How to Spot and Avoid Pyramid Schemes

Today’s contribution comes from across the Atlantic.  Thanks to the British writer over at Plonkee Money for enlightening us on pyramid schemes, keep up on his other articles with his feed.

The Great Pyramids of Albania
I always seem to want to travel to places that are someway off the beaten track, like Timbuktu, Uzbekhistan or Outer Mongolia. One of those places is Albania. I only know a few things about Albania, it used to be a virtually closed communist society ruled by the dictator Enver Hoxha and you can get the ferry there from Corfu.

A more interesting fact from a personal finance point of view is that after the fall of the communist system there in the early 1990s, a series of pyramid investment schemes created the largest companies in Albania and involved two thirds of the population. The collapse of the schemes caused serious civil disorder resulting in the loss of two thousand lives and impoverished many thousands who had invested their entire fortunes in the schemes.

What is a Pyramid Scheme?
According to the IMF, in a typical pyramid scheme, a fund or company attracts investors by offering them very high returns; these returns are paid to the first investors out of the funds received from those who invest later. The scheme is insolvent—liabilities exceed assets—from the day it opens for business.

How Can You Spot a Pyramid Scheme?
In a pyramid scheme at least one of the following is true:
• it is unclear how actual returns are generated
• the returns are abnormally high
• the majority of the return is generated by recruiting new investors to the scheme

What To Watch Out For
Pyramid schemes may be masquerading as multi-level marketing schemes (where you sell products and also get a percentage of the profits from those you recruit to sell the products) or they may be internet based scams. You could also be introduced to one by a friend, relative or acquaintance – most people who are involved in them are being conned out of money, not conning other people themselves. Always do your own research on any opportunity and see if there is an underlying business there.

If it sounds too good to be true, then it probably is.

Ben Edwards, the founder of Money Smart Life, saved up enough to buy a Nintendo back when he was 12 years old. When he used the money to buy shares of Wal-Mart stock instead, he knew he wasn't like the other kids... His addiction to personal finance has paid off for his family and now he's helping you to afford the life that you want. Check him out on the web at Google Plus, Twitter and Facebook.

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