foreman-Company, the Committee recomended for the words
'net assets' the words 'net owned funds' to be substituted and that
should be made applicable also to co-operative Societies. This
B recommendation was because of the fact that the concept of net
owned funds will be in tune with the Reserve Bank of India
directions to financial Companies which would mean the aggregate
of the paid-up capital and free reserVes reduced by the amount of
accumulated balance of loss, deferred revenue expenditure and
c other intangible assets, if any, as per the latest audited balance
sheet of the Company. Clause 14: The representation for extension
of the period of 2 years was rejected as the Committee felt that ',
the period of three years was sufficient for securing the money
invested by the person carrying on chit business in any other
business. The Committee was also of the view that the State
D
Government's power to extend the period of two years should be
limited to one year only and proviso to sub-clause (2) was accord-
ingly amended. Clau;e 15 : by substitution of a new clause it was
provided that chit agreement shall not be altered, added to or
,
cancelled except with the consent in writing of the foreman and
E all the subscribers in the chit. The Committee felt that since the
foreman was a party to the agreement, his consent must be ob-
tained before altering the agreement. Clause 16 was suitably
amended by the Committee in order to ensure that there was no
mischief in conducting the chits by making it obligatory for the
Chairman to issue notices to all the subscribers and the draw
F
should be held in the presence of at least two subscribers. Clause
18 : 21 days' time was granted to the foreman to file the returns
instead of 14 days. Clause 19 : A new sub-clause (3) was added lo
enable the subscribers to know the State where the new business
is opened by approaching the Registrar of that State instead of the
G Registrar of that State where the main office is situated for making
any complaints with regard to the conduct of chit business at the
ne.w place of business: Clause 20 : Sub-clause (1) was amended as
the committee was of the view that in order to ensure that the
foreman does not utilise the subscriptions so collected for the
H
SHRIRAMCHITS v. U.0.1.[DAYAL,J.] 87

purpose of depositing the security and also to ensure further that A
the financial position of the foreman is sound to conduct the chit,
he should be required to furnish security ·before he applies for
previous sanction of the State Government under Clause (4) of the
Bill. Clause 21 : The provisions of sub-clause (1) (a) was amended
since the Committee was of the view that where a foreman has
subscribed to more than one ticket, he should be allowed to get
B
more than one chit amount irr a chit without discount. Clause 22 :
Sub-clause (2) was amended since the Committee felt that the
existing clause would cause hardhip to the foreman and therefore,
he may be required to make deposit of the Prize money in respect
of the drawn only if it remains unpaid before the date of the next c
succeeding instalment in a separate account in an approved Bank.
A new proviso to sub-clause (2) was added to avoid any hardship
to the foreman by such contingencies by allowing the foreman to
hold another draw in respect of the instalment if the prize amount
is not drawn by the prized subscriber for a period of two months D
from the date of draw. Clause 23 : The Committee made the
necessary amendment, on the representation that inspection of
records of the foreman by the Registrar should be made permis-
sible not only at the registered office of business but also at the
place where the foreman is carrying on business, so that the
Registrar in such ca5es will be able to exercise proper control and E
supervision over the business carried on by the foreman. Clause
40 : Clause (b) of this clause was amended by the Committee since
the Committee was of the view that termination of a particular
chit, as contemplated in Part (b) of this clause, should be with the
consent of all the non-prized, unpaid prized subscribers and the F
foreman who is also a party to the chit. _clause 66 : The Commiltee
wa' of the view that allowing the disputes to be taken to the Civil
Courts will cause considerable delay in the settlement of dispute
because of the long procedure in the Courts and this would
particularly go against the interest of the subscribers and hence,
sub-clause (3) of the Bill was omitted. Clause 77 : The Committee G
felt that a provision for punishing the commision of second and
susequent offences should be included and the penalty of imprison-
ment and fine should be provided for. Accordingly, a new Clause
77 was added. These clauses in the Bill correspond to the respec-
H
88 SUPREME COURT REPORTS (1993( SUPP. l S.C.R.

A tive sections in the Act. The other amendments proposed by the
Committee are of a clarificatory nature and are only consequential,
therefore, there is no need to refer to them. This Report of the
Select Committee but for a lone dissenting member who was totally
opposed to the continuance of chit business, was unanimous."

B The Report 01 ,;,e Select Committee was brought to our notice and
we thought it fit to look into it and the reports of the expert bodies with a
view to satisfy ourselves that when Parliament enacted the Act, it had given
its careful consideration to the various suggestions made by the Siate
Governments, by the financial institutions, by the Companies, by the
c Cooperative Societies and by individuals; to the interests of the subscribers;
to the risks of the foreman and to his difficulties in complying with certain
regulatory measures, as found in the Bill; and passed the impugned Act.
Almost all the recommendation of the Select Committee were incorporated
in the impugned Act. Most of the appellants/petitioners had to opportunity
D of presenting their views before the Select Committee as couid be seen
from its report. Therefore, we have to examine whether the onus cast of
the State to sustain the constitutional validity of the various provisions of
the Act is discharged by it.

The impugned provisions of the Act, it was contended, were violative
E of Article 19(1) (g) of the Constitution of India. This appears to be lhe
main contention of the appellants/petitioners in all these matters. Accord-
ing to some of them their Companies are registered under the Companies
Act and the Companies Act provides sufficient regulatory measures over
their business by prescribing provisions for running the day-to-day business
F through Board of Directors who are responsible to the shareholders,
maintenance of various statutory returns which have to be submitted to the
Registrar of Companies from time to time for enabling the Registrar of
Companies to have an effective control over the business of the appel-
lants/petitioners and annual statutory audit proceeded by internal audits.
G Therefore, it is submitted that an additional control by the Registrar of
Societies under the Act makes a serious inroad into their rights to carry
on their business and it would, therefore, be violative of Article 19 (1) (g)
of the Constitution. They have complained that the provisions of Section 3
of the Act has an over-riding effect. It imposed unreasonable restrictions
on~the existingTights of the appellants/petitioners to carry on chit fund
H business. It will be noticed that Section 3 of the Act which overrides other
SHRIRAMCHITS v. U.0.1.IDAYAL.J.] 89

hi\vs, memorandum or articles of association or bye-laws) or any agreement A
concerning the chit fund business, s a result, to the extent to \vhich it is
repugnant to the provisions of this Act, become void. The Act itself is one
of the socio-economic legislations which had been enacted primarily and
predominantly to safeguard the interests of the chit subscribers \vho are
guillible and unwary public and who have been subjected to exploitation
B
by chit foremen. The Act is intended to regulate and to bring in financial
discipline in the chit business, as the foremen deal in and dabble with the
funds of the subscribing public. In this context it will be noticed that the
banks, financial institutions and non-banking financial institutions, who
accept deposits or deal with moneys of the public arc disciplined and
regulated by the various legislations. Banking Regulations Act, 1949 is C
applicable to commercial banks, both in the public sector and private
sector registered under the Companies Act, 1956. Banking activities of the
Regional Rural Banks (Banks in rural sector) are regulated under the
regulatory mechanism of Regional Rural Banks Act, Non-Banking Finan-
cial Companies (Reserve Bank) Directions, 1977 apply to the deposit- D
taking activities of non-banking financial companies like loan, inve~tment,
hire purchase finance and equipment leasing companies. Misc. Non-Bank-
ing Companies (Reserve Bank) Directions, 1977 apply to deposit accep-
tance by conventional chit companies but do not cover their chit
subscription activities. The deposit acceptance activities by the remaining
financial companies are regulated by the Residuary Non-Banl:ing Com- E
panies (Reserve Bank) Directions, 1987. These directions have been issued
under the provisions of Chapter III B of the Reserve Bank of India Act,
1934, as amended. Section 45 S of Chapter III C of the Reserve Bank of
India Act deals with acceptance of deposits from the public by unincor-
porated bodies such as individuals, firms and associations of persons. F
Acceptance of deposits by non-banking non financial companies, like
trading and manufacturing' companies, are regulated by the Companies
(Acceptance of Deposits) Rules, 1975 framed under Section 58 A of the
Companie Act, 1956.

The Chit Fund Companies are financial intermediaries and the State G
Acts (which were enacted in some of the States) were not uniformally
allserved and were not found to be adequate to meet the nefarious ac-
tivities of the foremen. In order to protect the interests of chit subscribers
and having regard to volatile and vulnerable nature of chit transactions,
authorities sought expert opinions and Expert Committees went into the H
90 SUPREME COURT REPORTS (1993) SUPP. 1 S.C.R.

A nlatler and submitted the various reportsi \vhich we have noticed earlier.
The report of the Banking Committee, which considered ' the types of chit
funds, had indicated that conventional chit funds might be permitted lo be
conducted by public limited companies. The Commission opined that the
individuals should not be allowed to conduct chits. The recommendations
of the Banking Commission and Datta Committee \Vere cxan1incd and a
B
model Bill was prepared by the Reserved Bank of India. At that stage Raj
Committee was appointed. The Model Bill.was also referred to Raj Com-
mittee for opinion. Raj Committee discussed Chit Funds in Chapter 6 of
its report and recommended a uniform Central Legislation for regulating
the conventional chit funds. The Committee also considered the model Bill
c and suggested some modifications. The Bill duly amended was introduced
in the Lok Sabha on 23.2.1979 (Bill No. 5 of 1979) but lapsed. The Bill was
re-introduced in the Lok Sabha on 20.11 ..1980 as Bill No. 186 of 1980. Bill
No. 186 of 1980 was referred to the Select Committee of the Lok Sabha.
The Select Committee gave wide publicity to the Bill, invited suggestions,
D· received as many as 529 representations/memoranda from chit companies,
Associations, Federations, State Governments, Co-operative Banks, in·
dividuals etc., examined 101 witnesses and had 25 sittings at important
centres. The Select Committee submitted its report on 24.11.1981 and in
the light of the representations suggested certain modifications in the Bill.
The amendments, as suggested by the Select Committee, were incor-
E porated in the Bill and the Bill was passed by the Lok Sabha on 19.7.1982.
The Bill as passed by the Lok Sabha was introduced in the Rajya Sabha
on 2.8.1982 and was referred to a Select Committee of the Rajya Sabha.
The Select Committee of the Rajya Sabha submitted its report on 5.8.1982
and suggested some amendments. The amendments were incorporated in
the Act.
F
It will thus be seen that it is not a hasty legislation. It was conceived
and legislated after a lot of deliberations and discussions and is the
outcome -0f the views of the Expert Committees and Select Committees
and prevalent State legislations on chits were also taken into account.
G
In its siting at Ahmedabad on 2.7.1981 the Select Committee of the
Lok Sabha was informed that the subscribers in various States had been
cheated of their hard-earned money by Chit Fund Companies by adopting
dubious means and the subscribers were not being paid their prize money
H or dues back. The subscribers requested the Committee to do something
SHRIRAM CHITS v. U.0.1. [DAY AL, J J 91

to enable them to get their rnoneyback (page 55 of the Lok Sabha Select A
Committee's Report).

In the case of Srinivasa Enteiprises and othm (supra) this Court
observed thus :

"In matters of economics, sociology and other specialised sub- B
jects, courts should not embark upon views of half-lit infallibility
and reject what economists or social scientists have, after detailed
studies, commended as the correct course of action. The final word
is with the Court in constitutional matters but judges hesitate to
'rush in' where even specialists 'fear to tread'. If experts fall out,
court, perforce, must guide itself and pronounce upon the matter
c
from the constitutional angle, since the final verdict, where con-
stitutional contraventions are complained of, belongs to the judicial
arm.

When a general evil is sought to be suppressed some martyrs D
may have to suffer for the legislature cannot easily make meticulous
exceptions and has to proceed on broad categorisations, no sin-
gular individualisations.

Judicial validation of a social legislation only keeps the path
clear for enforcement. Spraying legislative socio- moral pesticides E
cannot serve any purpose unless the target area is relentlessly hit.
This legislation enacted in response to expert recommendation and
popular clamour is to be implemented by dynamic State Action."

Section 4(3) (b)
F
Section 4(1) contemplates that no chit shall be commenced without
the previous sanction of the State Government. Sub-section (3) gives
guidance to the State Government for granting and/or refusing to grant
previous sanction. Clause (b) like clause (a) gives guidance to the State
authorities conferred on them discretion to grant or refuse to grant the G
sanction. We notice that the provisions is discretionary and merely gives
guidelines to grant or refuse to grant sanction as per various clauses and
is regulatory in nature and not violative of Artilce 19(1) (g) of the Con-
stitution.

Section 6 (3) of the Act reads thus : H
92 . SUPREME COURT REPORTS [1993] SUPP. I S.C.R.

A "6. (3) The amount of discount referred to in clause (f) of sub-sec-
tion (1) shall not exceed thirty per cent of the chit amount."

It was submitted that the ceiling of the discount is highly arbitrary
and imposes unreasonable restriction on.the business of the petitioners. It
appears to us that the ceiling of discount is on the higher side and the
B subscribers, who are in need of money, per force) have to give the discount
to that extent and cannot be expected to take care of their own interest
when they bid at the tie of chit auction. The restriction is neither arbitrary
nor unreasonable.

Section 9 (1) of the Act provides for commencement of chit. It
c contemplates that the foreman shall, after all the tickets specified in the
chit agreement are fully subscribed, file a declaration to that effect with
the Registrar. It will be noticed that this provision too is merely regulatory
and is in the interest of the subscribers and cannot seriously be challenged
under the provisions of Article 19(1) (g) of the Constitution of India.
D
Section 12

This Section reads thus :

"12. Prohibition of transacting business other than chit business by
E a company.-(1) Except with the general or special permission of
the State Government, no company carrying on chit business shall
conduct any other business.

(2) Where at the commencement of this Act, any company is
carrying on any business in addition to chit business, it shall wind
F up such. other business before the expiry of a period of three years
from such commencement :

Provided that the State Government may, if it considers it
necessary in the public interest or for avoiding any hardship, extend
G the said period of three. years by such further period of periods
not exceeding two years in the aggregate."

This Section creates a bar for a Comapny carrying on chit to desists
from carrying on any other business. Similar provisions in regard to the ban
are contained in Section 8 of the Banking Regulation Act, 1949 which
H restrain the banks from carrying on any other business. Sub-section (1) of
SHRIRAMCHITS '· U.0.1.[DAYAL.J.J 93

Section 12 of the Act. however, prori<lcs that "with the general or special A
permission of the State Government" the chit company can carry on any
business other than the chit business. This section is intended to leave
discretion with the State Government to decide whether or not to allow
the chit company to do any other business. It was pointed out that certain
State Enterprises like Kerala State Fi:nancial Enterprises Ltd., were, in
addition to chit business, engaged in other types of activities. The Datta B
Committee and banking Commission had suggested that the public section
enterprises may be encouraged to do chit fund business.

It was submitted on behalf of the Union of India that it was found
that some of the Companies which were carrying on chit business in
association with other businesses had diverted chit funds by way of advan- c
ces to allied firms Of the foreman or financing activities unconnected with
chit business. Many of those advances had become irrecoverable which in
turn affected the liquidity of the chit fund companies and as a result the
chit fund companies failed to pay the dues to the subscribers. Some of the
companies had utilised the funds for shipping business, producing cinemas D
and also utilised the funds for venturing into fields with high degree of risk.
Some of those ventures liad flopped, the chit fund companies, had come
to grief and consequently defaulted in the payment of dues to the sub-
scribers i.e. subscribers were left high and dry to suffer in silence in view
of the prohibitive cost and time consuming nature of litigations. In regard
to policy guidelines for exemption i.e. permission to carry on other business E
the highest authority in Administration has been given the power to deter-
mine and the guidelines, of course, are "public interest" and "the interest
of the subscribers to the chit". The provisions of the Act gives sufficient
guidelines to ensure subscribers' interest. This Section, therefore, is again
regulatory and is not hit by Article 19(1) (g) of the Constitution.
F
Section 13

Section 13 of the Act reads thus :

"13. Aggregate amount of chits.-(1) No foreman, other than a firm G
or other association of individuals or a company or a co-operative
society, shall commence or conduct chits, the aggregate chit
amount of which at any time exceeds twenty-five thousand rupees.

(2) Where the foreman is a firm or other association of individuals,
the aggregate chit amount of the chits conducted by the firm or H
94 SUPREME COURT REPORTS (1993] SUPP. 1 S.C.R.

A other .association shall not at any time exceed,

(a) where the number of partners of the firm or the individuals
constituting the association is not less than four, a sum of
rupees one lakh;

B (b) in any other case, a sum calculated on the basis of twenty-five
thousand rupees with respect to each such partner or in-
dividual.

(3) Where the foreman is a company or co-operative society, the
aggregate chit amount of the chits conducted by it shall not at any
c time exceed ten times the net owned funds of the company or the
co-operative society, as the case may be.

Explanation, - For the purposes of this sub-section, "net owned
funds" shall mean the aggregate of the paid up capital and fre.e
reserves as disclosed in the last audited balance sheet of the
D
company or co-operative society, as reduced by the amount of
accumulated balance of loss, deferred revenue, expenditure and
other intangible assets, if any, as disclosed in the said balance
sheet."

E The main challenge to Section 13 it; in regard to the criteria fixed for
chit· business for individual firms on the one hand and co-operative
societies and companies on the other. Whereas in the case of individuals
the maximim permissible chit business is Rs.25,000, in the case of firms for
each partner Rs.25,000 subject to the limit of rupees one lakh; in the case
of companies the maximum business is linked with its 'net owned funds'
F which has been defined in the explanation thereto. At the outset it may be
noticed that the main purpose for laying down the ceiling on the limited
amounts of chits, that may be conducted by the foreman, is to ensure that
the foreman does not overtrade to the detriment of the chit subscribers
and at the same time to see that the foreman has a sufficient stake in the
G chit business. It is in the context of these factors that the aggregate chit
fuiid which could be considered as reasonable in respect of the chit
conducted by individual or partnership concerns and as a multiple of 'net
.owned funds' in the case of limited companies, came to be fixed. In the
case of individuals and partnership concerns or association of individuals,
it is not unlikely that the individuals/partnership firms etc., may do other
H types of business and divert portion of chit business funds for such busi-
SHRIRAMCHITS v. U.O.l.[DAYAL,J.] 95

ness. Moreover, it is also not feasible to lay down the aggregate chit amount A
of chits to be conducted by such bodies with reference to their net means
or individual's worth since it would be very difficult to assess and monitor
such net worth and even if such assessment could be made, the position
could change rapidly. On the other hand in the case of companies it is not
difficult to arrive at the net worth having regard to the balance sheet
position of the company. Hence it was thought desirable to fix the ag- B
gregate chit amount of chits which may be conducted by the limited
companies with reference to their net owned funds while in the case of
individuals, partnership firms etc., the amounts were fixed in absolute
terms. As regards the fixing of limit of Rs.25,000 in the case of individual
and Rs.1 lakh in the case of a firm having not less than four partners, we C
have already noticed that the Dutta Committee and the Banking Commis-
sion had recommended that only public limited companies should be
allowed to do chit business {para 17.49). ,The Raj Committee, however,
suggested (para 6.18{c) ) that individuals/sole proprietorship con-
cerns/partnership firms may be allowed to conduct chit business on a
limited scale. In the light of the above it was thought fit to allow in- D
dividuals/partnership firms to do chit business in a limited way. Unlike
companies, the individuals and partners are not precluded from carrying
on other business which will supplement their income. Again the· risk in
the case of partnership firms and individuals is in a way minimised as the
chit fund business in these cases can be set out in absolnte term. The risk
factor related to the amounts involved and the vulnerability of in- E
dividuals/partners disapperaing from the mid-stream of the business would
be to the detriment of the subscribers, more the quantum of amount,
greater the sufferenace of the subscribers in case there were to be a
collapse of chit fund business of the individuals and partnership firms. The
offences under the Act, in terms of Section 81, are compoundable. The
various rules relating to compounding are set out in Rule 62 of the Tamil
F
Nadu Chit Funds Rules, 1984; Rule 63 of the Chit Fund {Pondicherry)
Rules; 1906. In the Lok Sabha Select Committee tenth sitting at Ah-
medabad held on 2nd July, 1981 it was stated as under :-

"3. During the course of evidence, the Committee was informed G
that the subscribers in various States had been cheated of their
hard earned money of Chit Fund Companies by adopting dubious
means and the subscribers were not being pid their prize money
or dues back. The subscribers requrested the Committee to do
somethin~ to enable them to get their money back."
H
96 SUPREME COURT REPORTS J1993J SUPP ..1 S.C.R.

A We do not find that the limits put arc violative of Article 19(1)(g) of
the Constitution. In any case they arc in the interests of the subscribers.
However, \Ve have no doubt that in vie\v of the inflation in the country, the
appropriate authorities, in case a. demand is so raised, from time to time
increase the limits. However, V.'E do not find it necessary to give any
direction in this behalf.
B
SECTION 16(2), 16(3) AND 17(1)

Section 16(2), 16(3) and 17(1) of the Act read as under : -

"16. Date, time and place of conducting chits.-
c
(1) ··························································

(2) Every such draw shall be conducted in accordance with the
provisions of the chit agreement and in the presence of not less
than hvo subscribers.
D
(3) Where any draw was not conducted on the ground that two
subscribers required to be present at a draw under sub- section
(2) were not present or on any other ground, the Registrar may,
on his own motion or on an application made by the foreman or
any of the subscribers, direct that the draw shall be conducted in
E his presence or in the presence of any person deputed by him.

17. Minutes of proceedings. - (1) The minutes of the proceedings
of every draw shall be prepared and entered in a book to be kept
for that purpose immediately after the closure of the draw and
F shall be signed by the foreman, the prized subscribers, if present,
or their authorised agents, or their authorised agents, and at least
two other subscribers who are present, and where a direction has
been made under sub-section (3) of Section 16, also by the
Registrar or the person deput~d by him under that sub-section."

G These provisions are again regulatory and are with a view to avoid
fraud on the subscribers by delaying their payments.

SECTION 20

It was contended that there is no provision in Section 20 of the Act
H to pay interest to the Foreman on the bank deposits/Government or
SHRIRAM CHITS v. U.0.l. [DAYAL,J.J 97

approved securities that he is required to keep in the name of the Registrar A
of Chits. In Jaw, the beneficial owner would be entided to the refund of
the securities/cash deposited with the Registrar or with the Bank as also
the accrued interest thereon, if any, and undrawn on the Registrar being
. satisfied that there is no outstanding amount payable to the subscribers. It
was submitted that when there is no liability to the subscribers, the
Registrar is not entitled to .retain the accrued interest or benefits accrued B
to the securities.

It was submitted on behalf of the Union of India that the Reserve
bank of India has advised the State Governments to amend their Chit Rules
stipulating payment of interest accrued on the remaining unpaid to the
foreman while releasing the securities. The circular dated 28th February, C
1990 issued by the Reserve Bank India is extracted below:-

"RESERVE BANK OF INDIA
DEPARTMENT OF FINANCIAL COMPANIES
CENTRAL OFFICE CELL
D
BOMBAY 400 023

DFO(COC) NO. 352/50(1)/89-90

February 28, 1990
Phalguna 9, 1991 (saka) E
To,

All State Governments/Union Territories.

Dear Sir 1
F
Chit Funds Act, 1982 (Central Act 40 of 1982)
Rules to be made thereunder.

The State Government are aware that a batch of writ petitions G
challenging the validity of the provisions of Chit Funds Act before
the Karnataka High Court, Bangalore was dismissed by the
Division Bench of that Court in April, 1988. The Division Bench
has inter alia observed that with the view of providing relief to a
foreman section 20 of the Act deafr'g with the security to be H
98 SUPREME COURT REPORTS (1993] SUPP. 1 S.C.R.

A obtained from a foreman may be amended so as to provide for
payment of interest on the securities lodged by a foreman. (This
judgmentis reported in AIR (1989) Karnataka page 125 - (1990)
67 Company Cases p.203). The matter was examined in eounsul-
tation with the Central Government and it has been decided not
to amend section 20 of the Chit Funds Act, 1982 but only to amend
B the rules framed thereunder (which deal with the release of
securities) to comply with the directions of Karnataka High Court.
A copy of the draft amendmei:it to Rule 24 of the Model Rules
dealing with the release of security is enclosed (Draft) for your
consideration. It is requested that the State Government may
c please arrange to incorporate the same in Rule 24 ibid if the Rules
have been framed on the lines of the Model Rules furnished by
the Reserve Bank of India; otherwise a suitable amendment may
be made to reflect compliances of the directives of the Karnataka
High Court. For your information an extract of Rule 16 as it is at
present and the new Rule 16 of the Chit Funds (Karnataka) Rules,
D
1983 as proposed to be amended is enclosed for reference and
notify the same in the Gazette. Six copies of the notification may
please be furnished to us for our records in due course.

Your faithfully,
E
Sd/-

(B. Subramanian)
.Joint Chif Officer''

F In view of this submission on behalf of the Union of lndia no further
discussion is required in regard to the objection of the appel-
lants/petitioners on non-payment of interest.

SECTIONS 21(J)(a), (J)(h) and (l)(c)

G Sections 21(1)(a), (l)(b) and (l)(c) read thus:-

"21. Rights of foreman - (1) The foreman shall be entitled, -

(a) in the absence of any provision in the chit agreement to the
contrary, to o_btain the t:hit amount at the first instalment
H without deduction of the discount specified in the chit agree-
SHRIRAM CHITS v. U.O.I.[DAYAL,J.] 99

ment, subject to the condition that he shall subscribe to a A
ticket in the chit:

Provided that in a case where the foreman has subscribed to
more than one ticket, he shall not be eligible to obtain more
than one chit amount in a chit without discount;

(b) to such amount not exceeding five per cent of the chit amount
as may be fixed in the chit agreement, by way of commission,
remuneration or for meeting the expenses of running the chit:

(c) to interest and penalty, if any, payable on any default in the
payment of instalments and to such other amounts as may be
c
payable to him under the provisions of the chit agreement;"

We find no reason for the appellants/petitioners to have any objec-
tion to clause (a) or (c) of Section 21. As regards maximum commission
of 5% of the chit amount, the objection does not appear to be legitimate D
because any foreman is not debarred from doing any other business and
he is not supposed to incur the expenditure at the cost of the subscribers
and then claim higher commission. Expert Bodies have only recomended
two per cent commission whereas the Act provided for 5 per cent commis-
sion. We do not find any thing unreasonable i~ respect of the commission.
E
A!!'lin objection to Section 25 is meaningless. This is a normal duty
of the foreman which has been converted into a statutory duty. We do not
find anything unreasonable. The provision is in subscribers' interest.

SECTION48
F
The objection to the vires'·Of Section 48 as to the circumstances in
which chits are to be wound up is merely stated to be rejected,

All the provisios are in the interest of the subscribers and are very
material. In any case if the order is unreasonable a party has a right of
appeal under Section 59 of the Act. G

We thus find no merit in the appeals as well as the petitions. The
result is that all the appeals and the petitions are dismissed with costs.

N.P.V. Appeals and petitions dismissed.