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What is a Pyramid Scheme?
Also referred to as a pyramid scam is a sketchy and unsustainable business model. In this model, the original investors or top-level members make money by recruiting others as opposed to selling actual products or services. The investors at the top recruit newer members who get to make upfront payments to those who enrolled them. The newer members are promised earnings depending on the number of people they recruit into the scheme. The concept behind a pyramid scheme could seem simple, but investors often receive a presentation in disguise form. Pyramid schemes are illegal in some countries as they refer to it as a form of financial fraud.

How Do Pyramid Schemes Work?

The scheme takes a structure of a pyramid just as its name suggests. It begins with an individual who tops the hierarchy. S/he goes ahead and recruits another individual that is expected to invest a specific amount. The same amount received is what is paid to the original recruiter. For a new member to receive a return on his investment, he has to find individuals to invest. The chain goes on and one in that manner. Let’s take, for instance, a founder member X, sitting at the top of the hierarchy. X recruits ten individuals to invest in the scheme and are directly below him. Each person recruited has to make a payment that will be funnelled to X’s account. As if that is not enough, each of the new ten members, has to recruit other ten. At the end of the period, the scheme has 100 members who must pay fees to the tier-two recruiters. There is a percentage of all these payments channelled to X. During recruitment events, individuals who will be in a position to take up the challenge will receive a substantial amount of money from their recruits. It, however, is only possible in theory. The point is that the recruitment goes to an extent where the scheme can’t support itself. The prospective member pool tend to reduce over time until the scheme shuts down. The top-level recruiters get to walk away with a massive amount while a majority of the lower-levels walk away with nothing but losses.  The scheme heavily relies on investments from recruits; they, therefore, do not involve the sale of actual products or services with intrinsic value. Members are deceived to having a perception that they are investing and will make a profit. The scheme, however, doesn’t result in wealth creation.

Types of Pyramid Schemes
1.Multi-level Marketing (MLM)

MLM is a legal business practice as opposed to other kinds of pyramid schemes. It, however, involves the trading of actual goods and services as opposed to other forms of pyramid schemes. As much as sales are included, a member doesn't need to close any sales. They get their income by recruiting members under them. An individual recruits others to help with selling a product or service. What distinguishes MLM from other pyramid schemes is the fact that it involves the sale of an actual product or service with intrinsic value. There are, however, MLM that exists in the form of a pyramid scheme. In this case, the members do sell materials that have little or no tangible value. Take, for instance, the sale of printed materials such as educational courses. Such MLMs thrive and grow by selling the no-value products to recruits at a high cost and then sell them to the next generational members.

2.Ponzi Schemes

Ponzi schemes do not necessarily take the shape of pyramid schemes. What the two share in common is the fact that they promise high returns to existing members through investment money from recruits. In essence, the Ponzi scheme works with a theory of robbing a new member to pay the existing one.

3.Gift Promotions

Schemes disguised as gift promotions are frequent occurrences in investment clubs. The point here is that you are given a gift as a recruiter from a new recruit. If they recruit gets more people to join the scheme, he receives gifts from them.

4.Chain Emails

With this scheme, a naïve recipient is persuaded to donate a considerable amount of money to individuals listed within the email. Once the donation is made, the donor is asked to replace the first name in the email with his before forwarding the chain to his group of contacts. The scheme works with the hope that one of the group contacts will donate. Theoretically, recipients continuously collect the donation until their name is deleted from the list.  

How Pyramid Schemes Fail

The scheme thrives and remains viable only if the lowest levels remain more extensive than the upper ones. It is natural for the scheme to tumble or collapse once the lowest levels shrink. By the nature of pyramids, it is quite impossible to sustain it forever. This means that somewhere along the chain, some people will inevitably lose their investment.

Characteristics of a Pyramid Scheme

1.Emphasis on Recruitment; Pyramid schemes do rely much on recruitment and upfront fees. It, therefore, places much emphasis on others to join and opts for recruits to selling valuable products or services. 2.No Actual products or services; one should beware and cautious of schemes that do not involve the sale of products or services with intrinsic value. This is a move by most fraudsters to deceive people into investing in superior virtual products. 3.The promise of a high return on investment; there is no short-cut to investing. The common saying goes, ‘when the deal is too good, think twice.’ Investments involve risks and take time to mature. Be cautious, therefore of schemes that offer you a quick way to make money within a short time. This is even impossible since they do rely on fees from recruits. The same is used to pay off early investors. 4.Lack proof of revenue from retail sale; before joining any scheme, ask for proof of revenue like financial statements. Such records will show you the kind of activities the company partakes. A genuine scheme should be receiving income from the sale of products or services and not recruitment of individuals.


A pyramid scheme is a quick-cash insinuation. It is more of a scam that has its basis on an unsustainable business model. Investors should, therefore, exercise caution with such schemes.

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