Th1134525_20538689e distinction between multi-level marketing programs vs. pyramid schemes may seem slight to the casual observer, but the subtle difference between the two will determine if your company is engaging in an illegal activity or not.

Pyramid Schemes vs. Multi-Level Marketing Programs

Most pyramid schemes require that participants pay money in return for two things: 1) the right to sell a product or service; and 2) the right to receive, in return for recruiting other participants into the program, rewards that are unrelated to the sale of the applicable product or service to ultimate retail customers.

Similarly, multi-level marketing programs (“MLMs”) have individuals sell products to the public — often by word of mouth and direct sales, but these individuals, called distributors, are only compensated by earning a commission on their sales.  There are no secondary rewards or bonuses associated with recruiting distributors or for other unrelated activities.  These types of programs are lawful marketing plans, so long as the company maintains its compliance with applicable regulations.

Recent Multi-Level Marketing Programs in the News

As detailed in last Friday’s New York Times, any business entity, even well-respected companies, such as Herbalife®, can erode from being a legitimate MLM to facing financial scrutiny and accusations of operating as a pyramid scheme, unless proper precautions are taken.

How to Maintain a Legitimate Multi-Level Marketing Program

To preserve its legitimacy, MLMs should disclose:

–          The number and percentage of current participants who have not received commissions or bonuses;

–          The median amount of commissions, bonuses and overrides received by all participants, together with the percentage of participants who have received less and those who have received more;

–          The average amount of commissions and bonuses received by all participants; and

–          For each level and rank within the plan, the number and percentage of current participants who have reached that level or rank, and the average length of time it took to reach that level.

Furthermore, MLMs should not, expressly or by implication:

–          Falsely represent the amount of benefits or income that can be, or which is likely to be, derived from participation in the MLM;

–          Falsely represent the amount of sales that any person or persons have made, or that participants can or are likely to make, in the MLM;

–          Make any false or misleading hypothetical MLM earnings claims;

–          Represent that people who fail to make significant income from the MLM are those who do not devote substantial or sufficient effort.

If you are contemplating engaging in an MLM venture, it is advisable that you contact a competent attorney to review the terms of compensation to determine whether the program can confirm its claims about the amount of money distributors can make.  As shown by the Herbalife® situation, regulatory bodies will not hesitate to investigate pyramid scheme accusations and it is a best practice to preemptively protect your company from the time and expense associated with a regulatory action.

If you are interested in learning more about this topic or are contemplating engaging in a multi-level marketing campaign, please email us at info@kleinmoynihan.com or call us at 212.246.0900.

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