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Concept of Ponzi Scheme

Examine the main concept of a ―Ponzi Scheme. Do originators who perpetrate the scheme have any financial obligation to un-savvy investors? Do they have any legal recourse?

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Question asked by sabita_dahal

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angel profile image
Angel Paudel

A Ponzi scheme is where a victim is persuaded into investing in an entity that doesn’t even exist. The operators of such scheme employ unsuspecting individuals by providing them a false hope that they will get rich quick. They assure that the amount they provide will be spent to put into a promising business or into an exclusive investment portfolio. But the reality is a lot different from what these operators tell. The money they collect isn’t invested but just ends up filling the pockets of such operators even more. The operators also try to act smart by providing small payment to the early investors, giving an illusion that the entire operation is actually legit (Moore, Han & Clayton, 2012).

"Robbing Peter to pay Paul” is the phrase commonly used to refer to Ponzi scheme as this around the same modality. The operators under this scheme take money from one person to pay another some. While doing so one debt is reduced by some fraction while another is added to the venture (Artzrouni, 2009). So, the business can only sustain as long as there are new investors into the plan or until many investors (or victims) ask for the return of their investment.

Ponzi scheme was created in the year 1920s when Charles Ponzi offered an opportunity to turn an investment of a thousand dollars into $1,500 within 45-days (Drew & Drew, 2010). The overall operations cost his clients an estimated $20 million. His company promised investors of a huge return by buying low-cost postal reply coupons from foreign countries. He claimed that the company would then redeem those coupons for US postage stamps. That happened in the 1920s when there was extensive use of such and people would buy into the idea.

The originators who carry out such fraudulent practice of Ponzi scheme should have a financial obligation to un-savvy investors, that isn’t true in reality. Ponzi scheme is illegal in so many countries and there are some rules in different parts of the world as well. The case for it is on a rise as well with the US alone witnessing more than a hundred such cases, of whose only ten of them are shut down while action taken on few other. Several other escape with no action.

There is some legal recourse to Ponzi scammers. Even then we’re yet to see Ponzi scammers returning or being forced to return the full investment someone made to the plan. There have also been cases where people from different professional background have been charged for their involvement on such scam. They do face lengthy streak in jail like Bernie Madoff, the mastermind in the US history for the largest financial fraud. He falsified his identity to encourage investors into investing in his firm - to which he was successful for decades. This scam robed $50 billion dollars from wealthy investors to charitable organizations. He was sentenced to a 150-year prison statement and the investors were returned around $4 billion from seizing the assets he owned (Fallik, 2009). That was still a small amount and did little to cover the investment people made. Regardless, there is a legal recourse to such a situation.


Artzrouni, M. (2009). The mathematics of Ponzi schemes. Mathematical Social Sciences , 58 (2), 190-201.

Drew, Jacqueline M & Drew, Michael E(2010). The Identification of Ponzi Schemes: Can a Picture Tell a Thousand Frauds ? Griffith Law Review. 19(1). pp 51-70.

Fallik, D. (2009). The Bernie Madoff Effect. Neurology Today , 9 (4), 1-3.

Moore, T., Han, J., & Clayton, R. (2012). The Postmodern Ponzi Scheme: Empirical Analysis of High-Yield Investment Programs. Financial Cryptography And Data Security , 41-56.

shantamilan profile image

Ponzi scheme is a type of money laundering where perpetrators channel the money of the newer clients and pay outstanding interest to the old. It was named after an Italian man named Charles Ponzi who used this scheme to swindle money from a lot of people. This type of scheme was prevalent and gaining momentum in Nepal, through business such as Gold Quest and Unity Life International. "Nepali government has finally imposed a ban on network marketing business, ending a long-running marketing scam of Unity Life International (ULI) that cheated hundreds of thousands of Nepalis for years. (Online, 2010)” These type of scheme lure unsuspecting investors with the greed of huge profit within a small time frame but what they are actually doing is paying them off with the cash inflow of newer clients that the older ones themselves have convinced to join. These are usually family/relative members and friends who loose at the end.

Nepalies have lost a lot under this scheme. The one who go into the business profited but the latter ones lost to this miserably. "Over the past four years ago, the government had banned Multi-Level-Marketing companies selling goods on the basis of pyramid networks after the multi-billion scam and millions of Nepalis have been cheated by multi-level-marketing companies. (Nhisutu, 2017)”

It is only right that these perpetrators have financial obligation to the investors. According to the national daily paper, The Himalayan Times, "Patan High Court has acquitted 12 people including seven board members of Unity Life International who had been convicted by Lalitpur District Court in a fraud case. The lower court had imposed a fine of Rs 1.6 crores on each of the defendants. (Service, 2017)” The convicted people of the United Life International have been fined by the court.

A law has been passed in Nepal mandating that the network business or Ponzi Scheme to be illegal. IF found to be using this scheme the it will be deemed illegal and prosecuted by law to the highest degree. "Crackdown on ULI was launched after the Supreme Court observed on May 23, 2010, that banking, insurance and cooperative businesses carried out by the controversial ULI were illegal. Following the court order, an arrest warrant was issued against ULI promoters and others associated with them. (SERVICE, 2015)”


Nhisutu, R. (2017, August 17). Networking Business ‘DIRECT SALES’ Bill passed in Nepal . Retrieved from Linkedin: linkedin.com/pulse/networking-busi...

Online, P. D. (2010, May 24). Nepali gov’t bans pyramid-style business. Peoples Daily Online . Retrieved from en.people.cn/90001/90778/90858/908...

SERVICE, H. N. (2015, August 1). Unity Life International MD, director nabbed. The Himalayan Times .

Service, H. N. (2017, November 18). 12 convicts in Unity scam case acquitted. The Himalayan Times .

ncitujjwal profile image

Ponzi scheme is an investment argument in which investors are promised low risk and high return. Ponzi scheme aren’t actually investments. They are just a redistribution of money from old investors to new investors. When new investors can’t support the returns of old investors, the scheme is collapse (Bhattacharya, 2003). For example, investor such as American Business Man Bernie Madoff are able to get a wide array of clients, because of their reputation, not because of their investing ability. Thus they were able to fool many people. It has no any legal obligation. We can discuss on Ponzi scheme through example, Ram gets a few people to invest their money with him. At the end of the year he gives those clients amazing returns that beats every other investors in the market. Needless to say the investors are thrilled. In fact they’re so excited about all the money they’re making that they tell all their friends and family about it too, who tell their friends, who tell their family. In the stock market most investors make money some years and lose money others. But Ram’s Ponzi’s scheme, yeah it never loses money. In fact it always beats the market by a huge margin. But the return he pays to these people aren’t from actual profits. He just takes the money these new guys invest and gives it to these guys. But as soon as you can’t get encourage new money from this group to pay these people the whole pyramid starts to crumble because they’re not getting paid anymore.

Other interesting example is, lets a person starts with his business from 6 blocks and each blocks carry $1, the total investment value is $6. Any ways the client goes to what he thinks is field investor in reality these investor is Ponzi scheme and he says I have $6 the investor says if you give me your $6 and invest with me then I will $9 of return. So the new client give him $6 to investor client is ready for the money the investor gives him back $9 with $3 return of his/her promise. Satisfied client who gets extra $3 benefit goes with his/her friends and finally. Share his/her wonderful investment experience and their 3 of other investor are ready to invest $6, for the Ponzi scheme. Then Ponzi scheme also able to generate high investment and give back to $9 for each. Similarly these 3 also satisfies and motivate for other 5 of each then they also invest $6 each for Ponzi scheme and this time the Ponzi scheme is enable to generate the high return. So that, at this situation Ponzi scheme fails and the schemer does not give the return for his new investor. So that this scheme are not legal. If government always try to catch the Ponzi scheme for putting them in jail because Ponzi scheme is illegal system (Blas, 2009).
Ponzi scheme has a following disadvantage:

  1. These investment are fraudulent.

  2. They are not "actual” investments.

  3. They eventually collapse.

  4. Investors lose a lot of money.

Bhattacharya, U. (2003). The optimal design of Ponzi schemes in finite economies. Journal of Financial Intermediation 12, , 2-24.

Blas, J. (2009). Watchdog fears market '‘Ponzimonium’. Financial Times .

dipadhungana profile image

Ponzi scheme is named after Charles Ponzi, who in earlier 1920 offered investors a choice to between 50% return on 45 days investment and 100% return on 90 days investment due to an arbitrage in the pricing of international reply coupons, claiming that the high profits were the result of his unique understanding to the international postal reply coupon system (Branscum, 2002).

A Ponzi scheme is a fraudulent investment management service, ran and controlled by a central operator who will pay promised profits to the earlier investors using the capital of new investors joining the scheme. The operators of Ponzi scheme promises the original investors abnormally high or fast returns, often suggesting that they use a unique strategy or investment mechanism. They repay the original investors with later investment creating an illusion that they have fulfilled their promise of rapid success which attracts new investors (Johnston, Johnson, & Hummal, 2010). The elements of Ponzi element as given by Wlkins, Acuff and Hermanson, (2012) are investor deposits, little or nO legitimate business operatios,little or nO business earnings or profiTs and the source of return to investors is cash received from new investors.

It is structured as a pyramid wherein more money is needed in each round to make payment to existing investors. For example: If a Ponzi Scheme Operator approaches an investor for one year investment with 50% return. The investors invest Rs.100,000 in the scheme with the hope to get Rs.150,000 at the end of one year. At the end of the year, the Ponzi operator approaches other investors with the same scheme and pay the promised amount to the first investor with the amount collected from new investors. The fund requirement will increase geometrically over time resulting in the collapse of the scheme as the operator become unable to recruit new investor to fund original investor’s payment return resulting in the loss of investment of later investors (Jory & Perry).

The originators should have financial obligation to the investors whether they are savvy or not. Technically and morally, the investors should get their money back but the rules of the country regarding such fraudulent act decides how much amount will be refunded to them. It is equally important to note that no scheme originator have ever returned the total investment amount.

The Ponzi scheme are generally operated unregistered as it is illegal. The victims of the scheme may seek advice of a financial planner or adviser and lawsuit can be filed against the perpetrator but it is rare that the financial obligations are limited to the perpetrator only. The investors in such schemes are also equally guilty as the originator as they are unknowingly contributing in the illegal act. However upon discovering the fraud, the operators of Ponzi Scheme are taken legal actions. Bernard L. Madoff being sentenced for 150 years of imprisonment in 2009 upon loss of $50 billion of the investors from his Ponzi scheme proves that there is legal recourse for the originators. However, the investors did not get their money back in this case.

Branscum, B. E. (2002). Ponzi v. Pyramid; A comparison. Retrieved from Crimes of Persuasion: An Investigator’s Resource: fraudsandscams.com/ponzipyramid.htm

Johnston, K. C., Johnson, K. M., & Hummal, J. A. (2010). Ponzi Schemes and Ligitation Risks: What Every Financing Company Should Know.

Jory, S. R., & Perry, M. J. (n.d.). Ponzi Schemes: A Critical Analysis. Journal of Financial Planning .

Wlkins, A. M., Acuff, W. W., & Hermanson, D. R. (2012). Understanding a Ponzi Scheme: Victims’ Perspectives. Journal of Forensic & Investigative Accounting, 4 (1), 1-19.