A pyramid scheme is an illegal business model that instead of supplying investments or sale of products or services, as with a legitimate company, recruits members with a promise of payments for enrolling other into the pyramid scheme. As the name implies, as recruiting increases and multiplies, new recruiting quickly becomes impossible.
Some multi-level marketing (MLM) plans have been classified as pyramid schemes, while some MLM plans are actually legitimate. A MLM is a pyramid-shaped marketing strategy where profits are derived from two revenue streams: direct sales and commissions based on the sales of recruited team members.
The FBI puts out information on all types of fraud, and defines franchise fraud as a pyramid scheme. The FBI website defines pyramid scheme as, “marketing and investing frauds in which an individual is offered a distributorship or franchise to market a particular product. The real profit is earned, not by the sale of the product, but by the sale of new distributorships. Emphasis on selling franchises rather than the product eventually leads to a point where the supply of potential investors is exhausted and the pyramid collapses.” https://www.fbi.gov/scams-and-safety/common-fraud-schemes.
The earlier investors in a pyramided scheme may receive a high rate of return, but those gains are only paid by new recruits. So, the gains are not based on return on any real investment. The only way money is generated is by the recruiting of additional members. Thus, invariably all pyramid schemes are unable to continuously attract new investors and ultimately collapse.
Bottom line – the FTC has said, “If the money you earn is based on you sales to the public, the company may be a legitimate multilevel marketing plan.” https://www.consumer.ftc.gov/blog/telltale-signs-pyramid-scheme.
If you have questions on how to operate your company, or if you’re thinking of becoming involved with a company, best to speak with an attorney before getting involved.
Author: Kameron Kramer
Kameron is an experienced business law and intellectual property attorney. With a technical background gained as a chemical engineer, Kameron uses his varied skills to provide general counsel and start-up services to many local and regional companies.