FTC issues 2018 guidance on MLM pyramid schemes
New year, new guidance from the FTC on MLM pyramid schemes.
In a January 4th “offer of business guidance concerning multi-level marketing”, the FTC has attempted to clarify common questions and concerns related to MLM and pyramid schemes.
For some reason the FTC inexplicably goes to great lengths not to mention “retail sales” in their guidance, but they do refer heavily to “ultimate users”.
This is a bit confusing, as ultimate users” can refer both to affiliates and retail customers.
The FTC’s 2018 guidance is rooted in the 1975 Koscot decision,
which observed that such enterprises are “characterized by the payment by participants of money to the company in return for which they receive
(1) the right to sell a product and
(2) the right to receive in return for recruiting other participants into the program rewards which are unrelated to the sale of the product to ultimate users.
As we’ve seen with the Moolenaar Amendment (HR3409), this has led to lawmakers backed by the MLM industry attempt to legitimize a 100% internal consumption model – otherwise known as affiliate autoship recruitment.
That is to say you sign up as an affiliate, pay a monthly autoship fee, said fee qualifies you to earn residual commissions and you then get paid to recruit others who also pay a monthly fee.
Ironically, the current FTC commissioner is opposed to the Moolenaar Amendment, which makes the ongoing lack of concrete clarification on retail sales frustratingly perplexing.
The FTC’s guidelines on an “unfair or deceptive” compensation plan that “harms consumers” is as follows:
An MLM compensation structure that incentivizes participants to buy product, and to recruit additional participants to buy product, to advance in the marketing program rather than in response to consumer demand in the marketplace, poses particular risks of injury.
Where such an unlawful compensation structure exists, a participant is unlikely to be able to earn money or recover his or her costs through selling product to the public.
In such circumstances, participants will often attempt to recruit new participants who will buy product, and pressure existing recruits to buy product, with little concern for consumer demand.
Where an MLM has a compensation structure in which participants’ purchases are driven by the aspiration to earn compensation based on other participants’ purchases rather than demand by ultimate users, a substantial percentage of participants will lose money.
“Consumer demand” can be from affiliates or retail customers.
The issue however is when legitimate consumer demand from affiliates (by way of autoship or a manual monthly spend) also qualifies affiliates for residual commissions (typically a monthly Personal Volume (PV) requirement).
As we saw in both the Herbalife and Vemma busts, in the absence of significant retail activity, the FTC weighs compensation qualification over genuine consumer demand in these instances.
Why the FTC can’t just come out and state “autoship is fine so long as you have retail sales”, I have no idea.
Instead, we get lengthy paragraphs that in all likelihood just confuse consumers looking for actual regulatory guidance.
How does the FTC distinguish between MLMs with lawful and unlawful compensation structures?
At the most basic level, the law requires that an MLM pay compensation that is based on actual sales to real customers, rather than based on mere wholesale purchases or other payments by its participants.
In evaluating MLM practices, the FTC, in accord with established case law, focuses on how the structure as a whole operates in practice, and considers factors including marketing representations, participant experiences, the compensation plan, and the incentives that the compensation structure creates.
The assessment of an MLM’s compensation structure is a fact-specific determination that the FTC makes after careful investigation.
TL;DR: The FTC looks for retail sales and if it doesn’t find any, that compensation plan is “unlawful”.
The FTC is likely to consider when evaluating an MLM’s payment of compensation that is premised, in part, on participants buying product that is not resold.
First, the FTC staff is likely to consider whether features of the MLM’s compensation structure incentivize or encourage participants to purchase product for reasons other than satisfying their own personal demand or actual consumer demand in the marketplace.
Second, the FTC staff is likely to consider information bearing on whether particular wholesale purchases by business opportunity participants were made to satisfy personal demand.
The persuasiveness of this information in any particular case will depend on its reliability.
TL;DR: Affiliates purchasing product each month and no equivalent retail activity? Pyramid scheme.
To be clear, while it might sound like I have some sort of bias against affiliate autoship, I do not.
I’m fine with affiliate autoship in and of itself, so long as it’s not the primary source of revenue generated by an MLM company.
If it is, then it means the company is full of affiliates purchasing products each month to qualify for commissions (irrespective of whether they are ultimate users of the product or not), therefore classifying that company as a pyramid scheme.
How much or how little affiliate autoship in and of itself is not an issue – a viewpoint I share with the FTC.
Is it still correct, as stated in the 2004 “FTC Staff Advisory Opinion – Pyramid Scheme Analysis,” that “the amount of internal consumption in any multi-level compensation business does not determine” whether the FTC will consider the MLM’s compensation structure unlawful?
Yes. Personal or internal consumption – meaning product participants purchase and consume to satisfy their own genuine product demand – does not determine whether the FTC will consider an MLM’s compensation structure unlawful.
Note that this is not the same as affiliate autoship volume weighted against retail sales.
The 2004 letter should not be misconstrued as suggesting that an MLM can lawfully pay compensation on wholesale purchases that are not based on actual consumer demand by characterizing such purchases as “internal consumption.”
In granting a preliminary injunction against Vemma Nutrition Company, the court rejected the argument that individuals who had joined as business opportunity “Affiliates” only wished to purchase product for their own consumption, finding that this claim was “not based in fact.”
In that context the percentage of company revenue generated via affiliate autoship very much matters.
One of the key components of the Moolenaar Amendment is a buyback provision, guaranteeing unsold product be bought back at 90% of the original cost.
The idea here is that it’ll be OK for MLM companies to run autoship pyramid schemes, provided they offer to buy back product purchased to qualify for commissions.
This doesn’t work because often affiliates don’t bother (they’re too embarrassed, ashamed, whatever), and/or additional criteria is implemented that makes returning product extremely difficult.
Thankfully the FTC is clear on this point;
It can be a beneficial practice if an MLM allows participants to return unsold product to the MLM because the ability to return product can decrease the risk of losing money for participants who take advantage of that policy.
Allowing participants to return product, however, does not in and of itself shield an unfair or deceptive compensation structure from law enforcement.
As a general matter, money-back guarantees and refunds are not defenses for violations of the FTC Act.
Even where such policies are offered, dissatisfied participants may not seek a refund for a number of reasons, including because they are unaware of their right to a refund, the refund process is too complicated or obscure, or they blame themselves for not being able to sell the product.
Basically what I said above.
Perhaps the most perplexing component of the FTC’s guidelines is its recommendations to MLM companies regarding marketing.
–A company must have a reasonable basis for the claims it makes or disseminates to current or prospective participants about its business opportunity.
A “reasonable basis” means objective evidence that supports the claim. If a company lacks such objective supporting evidence, the claims are likely deceptive.
–Some business opportunities may present themselves as a way for participants to get rich or lead a wealthy lifestyle.
They may make such representations through words or through images such as expensive houses, luxury automobiles, and exotic vacations.
If participants generally do not achieve such results, these representations likely would be false or misleading to current or prospective participants.
–Business opportunities may also claim that participants, while not necessarily becoming wealthy, can achieve career-level income.
They may represent through words or images that participants can earn thousands of dollars a month, quit their jobs, “fire their bosses,” or become stay-at-home parents.
If participants generally do not achieve such results, these representations likely would be false or misleading to current or prospective participants.
–Even truthful testimonials from the very small minority of participants who do earn career-level income or more will likely be misleading unless the advertising or presentation also makes clear the amount earned or lost by most participants.
–In addition, a hypothetical earnings scenario – such as “if you recruit 30 people who each sell $1,000 of product each month, you will earn $1,500 a month” – may imply that the assumptions made (e.g., the number of people recruited, the amount sold by each recruit) are consistent with the actual experiences of typical participants.
If the assumptions are not, the earnings scenario likely would be false or misleading to consumers.
–An MLM’s compensation structure may give its participants incentives to make representations about the business opportunity to current or prospective participants.
As a consequence, an MLM should (i) direct its participants not to make false, misleading, or unsubstantiated representations and (ii) monitor its participants so they don’t make false, misleading, or unsubstantiated representations.
Truth In Advertising has been documenting explicit examples of violations of the above for years. Sadly for the most part, nothing is done about it.
Can you recall the last time the FTC went after an MLM company for deceptive advertising outside of a broader complaint?
Yeah, neither can I.
Most infuriating of all however, is the refusal of the FTC to stand by any of its own guidance.
If you make it through the entire 2018 guidelines and feel you’ve got a better understanding of FTC regulation of MLM pyramid schemes, think again.
Are the answers in this document legally binding?
No, this is an FTC staff business guidance document. It does not necessarily represent the views of the Commission or any Commissioner and is not intended to, and does not, create any rights or obligations with respect to the Commission, the FTC staff, or the public.
Why issue industry specific guidelines you’re not willing to stand behind?!
I know this sentiment is a broken record but we are easily a few decades overdue for specific, clear and concise guidelines.
Otherwise we get what is interpreted as knee-jerk reactions, and companies continuing to push the boundaries of legality in a murky regulatory environment.
As the gate-keepers of that environment, not good enough FTC. Not nearly good enough.
Sounds like someone is being paid not to make a stone cold outline to enforce!!
So when is the next update to the “guidelines” we will see?
If nothing was changed here I guess they feel free to do as they want for another year maybe.
Hopefully the states and provinces pick up the slack ala Texas. So far the provinces are just issuing alerts.
Maybe they’ll announce some guys I’ve reported. I totally tossed Ken Labine under the bus in a back and forth correspondence with Alberta’s securities commission.
Getting the apps removed from the app stores is key.
If we all complain that Apple is exposing its customers and condoning fraud and ponzi… the apps will come down. And having “apps” lend credibility to the schemes.
i read it twice and am doubly confused for my effort!
somebody gave the FTC cat a ball of wool and what a tangled web of words they’ve woven!
there are only two things i can discern:
– unlike the previous FTC leadership this new FTC leadership is not clearly saying that if majority sales is not to customers outside the MLM business opportunity then it is a pyramid scheme.
this guidance talks about real consumers and ultimate users and retail customers without defining any of these terms.
[i think they’re looking for retail but not putting a number on it]
– also IMO, the current FTC is taking a stand against the moolenaar amendment and HR 3409:
it’s perfectly okay if the FTC wants to take a case by case approach and not want federal legislation.
but if the FTC wants a case by case approach they need to adopt an unwavering definition of ‘ultimate users’.
the previous FTC insisted that ‘ultimate users’ were outside the business opportunity.
the current FTC’s guidance is gobbledy gook on the subject of ‘ultimate users’.
the previous FTC under edith ramirez while exercising it’s choice to enforce on a ‘case to case’ basis, demanded over 50% retail or death.
this current FTC while expressing it’s choice to continue enforcement on a ‘case to case’ basis has clarified [ FTC acting chairperson maureen olhausen’s speech to the DSA in november 2017] that the industry does not necessarily have to follow the herbalife/vemma settlements:
if the FTC cannot adopt one unshakable standard for regulating on a ‘case to case’ basis then how can they be handed that power?
if the previous chairperson edith ramirez said vemma/herbalife should be the blueprint for the industry, but maureen olhausen comes in and says ‘bah’, why should the FTC have the discretion to regulate based on their perception rather than a set standard?
since the FTC is politicized and polarized, a better option would be a federal law to regulate the MLM industry.
since a federal law has been proposed via HR 3409 all stakeholders should sit at the table and decide whether retail can be 0% or 25% or 50% or 100%.
this indecisiveness has to end.
MLM attorney kevin thompson has published his understanding of the current FTC guidance [numbering mine]:
in point 3] thompson says – ‘Legitimate demand is uncovered by looking at incentives in the pay plan (any requirements to buy), amount of retail sales, tone of the marketing materials, etc.
well, we’re back to square A.
what ‘amount of retail sales’ will this FTC be satisfied with?
a few days back, thompson predicted that HR 3409 will be passed in 2018, but today he seems to be happy that the FTC wants to continue regulation on a ‘case to case’ basis without specific legislation?
I’m sticking with 50% as a benchmark until I see a lawsuit from the FTC.
Settlements obviously aren’t legally binding to the rest of the MLM industry but they’re the best guidelines we have.
These 10,000 word essays that they footnote with “lolz none of this matters and we don’t stand by any of it” are worthless.
Len Clements tweeted that FTC basically reaffirmed their 2004 position in 2018 and the sky did not fall.
Yeah they didn’t change or further clarify anything… but that’s the problem.
the problem i have with this, is that neither is 50% the benchmark by law, nor does the FTC itself stand by this benchmark consistently.
the FTC is biased according to the politics of the day.
if politics dictates the benchmark for legality, then i would rather hear it from a vote in parliament than a regulator.
how can i follow a split personality FTC which is one ways for 4/8 years and the other ways for the next 4/8 years. i’ll just be a confused mess! 🙂
Just ban MLM participants from consuming their own product. Easy. If they really want weight loss pills or scented candles they can buy the same thing from a different company. Please don’t give me the “but they really believe in the product” guff.
It is commonplace for accountants to be banned from owning shares in the companies or funds whom their employer audits, even if they have absolutely nothing to do with that audit, which for someone working at Big 4 accountant can be a big headache when a quarter of the investment market is closed to them.
It doesn’t matter that this is often unnecessary and an accountant might be banned from buying shares even though he has zero insider knowledge. Caesar’s wife must be above suspicion. Even the appearance of a conflict of interest must be eliminated.
The same principle should apply for MLM. It doesn’t matter if an MLM affiliate might genuinely want to consume their product. It should be more important to the MLM company that no-one could even suspect them of being a pyramid scheme.
I mention accountancy to show that this is not some over-the-top impractical measure I am proposing, merely standard practice in other industries.
This need to be above suspicion outweighs any pleasure MLM affiliates would get from consuming their product instead of a near-identical product sold by a rival, just as the need for an auditor to be above suspicion outweighs the inconvenience of being banned from investing in a quarter of the market.
Banning their affiliates from consuming their product and demanding monthly records of sales to retail customers would mean an MLM company can say, hand on heart, that there is no way they could even be suspected of being a pyramid scheme. Why don’t they? Don’t answer that.
Last time I checked the US wasn’t ruled in alternation between a Pro-Pyramid Party and an Anti-Pyramid Party.
Regulators are like oil tankers. If one party takes the controls and yanks them hard left for a minute, and then another party takes the controls and yanks them hard right for a minute, for two minutes the oil tanker will go pretty much in a straight line.
Regulation evolves over a period of decades and while the direction of travel may be influenced by the government of the day, regulation itself doesn’t flip completely back and forth every 4/8 years.
Shares aren’t consumables though.
Personally what I’d be fine with is making it illegal for self-consumption in any way shape or form to contribute to commission qualification.
This could invite companies to do away with PV and still run as illegal pyramid schemes, but then I’d still expect the FTC to investigate and regulate accordingly.
i think that at all times, all parties are easily able to identify blatant pyramid schemes.
i think the republicans and democrats differ on what constitutes legal MLM.
the 2004 advisory by the FTC took a gentle view on self consumption and did not have a hard stance on retail. these were republican times.
the vemma and herbalife actions in the last few years showed the FTC as less tolerant towards self consumption with a much harder stance towards retail. these were democrat times.
now the US is back in republican times, and this latest FTC advisory is not pushing the retail card very hard is it?
as len clements commented on twitter 11 hrs ago:
i disagree with clement’s that ‘the sky stayed right where it is’ because this sky clearly moves back and forth. if the republican FTC has the 2004 advisory as it’s flag of victory, then the democrat FTC has the vemma/herbalife settlements to wave as their flag.
this latest guidance is just the republican FTC re-affirming more-or-less it’s gentler stance of 2004, and when the democrats come back in 4 to 8 years they will reaffirm their harder stance of 2008-2016. it’s a pendulum like thing.
you don’t expect a whole industry involving millions of people to prosper while swinging on a pendulum, do you? hardly a stable atmosphere!
well, MLM has been around for almost 100 years so instead of swinging like a pendulum there should be a sit-down and resolution.
the DSA has published a press release on the new FTC guidance 2018:
the meat of it is:
meanwhile, though MLM attorney kevin thompson is supportive of the FTC’s guidance and HR 3409, his firm has not renewed it’s DSA membership:
*i think* thompson and others are pissed at DSA chief joseph mariano for not fighting for vemma.
Surprise, surprise! An American called Bill Clinton was also a committed supporter of MLM – and a little bit “president” too? I found a lobes anthem about network from him on:
Question: Is Bill, the “I had NO sex with Miss Lewinsky-President”, republican or democrat?
i don’t think any US president, or the republicans, or the democrats are against direct sales/MLM, and neither was bill clinton [democrat president].
bill clinton was president from 1993 to 2001, and during the same period [1990’s] the MLM industry saw explosive growth which in turn empowered the DSA to become a powerful lobby with growing political power.
in fact, the FTC filed the maximum number of pyramid scheme cases under clinton’s presidency.
it was this barrage of pyramid cases that caused the DSA to lobby hard with the republicans who gave them a sympathetic ear.
under the republican bush administration, the DSA managed to wrangle the 2004 advisory from the FTC which blessed self consumption and didn’t focus on retail in MLM.
over the last few years we have seen the FTC under the democrat presidency of obama bring retail into focus again via vemma and herbalife.
now with the republicans back in office we see the 2004 stance of the FTC being reaffirmed, and efforts being made to pass HR 3409.
unless the DSA manages to buy over the democrats too, i see a reaffirmation of the FTC’s stance on retail when the democrats come back to power next!
Having a return policy doesn’t have any effect on the shipping and handling fees paid on 10’s of 1000’s of low net worth shipments.
An MLM could actually live off just the S&H fees alone, using the products and “Opportunity” as a way to pull orders through the system.