You may think you have an idea for a good investment opportunity, but is your plan legal? While many investment opportunities are legitimate, some are illegal, including Ponzi schemes.
What is a Ponzi scheme?
Ponzi schemes are a type of pyramid scheme. In a Ponzi scheme an investor is encouraged to invest funds into the scheme on the promise that the scheme will invest these funds risk-free, generating a lot of money on returns that will then go back to the investor.
However, the scheme is fraudulent. The organizers of the scheme do not invest the funds. Instead, they take this money and give it to older investors in the scheme. They also may keep some of the funds for their own benefit.
Since no funds are actually being invested and thus there are no real earnings, a Ponzi scheme needs to constantly entice new investors to keep going. If this becomes difficult or if a lot of existing investors leave the scheme, the scheme will ultimately fall leaving many investors out of their money.
Bernie Madoff: an example of a Ponzi scheme
You may have heard of the infamous Ponzi scheme headed by financier Bernie Madoff. The scheme lasted 17 years and cost investors billions of dollars.
In the scheme, Madoff promised investors that he could generate significant and regular returns via a split-strike conversion. While split-strike conversions are legitimate investment strategies, in fact Madoff took the investors’ money and put them in a bank account that he used to pay off older investors who were leaving the scheme.
Ponzi schemes are illegal
Ponzi schemes are a type of white-collar crime. They are not, as some might think, victimless crimes. They can cost people significant sums of money. While it can be tempting to try to operate a Ponzi scheme, remember that there are serious consequences for being caught.