Spot Pyramid Schemes Before You Sign Up

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If you’ve ever been told that you could make easy money and it sounds too good to be true, it probably is. Pyramid schemes often sound like enticing business deals, but fraudsters may use this “business model” - to take advantage of you.

"The SEC’s guidance on pyramid schemes advises investors to “exercise caution...if what is being sold is speculative or appears inappropriately priced.” But experts say this can be difficult to judge.

Pyramid-scheme operators have “learned the techniques of saying we’re a legitimate company,” by purporting to want to make money mostly from sales, rather than new recruits, said Joseph Mariano, chief of the Direct Selling Association.

There is no hard-and-fast test of whether a scheme is legitimate, according to lawyers. Instead, the decision rests on what is often a complicated analysis of revenues and other factors. “It can be like nailing Jell-O to a tree proving they’re pyramids,” said Kevin Thompson, an attorney for multilevel-marketing companies." - WSJ,com

Before you invest your time and money, it’s important to ask good questions and research the company.

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Here are some typical characteristics of a pyramid scheme:

Emphasis on recruiting
No genuine product or service is sold
Promises of high returns in a short period of time
Easy money or “passive income” (money you earn without doing anything)
No demonstrated revenue from retail sales

This video shows how a pyramid scheme gets started and grows:

All pyramid schemes eventually collapse, and most investors lose their money.

Fraudsters frequently promote pyramid schemes through social media, Internet advertising, company websites, group presentations, conference calls, YouTube videos, and other means. Pyramid scheme promoters may go to great lengths to make the program look like a business, such as a legitimate multi-level marketing (MLM) program. But the fraudsters use money paid by new recruits to pay off earlier stage investors (usually recruits as well). At some point, the schemes get too big, the promoter cannot raise enough money from new investors to pay earlier investors, and people lose their money.

These are some of the hallmarks of a pyramid scheme:

Emphasis on recruiting. If a program focuses solely on recruiting others to join the program for a fee, it is likely a pyramid scheme. Be skeptical if you will receive more compensation for recruiting others than for product sales.

No genuine product or service is sold. Exercise caution if what is being sold as part of the business is hard to value, like so-called “tech” services or products such as mass-licensed e-books or online advertising on little-used websites. Some fraudsters choose fancy-sounding “products” to make it harder to prove the company is a bogus pyramid scheme.

Promises of high returns in a short time period. Be skeptical of promises of fast cash – it could mean that commissions are being paid out of money from new recruits rather than revenue generated by product sales.

Easy money or passive income. There is no such thing as a free lunch. If you are offered compensation in exchange for doing little work such as making payments, recruiting others, or placing online advertisements on obscure websites, you may be part of an illegal pyramid scheme.

No demonstrated revenue from retail sales. Ask to see documents, such as financial statements audited by a certified public accountant (CPA), showing that the company generates revenue from selling its products or services to people outside the program. As a general rule, legitimate MLM companies derive revenue primarily from selling products, not from recruiting members.

Complex commission structure. Be concerned unless commissions are based on products or services that you or your recruits sell to people outside the program. If you do not understand how you will be compensated, be cautious.

All Pyramid Schemes Collapse

When fraudsters attempt to make money solely by recruiting new participants into a program, that is a pyramid scheme, and there is only one possible mathematical result – collapse. Imagine if one participant must find six other participants, who, in turn, must find six new recruits each. In only 11 layers of the “downline,” you would need more participants than the entire population of the United States to maintain the scheme. This infographic shows how all pyramid schemes are destined to collapse.