What Is the Definition of a Pyramid Scheme?

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Updated: May 2026 Oleksandr Honcharov, CEO at FlawlessMLM A pyramid scheme is defined as an illegal business model in which income for participants is generated primarily from recruiting new members rather than from selling actual products or services to end consumers. What is the definition of a pyramid scheme is set by the FTC, the SEC, and equivalent regulators in most countries. Legal and structural definition of a pyramid scheme Legal definition (FTC) — a multi-level structure where rewards depend on recruitment rather than retail sales to non-participants. Key elements — entry fee, recruitment-based income, no real retail market, exponential growth requirement, inevitable collapse. Structural definition — money flows up the chain from new recruits to earlier participants, with no value created at any level. Mathematical definition — a system requiring exponential recruitment to sustain payouts, which is impossible past a few cycles. Practical test — if income depends on signing up new members rather than selling real products, it's a pyramid. Distinction from Ponzi schemes — pyramids require active recruitment by members; Ponzi schemes typically have one central operator managing fake "investments." Definition: A pyramid scheme is defined as an illegal multi-level structure where participants earn primarily from recruiting new members rather than from selling real products. The FTC sets the U.S. legal definition, and equivalent rules exist in the UK, EU, Canada, and Australia. The legal definition has held steady for nearly 50 years. If recruitment fees, not real customer sales, drive the income, it's a pyramid. That simple test has been the basis of every major regulatory action since the 1975 FTC ruling.

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