A Ponzi scheme is a fraudulent money making operation. In a typical Ponzi scheme, the person behind the fraud advertises, usually by word of mouth, that he or she can give extraordinarily high returns on an investment in a short time period. People invest money, and at the beginning point of the scheme, they receive the promised return on their investment. Based on the initial success, they reinvest, and word spreads to attract new investors. The money from the new investors is used to pay the return on other investments.
Because there are no actual profits to back up the payouts, the system eventually has to come to an end. This happens when either the original promoter of the scheme disappears without making the promised payouts, or the scheme collapses because new investments slow down.
- In a pyramid scheme, payouts come from recruiting new members to the scheme. In a Ponzi scheme, there is no need to recruit new members, and payouts come directly from the operator of the scheme.
- A Ponzi scheme usually claims that the promised returns are based on some investment approach, such as insider connections or a novel idea. Pyramid schemes explain that returns come from new investors.
- Ponzi schemes can last a lot longer than pyramid schemes, because they rely on reinvestment, and not just on new investors.
No. Ponzi schemes are not legal and a type of criminal fraud. If you suspect that you have been the victim of a Ponzi scheme, you should contact the police or the Federal Trade Commission.
With the growth of the internet and online investments, Ponzi schemes are becoming more and more common. Therefore, before making any investment, you should take the time to investigate the details and make sure that the investment is not fraudulent. Steps you can take to protect yourself include:
- Find out what you are investing in, and how profits are being earned
- Contact the Federal Trade Commission and see if the investment is valid
- Use your common sense – if an investment sounds too good to be true, it probably is!
If you are accused of being involved in a Ponzi scheme, you should contact a fraud attorney immediately. Ponzi schemes are a form of criminal fraud and can carry severe penalties including jail time. An attorney can help you understand the laws dealing with Ponzi schemes, and can explain any defenses that may be available to you.