Is That Business Legitimate or a Scam?

The FTC is drafting new rules to counter unfair practices. In the meantime, aspiring business owners should apply lots of common sense

by John Tozzi
July 23, 2008, 1:33PM EST | BusinessWeek

The Internet is littered with offers for home-based business opportunities that promise big profits for easy work. But many of these offers, which range from envelope stuffing to medical billing, are really scams that prey on people's aspirations to work for themselves.

Business opportunities share three characteristics: a solicitation to the buyer, a mandatory payment to the seller, and a promise to help the buyer find locations or leads that will bring profits. They're often advertised in classified ads, online, and in spam e-mail. Many claim to be low-risk ventures with money-back guarantees, and no experience necessary. Offers stress how much the participants can earn each week in specific dollar amounts, and fraudsters often have shills who falsely testify about their own success.

While some home-based business scams target vulnerable people such as the unemployed, experts say anyone can be taken in by the right pitch. "The techniques are no different in kind from the ordinary marketing techniques that normal sales people use. They're just selling nothing," says Michael Webster, a Toronto lawyer and the author of a blog on business opportunity fraud. "Anybody can be a mark on any given different day. Even I could be."

Fraught with Deception

The Federal Trade Commission regulates many business opportunities under its franchise rule (BusinessWeek.com, 3/10/08). But for the first time, the agency is drafting regulations to cover home-based business opportunities and schemes that require investments under $500. The new rule would apply to about 3,000 business-opportunity sellers, including 500 not currently covered by the franchise rule, and the FTC estimates that about 250 opportunities pop up each year. (That number doesn't include opportunities that drop out.) FTC attorney Monica Vaca could not estimate how many are scams but said in an e-mail that the industry "is fraught with unfair and deceptive practices." The rule change would require sellers to disclose information to potential buyers, in much the way franchises must. It could go into effect in 2009 or 2010.

The average business opportunity scam runs for 12 to 18 months, ropes in 100 to 150 people, and takes a total of $3 million, Webster says. The FTC has taken about 240 civil actions against business-opportunity sellers since 1990, according to Vaca. The government also prosecutes a handful of cases under criminal law when repeat offenders are involved. But many home-based business scammers are never caught or punished. When victims lose money, they're often reluctant to report the fraud. Instead, they blame themselves for their losses. "One of the things that's tough about business-opportunity frauds is a lot of people have a hard time recognizing that they've been scammed. Everybody wants to live the American dream," Vaca says.

Typical scams involve charging buyers up-front fees for materials, training, sales leads, or locations (for vending machines or kiosks). But the promised returns rarely materialize, and victims get stuck holding inventory they can't sell. Some home-based business opportunities, such as envelope stuffing, are outright pyramid schemes where the only revenue comes from recruiting new victims, not actual product sales. Others are more subtle, like offers to set up medical billing services, in which buyers pay for training and leads without knowing that most doctors use in-house services or established billing companies.

In addition to the FTC's proposed regulations, 26 states have their own disclosure laws. Webster says the best way to vet a potential opportunity is to check whether it is registered with the state. "Very, very few of these people are registered, and the fact that they have not gone through the trouble of registering tells you all you need to know about this particular opportunity," he says.