What Are Ponzi Schemes & How You Can Protect Yourself

July 27, 2022

At a glance

  • Practice caution when investing: Ponzi schemes may seem like the stuff of Hollywood movie scripts, but they occur more often than you think and can cause lasting financial ruin.
  • Team up with recovery experts: The road to recovery can be wrought with complexity, so it’s important to have an expert forensic investigation team to apply the appropriate methodology and help recoup your losses.
  • Take the next step: Aprio’s Forensic Services Team delivers proven computer forensics, collections, interviewing, forensic document analysis and investigative techniques to help determine the extent of alleged wrongful acts, including Ponzi schemes.

If you suspect that you have been a victim of a Ponzi scheme, schedule a consultation today.

The full story:

What are Ponzi schemes? You hear about them in news exposés, television specials and even in popular culture.

Ponzi schemes are often used as cautionary tales for fraud and it’s hard to imagine a situation in which you would fall prey to one. Unfortunately, Ponzi schemes are more common than you may think, especially in today’s digital age when it’s easy to invest your money anytime, anywhere.

How exactly can you identify a Ponzi scheme, and how can you start the road to recovery if you are a victim? Here are the key details you need to know.

Are Ponzi schemes illegal? And how are they different from other fraudulent acts?

Are Ponzi schemes illegal? The short answer is yes, they are always illegal.

Put simply, a Ponzi scheme is a fake investment program that attracts investors with the promise of higher expected returns or a big payout. The catch is that the individuals who run the program don’t actually intend on investing your money; instead, they use your money to pay off earlier investors in the program, who are waiting for their own hefty paychecks.

This cycle of deceit often continues until the allure of the program wears off — perhaps the individuals running it have difficulty recruiting new clients or existing clients leave the program after not receiving earnings payments. When this happens, the Ponzi scheme runs out of money to sustain itself and the lie is exposed.

Ponzi schemes are different than other fraudulent acts, like pyramid schemes, because they rely on individuals to invest their money in the program, who believe that they are actually generating returns. As you can imagine, victims of Ponzi schemes often stand to lose tens of thousands of dollars from investing in these programs, which make them incredibly risky from a financial health and wellness perspective.

Lessons learned from an infamous Ponzi scheme

Though several Ponzi schemes have made national and global news headlines in recent years, one of the most dubious cases involves Scott Rothstein, a (now disbarred) lawyer and the former managing shareholder, chairman and CEO of the Rothstein Rosenfeldt Adler law firm.

Rothstein used his Fort Lauderdale-based firm, which once employed more than 70 people, as a vessel for running a scam that sold shares in phony lawsuit settlements. He reassured his investors that they would see a major financial windfall once he settled the cases, even going so far as to falsify settlement agreements and bank statements to fool investors.

Rothstein would use his investors’ money to pay off early investors in the scheme, continuing the cycle of fraud. The funds also fueled his lavish lifestyle, and he even used them to make political contributions to Florida lawmakers.

And then, 2008 rolled around: the financial crisis started a tidal wave of economic distress across nearly every industry. Rothstein’s law firm was hit hard, and his scheme began running out of money to repay investors in early 2009. Though Rothstein first avoided investigation by blaming late payments on challenges he was having with his Florida bar license, he finally turned himself in to the authorities on December 1, 2009. By this point, his Ponzi scheme totaled $1.2 billion, making it one of the largest in history. Rothstein ultimately received 50 years in prison for his crimes.

How to spot a Ponzi scheme

Now that we’ve addressed the question of, “what are Ponzi schemes?”, let’s discuss how to spot one. Since Ponzi schemes can fly under the radar for years before they unravel, it’s important to be vigilant and practice due diligence when deciding where to invest your hard-earned dollars. The first signal to watch for is missing registration and licensure documents for the firm you’re investing with. The investment firm or advisor you court should be registered with the United States Securities and Exchange Commission (SEC), the Financial Industry Regulatory Authority (FINRA) or other appropriate state regulatory bodies. Additionally, you need to double-check that the individual investment professional you are working with is licensed to practice in your specific state.

Additionally, if the professional you’re working with guarantees you above-average, no-risk returns on your investments, then you should take a pause. Regardless of where you are directing your capital, it’s impossible to invest without some degree of risk. More aggressive investments (ironically the ones Ponzi schemes often tout) typically come with higher rewards and greater risks, while more conservative investments come with lower rewards for less risk. Avoid investment professionals who guarantee you a specific ROI and rate of return with no risk.

Recovering damages in Ponzi schemes

The approaches experts use to collect and repay victims’ losses in Ponzi schemes often depend on the nature of the situation. For instance, in the Rothstein case, bankruptcy officials, attorneys from the prosecution’s side and other stakeholders were able to seize Rothstein’s assets and sell them for proceeds, in addition to securing settlements for the victims.

Other famous Ponzi schemes have helped set legal precedents for recovering damages. According to Daniel Gill of Bloomberg Law, the Bernie Madoff case — which arguably put the Ponzi scheme on the map — set a precedent for choosing the “net investment” method of damage recovery, versus the “last statement analysis” approach that forensics experts had used previously (this approach involved recovering what the investor was owed based on the perpetrator’s most recent financial statement, which could be false).

In the net investment method, which uses techniques typically deployed in bankruptcy law, experts and legal teams can recover money from the “net winners” of a Ponzi scheme; these are the individuals who ultimately received more money from perpetrators than they initially invested. This amount would be used to compensate the “net losers” of the scheme, who lost more than they invested.  

Aprio’s Forensic Services team applies a multidisciplinary approach to help victims recover from Ponzi schemes and take back the financial losses they incurred from these crimes. If you suspect that you or someone you know has been a victim of a Ponzi scheme, please do not hesitate to contact our team.

Schedule a consultation with our team today.

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About the Author

Haley Beatty

Haley Beatty is a forensic accounting, financial crime reporting expert. Her specialties include Anti-Money Laundering (AML), Know Your Client (KYC) investigation and regulatory compliance. She has advised some of the largest financial institutions in the world and led teams of 500 investigators. Haley works closely with clients to establish and advance AML compliance, monitoring and reporting programs that exceed regulatory requirements. She has experience advising a broad spectrum of financial industry clients from FinTech companies to MSBs and transaction processors.