What Is a Rotating Savings and Credit Association (ROSCA)?
A rotating savings and credit association (ROSCA) is made up of a group of individuals acting as an informal financial institution in the form of an alternative financial vehicle. A ROSCA happens via set contributions and withdrawals to and from a common fund.
ROSCAs are most common in developing economies or among immigrant groups in the developed world. They are also a popular alternative to lending products in Muslim countries, where any interest paid or received on loans is considered impermissible based on Islamic finance rules. ROSCAs have appeared in South America, Africa, and Asia. An early example existed in China in about 200 B.C.
- A rotating savings and credit association (ROSCA) is a group of individuals who together act as an informal financial institution.
- A ROSCA uses a common fund to which individuals contribute a set amount on a regular basis (usually monthly), while one member withdraws the funds at each meeting.
- ROSCAs are popular where banking is limited, such as in developing economies with emerging markets.
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How a ROSCA Works
In a ROSCA, members pool their money into a common fund, generally structured around monthly contributions, and a single member withdraws the money from it as a lump sum at the beginning of each cycle. This continues for as long as the group exists.
ROSCAs are formed in areas where access to formal financial institutions is limited. Memberships may share familial, ethnic, or geographical aspects, and the structure of payments and withdrawals varies according to the needs of the group. Recipients of funds may be chosen based on financial need, social standing, monetary bids, or random assignment. The organizer of the ROSCA generally receives the first payout.
The successful operation of a ROSCA derives from the social capital of its members, who are usually personally acquainted and part of a community. To default on the obligation would both reduce a person’s standing in the group and lower their creditworthiness. Group pressure insures their commitment.
ROSCAs provide funding to individuals who might not have access to financial institutions, where these individuals often share familial, ethnic, or geographical aspects.
Advantages and Disadvantages of a ROSCA
Beyond the benefits of providing access to funding to individuals who might not have access to the banking system, ROSCAs have the added benefit of accountability. Fellow individuals can help make keeping a commitment easier. This includes making a commitment on how to use their withdrawal. As well, money cannot be freely withdrawn, which can be a positive aspect for many.
ROSCAs pay no interest, and when you will receive a distribution is generally out of the control of members. Granted, they also don’t charge interest. There’s also the risk that other members won’t meet their obligations of making set, regular payments.
ROSCAs have social benefits as well. While the primary objective is usually to achieve the group’s financial goals, ROSCA meetings can also provide opportunities for eating, drinking, and networking. In many places meetings happen according to a group’s rituals.
For example, in Cameroon, ROSCAs are called “djanggi,” and participants exchange greetings and share kola nuts. Drinking occurs after the meeting has concluded. The nature of a particular ROSCA is highly dependent on its members and the group’s history together; therefore, ROSCAs are hard to standardize and vary drastically across the world.
Example of a ROSCA
An organizer might establish a ROSCA for the amount of $1,000. In this case the ROSCA organizer could gather nine trustworthy individuals and require each of them to contribute $100 to the fund monthly. At the end of the first monthly meeting, the organizer would take home a lump sum of $1,000. In the second monthly meeting, another member would take home the next $1,000. This would continue until everyone has a turn with the proceeds. At the end of the 10 months, when everyone has had a distribution, the ROSCA would either disband or begin another round.
How Does a ROSCA Work?
An organizer gathers a group of people to each contribute a set amount of money on a regular basis to a pot. That pot of money is paid out, also on a regular basis, to each member in turn. Once all have availed themselves of the money, the ROSCA either ends or starts another round.
Are ROSCAs Available in the U.S.?
Yes, particularly within immigrant communities. However, there is no hard data on how many there are.
What Happens if a ROSCA Member Doesn’t Live Up to Their Obligation to Pay In?
There is no legal recourse If a member of a ROSCA fails to make their payment. Instead, the failure would result in social disapproval, resulting in a loss of social standing and reduced or eliminated access to the loan of money going forward. However, as members of a ROSCA generally know each other and are part of a community, group pressure is usually sufficient to insure the success of the endeavor.