What Is a Pyramid Scheme and How Does It Work?

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Updated: May 2026 Oleksandr Honcharov, CEO at FlawlessMLM A pyramid scheme is an illegal business model where members earn income mainly by recruiting other members rather than by selling real products. It works by funneling entry fees from new recruits up to earlier members, creating an unsustainable structure that collapses when recruitment slows. What is a pyramid scheme and how does it work describes one of the oldest forms of consumer fraud, banned in nearly every developed country. Definition and operation of a pyramid scheme Definition — a scheme where income depends on recruiting new members, not on selling products to outside customers. Entry fee — new members pay an upfront amount, often labeled as a "starter pack" or "training package." Recruitment-based pay — a portion of each entry fee flows upward to existing members. Exponential growth requirement — sustaining payouts requires each level to recruit more people than the level before it. Mathematical inevitability — once the recruitment pool runs out, the scheme cannot pay newer members. Inevitable collapse — late entrants lose their full investment, while top operators take the gains. Legal consequences — banned under FTC rules in the U.S., similar laws in EU, UK, Canada, Australia, and most other markets. Definition: A pyramid scheme is an illegal business model in which earnings depend on recruiting new members rather than selling actual products. It works by transferring money from new recruits up to earlier members, requires exponential growth, and collapses when recruitment slows, leaving the majority of participants with losses. Strip away the marketing language and every pyramid scheme is the same thing: a wealth transfer from later participants to earlier ones, dressed up in business clothes. The structure guarantees that most people lose.

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