ENDLESS CHAIN SCHEMES

Imagine this situation...  A friend approaches you with an investment opportunity.  For a gift of $5000, you could receive $40000 in return over a very short period of time.  Remember the old saying, if it sounds too good to be true...  Well, this is one of those instances.

In recent weeks, programs variously called "Women Helping Women, " "Gift Exchange," "It's Your Birthday," or some similar name have circulated in the Sacramento/ San Joaquin Valley area.  The program involves new participants giving a monetary "gift," usually $1000 or more, to participants with seniority in the program.  As the program is described, the new participant has the opportunity over time to move up to the status of the senior participant, and receive "gifts" from new participants which will greatly exceed his or her original investment.  Accompanying the solicitation to join the program there are invariably assurances that it complies with IRS regulations and state law, and is entirely legal.  Sometimes there are claims the District Attorney has reviewed and approved the program.

Sacramento District Attorney Jan Scully and her staff have not reviewed or approved the legality of the program.  In fact, it appears the program is an illegal endless chain or pyramid scheme, the operation of which is a crime under California Penal Code 327.

Anyone wishing further information may send an email to da@saccounty.net, or telephone Supervising Deputy D.A. Scott Prentice at (916) 874-6531.

CASES OF INTEREST FROM OTHER JURISDICTIONS

In State v. Irons, 574 N.W.2d 144 (1998), the Nebraska Supreme Court found that promotion of a gifting pyramid constituted the sale of unregistered securities, namely investment contracts, in violation of Nebraska's securities laws. A criminal conviction and jail term based on such conduct was found to be proper. (As noted above, Iowa law also defines securities to include investment contracts.)

In People v. Sanchez, 62 Cal.App.4th 460, 72 Cal.Rptr.2d 782 (Ct of Appeals, 2d Dist., Div. 2, 1998), a California appeals court described a "Friends Helping Friends" and found that promoters were in violation of the state's "endless chain" criminal statute.

In Pacurib v. Villacruz, 705 N.Y.2d 819, 830 (Civil Ct., City of NY 1999), the court ruled that promotion of a gifting pyramid constituted fraud. Noting that "most recruits ... are willing participants as well as victims," the court found that one victim/participant could not be sued by another who was equally at fault. However, victim/participants could sue those who were more responsible for the promotion and active spread of the pyramid scheme.

In Whitemore v. Jones, 1999 WL 455433 (Tenn. Ct. App.), the Court of Appeals of Tennessee dealt with a "Friends Helping Friends" pyramid scheme. The plaintiff sued to get a refund from the person who introduced her to the scheme based on breach of contract, but the court noted that she had paid her money to someone else, namely the person at the top of the pyramid. The court ruled that under these circumstances the plaintiff could not make the person who introduced her to the scheme provide a refund on the basis of contract theory.

FEDERAL LAW (Note that some of these statutes may give individuals the right to file their own lawsuits for violations.)

1. Wire Fraud (15 USC section 1343) and Mail Fraud (15 USC section 1341) Prohibit the use of telephone or fax (in the case of wire fraud) or the mails or courier services (in the case of mail fraud) as part of a scheme to obtain money through false representations or promises.

2. Lottery (39 USC section 3005(a)) This law relates to the federal government's authority over the postal system, and it prohibits the use of mails in connection with the promotion of a lottery or "gift enterprise."

3. Unfair Practice under the Federal Trade Commission Act (15 USC section 45(a)(1)) The Federal Trade Commission has brought enforcement actions against comparable pyramid schemes.

4. Tax Evasion Failure to report pyramid pay-outs as income in federal tax returns may result in federal prosecution for tax evasion, and urging others that they do not have to report such income may result in aiding-and-abetting charges.

5. Federal Securities Law (15 USC section 77b(a)(1)) This law regulates many aspects of the sale of "investment contracts" in a manner similar to Iowa's security laws. (See the reference to state securities law above.)