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How To Spot A Financial Scam

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I was watching “American Greed” on CNBC and was surprised by the number of people that were duped by con artists. Con artists trick millionaires, celebrities, and average investors out of their hard-earned dollars with the promise of quick profits. These crooks use ponzi schemes, pyramid schemes, and offshore investment scams to enrich themselves and defraud investors.

Ponzi Schemes

These “high yield investments” promise exorbitant returns with little to no risk. Remember the old adage that if something seems too good to be true, then it probably is. People that promise instant riches are often scammers just looking to make a quick buck. Sam Israel, Bernie Madoff, and Martin Frankel ran some of the largest Ponzi schemes in the history of the United States. These financial criminals often claimed that they could generate extraordinary returns because of a secret trading model or access to financial instruments not available to the general public. A Ponzi scheme is a shell game where the money from new investors is used to pay old investors. Ultimately, the scammer runs out of new investors and is unable to pay old investors and the scheme collapses. So, how can you spot a Ponzi scheme?

Signs of a Ponzi scheme are:

  • The investment returns are abnormally high or unusually consistent. Markets fluctuate and so should the value of your investments.
  • The company makes impossible claims and guarantees like “double your money back” in 6 months.
  • The company makes it difficult to withdraw your money, claiming that funds are frozen.

Pyramid Schemes

A pyramid scheme is an “investment opportunity” that promises members money based on their ability to recruit new members. Pyramid schemes often sell products which have little to no value and the only way that you make money is by recruiting new members to join the business. All of the money is made by the members that got in early while the other members are often left with nothing. Pyramid schemes involve complex matrix models and payout formulas to determine how much money you are going to make. The allure of pyramid schemes is that early investors are able to make large sums of money for a little while. Pyramid schemes often use buzzwords like upline and downline. It is increasingly difficult today to tell the difference between pyramid schemes and multi-level marketing.

Signs of a potential pyramid scheme are:

  • The emphasis is on recruiting new distributors, not the products.
  • The business has very high start-up costs.
  • The company will not buy back unsold inventory.

High-Yield Offshore Investments

Con artists will often tout offshore investments as high-yield and tax-free. Wealthy people made offshore investing famous by using it to reduce their tax burden. Offshore investing involves holding money in a country outside of your legal residence. This normally takes place in less regulated countries. While offshore investing is perfectly legal, it can be a very risky proposition. Less regulated countries do very little to police their financial institutions. Once your money is out of the country, it is almost impossible to get back. Offshore investment scams can be hard to detect. Allen Stanford used offshore banks to defraud investors of $8 billion dollars.

Signs of a fraudulent offshore investment:

  • The institution promises high interest rates on financial products such as CDs and bank accounts that pay 30% interest.
  • The financial institution claims that the investment is free from taxes in all countries. U.S. citizens have to pay taxes on income earned in any country.
  • The investment is risk-free.

Has anyone ever tried to get you to invest in a financial scam?  If so, when did you realize you got sucked into a scam?  Let’s share our experiences to help other people not make the same mistakes.

Mark Riddix
Mark Riddix is the founder and president of an independent investment advisory firm that provides personalized investing and asset management consulting. Mark has written financial columns for Baltimore and Washington, D.C. area newspapers and is the author of the book, "Your Financial Playbook."

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