Nearly 700 inmates living in these places will now have to be sent back to their relatives immediately.
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"The relatives can take their patients for worship to the shrine but they cannot leave them at the mercy of these shelters masquerading as mental asylums," state Labour Minister Anwar Raja said.
The state government has asked the district authorities to file a comprehensive report on the incident.
India's supreme court has asked for a report from the state government, saying the incident raised important human rights questions.
Chains
On Wednesday, officials toured the mental homes, inspecting the premises and warning the owners that they faced arrest if they continued to chain the inmates.
The BBC's Jill McGivering said patients lined up to have their chains broken, clearly delighted.
But many of the owners oppose the move, saying that without the chains, it is impossible for them to control the patients, many of whom have severe psychiatric disorders and may be violent.
Monday's fire has shocked people in Tamil Nadu, with almost all political parties demanding a thorough investigation.
They say a mental asylum - where proper treatment is available - should be set up instead.
Allegations that some of these patients were tortured have been examined by the human right commission of the state.
But social activists say that though the government had formulated guidelines for the care of the patients, they were never monitored.
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