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What is the difference between a Ponzi vs Pyramid Scheme?
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In this article, I will break down the difference between Ponzi Scheme and Pyramid Scheme so you know all there is to know about it!
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What Is Ponzi Scheme vs Pyramid Scheme
There are different types of fraudulent schemes out there where greedy individuals are looking for quick and easy ways to make money at the expense of unsuspecting individuals.
There are two fraudulent schemes out there that are similar but operate differently, namely, Ponzi and Pyramid schemes.
In this post, I will tell you about how a Ponzi scheme is different from a Pyramid scheme.
However, before I begin, let’s first define each of these schemes.
A Ponzi scheme is a type of investment fraud where the Ponzi scam operator promises high returns to investors, collects money from them, and uses that money to pay “fake” returns to other investors.
In other words, the Ponzi operator uses money obtained from new investors to pay old investors, making them believe that they are legitimately getting a return on their investment.
Investors fall victim to this type of scheme as they are attracted by the promise of high returns and low levels of risk.
The way the fraudsters make money is to either pocket a new investor’s money or charge a fee for the investment services they are apparently rendering.
A Ponzi scheme will work and remain undetected for so long as the operators are able to attract new investors to generate the cash flow they need to pay the fake returns to old investors.
A Pyramid scheme refers to a fraudulent business model where the Pyramid operators work to recruit more operators.
The more members the Pyramid operators are able to recruit, the more money they can make.
Typically, the fraudsters will either make money by forcing each new member to pay a fee or purchase something from the existing operators.
A Pyramid scheme can be successful for so long as new members are able to recruit other members.
Keep reading as I will further break down the differences between Ponzi schemes and Pyramid schemes so you know how they work.
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Ponzi Scheme And Pyramid Scheme Differences
Although Ponzi schemes and Pyramid schemes are similar, they are quite different in how they work and operate.
What’s common with both Ponzi and Pyramid schemes is that they are fraudulent activities intended to take advantage of unsuspecting individuals who get fooled by these savvy fraudsters.
The main objective of both schemes is to convince an individual that he or she will make money.
However, the way the victim is promised to make money is different.
Now, let’s see how the Ponzi scheme and the Pyramid scheme differ.
Nature of Scheme
A Ponzi scheme is a type of fraudulent activity where the operator presents himself or herself as an investment manager.
The operator attracts investors by promising high returns on unique investment opportunities.
In exchange for the opportunity to make high returns by assuming little to no risk, the scam operator charges investors a fee.
Alternatively, the Ponzi operator may simply divert investor money to personally pocket the money.
A Pyramid scheme is more of a business model that looks like a legitimate multi-level marketing practice.
The Pyramid scam operators look to recruit other individuals who are looking to make money for themselves.
The new members are shown how they can make money by enrolling new members to the business.
The more members are recruited, the more the original Pyramid operators can make money as they are paid a bonus every time a new member is enrolled.
Another difference between a Ponzi scheme and a Pyramid scheme is the nature of the fraudulent promises made to the victims.
In a Ponzi scheme, the victim is told to give his or her money so the Ponzi operator can invest it.
The victim is only requested to invest money and passively earn profits.
On the other hand, a Pyramid scheme is a model where the operators attract victims who are looking for a side hustle or work allowing them to make money.
They are given the promise that the more members they recruit, the more money they can make.
In a Pyramid scheme, the victims eventually become stakeholders in the fraudulent activity as they earn a profit every time a new member is enrolled.
Source of Payment
The way a Ponzi scheme works is that the scammers are paid using money invested by every new investor.
The idea is to have a new investor provide the cash flow needed to pay fake returns to previous investors leading them to believe they are legitimately earning a return on their investment.
On the other hand, the Pyramid scheme works in such a way that each new member of the scheme will actively work to find new members.
For each new member enrollment, the operator collects a bonus.
The more the operator is able to recruit new members, the more money it can make.
In a Ponzi scheme, scammers generally earn a profit in two ways: by charging a fee to manage the victim’s fake investments or by simply pocketing the investor’s money.
The more investors put up the money, the more the scammers stand to gain.
In a Pyramid scheme, scammers will make money by earning a profit every time a new member is recruited.
Typically, a new member is asked to pay an initial fee or purchase some products.
This fake sale allows the Pyramid operators to generate the cash flow they need to pay themselves a bonus.
A Ponzi scheme can potentially work for many years provided that the operators are able to consistently attract new investors.
This scheme generally collapses when the operators are unable to find new investors to generate the needed cash flow or if too many investors wish to redeem their investment at the same time.
A Pyramid scheme can also last a long time but may potentially collapse sooner than Ponzi schemes.
A Pyramid scheme works to the extent each new member is able to recruit a new member.
However, since a Pyramid scheme tends to grow exponentially, the operators will quickly reach a point in time where they have exhausted their ability to attract new members.
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Ponzi Scheme vs Pyramid Scheme Examples
Let’s look at a few examples of Ponzi and Pyramid schemes to better understand the concept.
Ponzi Scheme Examples
Bernie Madoff was a Wall Street broker that operated a Ponzi scheme for nearly 30 years where he defrauded investors of billions of dollars.
His Ponzi scheme was eventually discovered when Harry Markopolos tipped the authorities off.
Another famous Ponzi scheme was that of JSG Capital Investments where two individuals promised investors the potential to make high returns on pre-IPO stocks.
However, the Ponzi operators used the investor’s money to pay themselves a profit.
Pyramid Scheme Examples
A notable Pyramid scheme is that of BurnLounge, which was an online music store attracting individuals who paid for the right to sell music.
The members could also earn a bonus whenever they would enroll other members to the scheme.
Another Pyramid scheme was that of Give and Take where the operators recruited other members by promising them they could earn a £20,000 bonus for recruiting others.
However, every new member needed to pay an entry fee amounting to £3,000.
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So there you have it folks!
What is the difference between a Ponzi scheme and a Pyramid scheme?
In a nutshell, both Ponzi and Pyramid schemes are similar in their fundamental premise which is to take advantage of individuals who are unaware that they are being defrauded.
A Ponzi scheme is a fraudulent investment tactic where a person promises to offer an investor high returns on their investment.
The scammer will use the money invested by one investor to pay a fake return to other investors.
A Pyramid scheme is a fraudulent activity where the original scammer will recruit other individuals who will then recruit others, and so on.
Every time a new member joins, the fee they pay or the products they purchase allows the scammers upstream to earn a profit.
Now that you know what are the differences between Ponzi and Pyramid schemes, good luck with your research!
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