WHAT ARE PONZI SCHEMES?
Ponzi schemes in general are fraudulent investing scams which promise high rates of return to the general public by offering little risk to investors. The term ‘Ponzi scheme’ was coined in 1919 after Charles Ponzi, an Italian fraud who arrived in the US and made a fortune through creating and promoting fraudulent schemes.
A Ponzi scheme generally works like a pyramid scheme wherein returns for the older investors are generated by acquiring new investors who are also offered a large profit at no or very little risk. Therefore, the scheme relies on the constant influx of new investors in order to keep providing returns to the existing stakeholders. The moment new investments decline or stop coming, the entire scheme falls apart like a stack of cards.
Over the years, India has seen its share of Ponzi schemes where hundreds of crores in the common man’s hard-earned money was wiped out in one fell swoop. In this article, Team YLCC attempts to analyse the regulatory framework at work in India to thwart Ponzi schemes. Read on!
BIGGEST PONZI SCHEMES IN INDIA
- Saradha Group Scam
The Saradha Group Ponzi scheme based in West Bengal ranks at the top with ease when it comes to India- it involved a massive corpus of investment amounting to 4000 crore rupees. The Ponzi scheme actually ran through a nexus of over 230 shell companies which were created to fool SEBI. Potential investors belonging to mostly Eastern India were promised a 50% return per annum on their investment i.e. they would be able to double their initial investment in 3 years. At the same time, hundreds of agents who were hired to bring in new investors were promised to 25-40% commission on deposits.
In early 2013, the scam began to run out of funds to pay out agents. In addition to this, the scamsters ran out of ideas to cheat investors and the overall input funds started quickly declining when compared to the output funds. In April 2013, Saradha finally collapsed. Sudipta Sen, erstwhile chairman of Saradha Group, has since been arrested and investigations are underway.
- Gain Bitcoin Scam
Taking place in 2022, the Gain Bitcoin Scam is one of the biggest Ponzi schemes to have come to light in this century. Across the months of May and June, overall 40 First Information Reports (FIRs) have been registered across several states like Maharashtra and Punjab, with people alleging that they have been duped of their hard-earned money. Like numerous other Ponzi schemes, GainBitcoin also had a pyramid, multi-tiered scheme, with Amit Bhardwaj at the top followed by his ‘Seven Stars’ who used to handle operations in India and overseas. How the scheme worked was that they promised a 10 per cent monthly return in Bitcoin-on-Bitcoin deposits for 18 months through multi-layered marketing programmes. People were lured to lend the corporation Bitcoins on the guarantee that their investments will grow during the aforesaid period. So far, the investigating police has estimated the total value of the scam to be 90,500 crore rupees although the price of Bitcoin remains volatile.
LEGAL FRAMEWORK REGULATING AND PROHIBITING PONZI SCHEMES IN INDIA
To tackle the menace of Ponzi schemes, India has introduced a number of legislative measures. We will look at them in brief:
Prize Chits and Money Circulation Schemes (Banning) Act. 1978
This was the first statute that addressed the issue of chit funds in India. The law came about after consideration of a report submitted by a Reserve Bank of India Study Group under the chairmanship of James S. Raj in 1975. This group put forth the opinion that prize chit/benefit/savings schemes benefit primarily the promoters and do not serve any social purpose.
The Chit Funds Act, 1982
In the rural low-income category of the country, Ponzi schemes came to be known as chit funds and hence the name of the statute. The Chit Funds Act mandated that only schemes registered and regulated by the state governments are permitted to function. They are then regulated by the Registrar of Chits as provided under Section 61 of the Chit Funds Act. Furthermore, the statute mandates that if the valuation of a chit in an unregistered chit fund is greater than INR 100, it is illegal.
The Banning of Unregulated Deposit Schemes (BUDS) Act, 2019
The BUDS Act is one of the most important statutes enacted in recent times which looks to conclusively curb such fraudulent and unregulated deposit schemes. This Act forbids and penalises the acceptance of deposits under any course of action which is not regulated or under ordinary course of business. Penalty is further stipulated on failure to return monies are accepted by way of regulated deposit schemes on maturity of any promised service in lieu of the deposits.
The offences mentioned in the Act can be broadly categorised under the following:
- Soliciting deposits under the unregulated deposit schemes,
- Acknowledgement of deposits under the unregulated deposit schemes,
- Fraudulent default in registered deposit schemes and
- Unfair instigation in relation to unregulated deposit schemes.
The Act also judicial measures to be implemented for all matters related to the Statute. Under this Act, the Government of India will have to constitute a designated court or authority for such matters in consultation with the respective Chief Justices of High Courts. Such court or authority will be presided over by a Judge not below the rank of a District or Sessions Judge or an Additional District or Sessions Judge. The statue substantially empowers the Designated Court in the following aspects:
- The court is empowered to issue show cause notices to the deposit takes and any other whose property is involved within 30 days from issue under Section 14 of the Act.
- Issuing legal notices to all persons having any likely claim to the interest or title in the property attached.
- Passing an order releasing a part of attachment or directing the competent authority to conduct the sale of the property as per procedure of law.
- Summoning the deposit taker by ordering his appearance on a given date.
The Banning of Unregulated Deposit Schemes Rules, 2020
The Rules have come into force with effect from 12 February 2020, and provide for the following:
- Information and other details to be considered by officers designated by the appropriate government (Competent Authority) before issuing an order of provisional attachment of the properties of deposit takers who contravene the Act, the manner of making such provisional attachment, and the manner of seeking confirmation of such provisional attachment.
- The legal process to be followed by courts constituted to enforce the provisions of the Act (Designated Courts) while determining whether the order of provisional attachment should be made absolute.
- Information regarding deposit takers operating in India to be maintained by the central online repository (i.e., an authority appointed by the Central Government) (Repository Authority) in an online database.
- Intimation to be made by every deposit taker to the Repository Authority regarding its business.
- Retraction of newspaper advertisements that relate to Unregulated Deposit Schemes.
ANALYSIS OF THE LAWS
In recent times, a prima facie observation of police cases and investigation reports make it clear that ponzi schemes and chit fund schemes have continued to flourish in some parts of the country despite the legislations and regulatory framework. The demographic of the victims in such cases primarily indicate low-income rural areas of the state concerned.
For example, in the Saradha case, the majority of victimised stakeholders were members of Below Poverty Line (BPL) category such as wage labourers, menial job labourers, etc. Agents hired by the Fund were able to convince the unsuspecting victims in this case that this is a golden opportunity that should not be left unutilised- they told family men that using the returns from their investment, they would be able to pay off their existing debts, and secure a handsome amount for their daughter’s wedding and son’s education. In fact, most Ponzi schemes work on the principle of exploiting the emotional vulnerabilities of the uneducated man to lure him into a promise of unfathomable returns.
Therefore, it is important to acknowledge that like many other problems that plague this country, the issue of Ponzi schemes cannot be solved by legislations alone. There is a massive need to spread financial literacy on a wide scale. People need to be educated on several aspects- for example, returns to the tune 50% or anything above 15% is not merely unrealistic but also a definite red flag for any institution that is promising such returns. Registered financial institutions such as banks are only able to offer an interest of 6-7% on a savings account at the maximum, other investment avenues which provide higher returns include stock markets and mutual funds- both of which carry a varying element of risk and offer returns upto 18%.
The onus here is also on the government and local self-government bodies to conduct awareness sessions so that people may learn to invest their hard-earned money through legal means without expecting excessively high returns. At the same time, the problem of public figures associating with these Ponzi schemes also has to be addressed conclusively through penal actions. As has been seen in many of such schemes, the funds started gaining traction only when a public figure- whether from politics or from the entertainment industry- endorsed the investment and acted as the face for such shell companies. Even if we give them the benefit the doubt with regards to knowing the true nature of such schemes, accountability cannot be waived. Being a public figure has an innate element of public trust involved and therefore such figures can be reasonably expected to meet a threshold of due diligence before they decide to put their considerable weight behind such schemes.
Lastly, the plethora of rules that are now in force to curb the schemes should be implemented by all the states, given that millions of Indians have been affected by such schemes in the past.
YLCC would like to thank its Content Team for their valuable insights in this article.
