Synopsis
In the recent past, there have been many instances where companies have lured customers to invest in ponzi schemes by promising high return for instalment schemes, few of them being with the intent to defraud the public . The SEBI regulations havey defined Collection Investment Scheme (‘CIS’) , in a broad manner wherein such schemes are liable to be classified as CIS including the Gold Savings / Purchase Scheme.
Read on to know the view of the Author on the Gold Savings / Purchase Schemes being CIS and the recent judgement by the Bombay High Court in a public interest petition filed towards seeking clarity on legality of such schemes.
Consumer friendly savings schemes
Often, companies engaged in various types of businesses set up consumer friendly schemes which unwittingly violate law, with potentially serious consequences. A good example is an instalment scheme for customers which helps them save and accumulate to buy something. In a sense, they are the reverse of instalment purchase in which the gold is purchased, delivered and enjoyed but the payment is made over a period of time in the future. The saving-instalment method, however, provides for periodic payment and then using the accumulated amount plus interest to buy the product. What is not realized is that this latter scheme could in many cases violate the SEBI Regulations on Collective Investment Schemes (CIS).
Such schemes, in themselves, may be well intended. They, on one hand, enable customers to exercise discipline of saving in advance for buying something, instead of buy-now-pay-later attitude. On the other hand, they enable businesses to sell goods, with added benefit of not worrying about recovery of payment for goods.
Wide and strict law relating to CIS
However, there has been rampant misuse of such Schemes, particularly by companies who use such schemes as a disguise for simply raising monies as deposits without having any underlying business. The recent scams in West Bengal and elsewhere are just examples of what has happened often in the past. In 1999, to prevent scams and regulate such Schemes, SEBI notified the CIS Regulations. They have extensive requirements including of registration, valuation, minimum net worth, etc. and a stringent review of the persons behind such companies/Schemes, before registration.
The term CIS is very widely defined. Essentially, however, they mean those schemes which involve raising and pooling of monies from investors with a view to return them with income/profits/products at a future date. There are other conditions too. While classic schemes of teak plantation, goat farming, etc. were kept in mind since these had become common, as several sunbsequent decisions of courts and SEBI showed, they could cover a wide variety of other cases including those for purchase of immovable property.
This broadly worded law, however, would cover many other schemes. Consider an increasingly common scheme in recent times, set up by scores of companies, including some very reputed houses. These are gold savings/purchase schemes known by various names. While the details may vary from company to company, they can be described as under.
What are gold-saving schemes and how they may violate the law
A customer is required to deposit with the business a certain sum of money, periodically, usually every month. At the end of the period, the amount accumulated plus a sum, called “bonus” by some, which seems to be disguised interest, is used to sell gold jewellery to the customer. Thus, for example, a customer may deposit Rs. 2,500 every month for eleven months, thus collecting Rs. 27,500. The shop may add a bonus to this and give some concession in making charges and thus give him 10 grams worth of gold jewellery.
However, in my view, though the detailed facts of schemes by different companies are not known, in principle, many of such schemes are liable to be classified as CISs. And if they are set up without being duly registered with SEBI, they may be deemed to be violations of the Act/Regulations. It is also possible that they may be yet another variant of disguised deposit-raising schemes, as the scams of recent past have shown. And thus, not eligible for registration as CIS Schemes
Recent Bombay High Court decision Considering this, a public interest petition was filed before the Bombay High Court seeking directions from the Court to SEBI and other authorities to look into the legality of such Schemes. However, the Bombay High Court rejected this PIL. (Sandeep Agrawal vs. SEBI [2013] 39 taxmann.com 139 (Bom.)). In a brief decision of less than half a page, the Court essentially held that these contracts are private commercial contracts and do not require interference by SEBI. The Court observed, “If any shop owner is running such a scheme and the consumers are voluntarily taking part in such a scheme, it is purely a commercial transaction between a businessman and a consumer”.
It is submitted that this decision requires reconsideration. It also appears that the necessary facts and law were not presented well before the Court, since the Court observed, “If the petitioner so desires to bring it in the nature of public ambit the least that is expected is to point out as to under what statutory provisions or the rules framed thereunder the said scheme is prohibited. Nothing is placed on record in that regard.”.
In other words, the petitioner does not seem to have laid down the detailed facts of the schemes, the specific provisions in the SEBI Act and the CIS Regulations that make such schemes to be CIS and thus subject to registration, etc. In absence of submissions explaining how SEBI could take action against such schemes or under which specific provision of law they are liable to be registered but not registered, the Court seems to have rejected the petition.
However, it is difficult to see how most of such schemes are not CISs. Section 11AA of the SEBI Act, which defines CISs widely, seems to be clearly applicable and the conditions specified therein are attracted.
While there are several reputed names who have set up in such schemes, the number of entities engaged in such schemes are numerous. It will not also be surprising of this model is adopted in other businesses too. Such schemes are ripe for misuse, assuming SEBI takes a view that the provisions relating to CIS do not apply.
Misuse of such Schemes
Consider, how the terms and conditions of the scheme can be structured which can eventually could be potential scams:
• An entity other than a gold-jewellery shop may set up such a scheme. The gold-jewellery purchase form may thus become a front.
• Then, the scheme may be for a long period of, say, three to five years. Longer the period, the greater the risk of the monies being lost.
• Huge incentives may be offered to agents to get such customers to accept such schemes.
• Also, without it being regulated, there is no control over where the amounts raised would be applied – even existing schemes do not seem to provide for assurance that the amounts raised would be used to buy gold which would be earmarked for the customer. The monies raised thus may be diverted into other businesses where there are risk of the monies being lost or blocked.
• The entity may offer an unduly higher “bonus” (which as stated really seems to be disguised interest) to attract customers. The higher the interest rate, the greater the risk of the entity not being able to fulfil its promises.
• It is easy to provide a cash alternative at time of maturity in form of ruling price of gold, which in any case can be assured, apart from “bonus”. Thus, effectively, the customer can obtain fixed interest on the amounts paid. Indeed, as past scams investigated by SEBI have shown, the schemes were actually marketed as deposit raising schemes with assured interest, with the paper work of being advance against goods being bogus.
It is arguable that each case would have to be decided on facts and perhaps some of such schemes may not attract the provisions. Also, most of the schemes may not have any intention of giving a cash alternative or be really in the form of deposit raising. In other words, many of such schemes may not be deposit raising exercises in disguise, as was found in many of the schemes that went bust in West Bengal and elsewhere.
However, while such disguised-deposit schemes would be blatantly illegal, even genuine schemes would require, in most of the cases, registration with SEBI as CIS. The Regulations provide for several levels of checks, at the time of entry and later too, to safeguard the interests of customers/investors.
In either case, the risks of such schemes are too many to be ignored. In the backdrop of recent scams in West Bengal and elsewhere, it is surprising that these schemes have not received closer attention. Ideally, and at the very least, SEBI should have assured the Court that it is looking into the schemes, more so since it was made a party to the petition.
Conclusion
In conclusion, it must also be stated that the Bombay High Court decision should not be treated as a precedent holding that such schemes are valid in law. The decision is on facts, or rather absence of facts. No real question of law was placed before the Court. The provisions of the Act and/or the Regulations were also not placed before the Court. On the other hand, though not specifically on gold-savings schemes, there have been numerous decisions of courts and SEBI that have, on facts, held what are CISs. The ratio of these decisions as well as the provisions of law are clear enough to hold such Scheme as requiring registration, with SEBI.
