Yesterday I talked about avoiding Ponzi schemes, which is essentially one person paying off old investors with the money from new investors, keeping the lion’s share of the money for himself (or herself).
Today, I’d like to talk about a close cousin of the Ponzi scheme: the pyramid scheme.
Pyramid schemes often are presented as MLM (multi-level marketing) business plans. While I think that MLMs can often be a valid business model, it is a sad fact that many sharks have taken advantage of inexperienced folks and made them impossible promises.
A MLM is a business model that gets the word out quickly about a new product and that pays people in two ways: 1) for sales they make and 2) for recruiting new salespersons. A member of a MLM can make money just by selling product, without ever needing to recruit new members. But a pyramid scheme works differently.
In a pyramid scheme, there is a certain buy-in cost (perhaps for training materials or membership) and in order to recoup that initial cost the member must recruit a certain number of new members, who in turn will buy into the program. The new member’s money is supposed to pay back the initial investment and eventually is said to make them a profit and each level of member recruits more and money is sent higher and higher up the pyramid.
But the problem is that without new member recruitment, the whole system collapses and only the first few members make any money – the rest lose everything they put into the system. One website sums up the risks of pyramid schemes this way:
No wealth has been created, no product has been sold, no investment has been made, and no service has been provided.
In other words, it just money changes hands – not business.
For their inherent instability and unrealistic promises, pyramid schemes are illegal in the United States. The FTC has posted information to help people to identify potential pyramid schemes here.
I want you to make smart investments and to secure your financial future. In no way do I recommend pyramid schemes or recruiting people for money and not offering them a service or a product.