Proposed Federal MLM Statute -
Personal Use: "OK"
By Jeffrey A. Babener
Look, If you
had one shot, one opportunity
To seize everything you ever wanted-One moment
Would you capture it or just let it slip?
Seeking Relief from Cloud of Uncertainty
The Direct Sales Industry has patiently survived
almost a decade of regulatory tension on an issue critical to the
MLM business model -- the legitimacy of "personal use" by distributors.
Uncertainty on this point has resulted in unwanted FTC and state
consent decrees and attacks on MLM companies that place a cloud
over the direct selling industry. New proposed federal legislation,
H.R. 1220, would formally recognize legitimacy of "personal use"
along side of retail sales outside the network, and bring relief
to network marketing.
of the leading direct selling companies offer consumable
products and a substantial portion of product sold is
in fact used by distributors. Is this legitimate?
says "no," taking the position that more than fifty
percent of product must be sold outside the network
for the program to stay clear of pyramid accusations.
The issue has arisen in the context of examination
as to whether a network marketing company is a legitimate business
opportunity or an illegitimate pyramid headhunting recruiting scheme.
Analysis in MLM law cases has often looked to evidence of sales
to and use by the ultimate consumer. Should personal use of a company's
product by distributors be viewed with the same weight as sales
to those outside the sales network? Many of the leading direct selling
companies offer consumable products and a substantial portion of
product sold is in fact used by distributors. Is this legitimate?
Industry advocates, led by the DSA, say "yes," personal
use should receive the same weight as nonparticipant sales. The
FTC says "no," taking the position that more than fifty percent
of product must be sold outside the network for the program to stay
clear of pyramid accusations. The industry has been unsuccessful
in convincing the FTC to change its position, although it has achieved
such recognition in multiple states and the DSA has amended its
Code of Ethics to recognize personal use. Although the FTC has focused
scrutiny on companies "on the edge," the rest of the industry has
been left quite uncomfortable.
The FTC History
The FTC made its first full-scale assault on the MLM
model, accusing Amway of being an illegal pyramid scheme, and thus,
a "deceptive trade practice" under FTC federal legislation.
From 1975 to 1979, the FTC and Amway were engaged in litigation,
climaxing with a historic loss of the FTC in 1979. In a landmark
administrative law decision, an FTC administrative law judge ruled
that Amway was a legitimate business opportunity as opposed to an
illegal pyramid scheme based on three primary consumer safeguards:
(1) a reasonable buyback policy for terminating distributors; (2)
the 70% rule, which prohibited purchases of new inventory before
old inventory had been sold or used; and (3) the ten retail customer
rule, which required sales to ten customers. (Interestingly today,
the Amway 70% Rule defines a retail customer to include purchases
for personal or family use, or sales to nonparticipants).
The FTC v. Amway case became known for its "Amway
safeguards," the general rules honored by courts, legislators
and enforcement agencies to uphold legitimacy of MLM type organizations.
The FTC was quiet on this subject for the next 20 years.
In the aftermath of odd language in a civil case against
an MLM company, Omnitrition, in 1994, the FTC began a new assault.
In the Omnitrition case, the U.S. Court of Appeals for the Ninth
Circuit in language known in legal circles as "dicta,"
i.e., language unnecessary to the ruling in the case, challenged
the concept of personal use by MLM distributors as not fulfilling
the mandates for retail sales in evaluating pyramid schemes versus
legitimate direct selling. A new generation of FTC officials were
emboldened to revisit the legitimacy of the MLM model.
From 1996 through and into the new millennium,
in a series of FTC filings involving such companies as Fortuna Alliance,
World Class Network, JewelWay, Futurenet, Equinox and 2Xtreme, in
a step-by-step and case-by-case assault, the FTC challenged the
MLM model and the Amway safeguards.
- In the early cases, the FTC questioned whether
or not the Amway safeguards of promoting legitimate sales were
protected when a company demonstrated strong personal use by participants.
- Next, the FTC argued that legality was determined
by compliance with the Amway safeguards, plus sales greater than
50% of revenue to nonparticipant users.
- In a 1999 filing against 2Xtreme, the FTC finally
evolved to its position that the Amway safeguards were really
irrelevant altogether. The key issue for the FTC was that sales
to nonparticipants must exceed 50%, and constitute the majority
of revenue for the MLM.
- In addition, in the 2Xtreme case, the FTC challenged
autoship programs by consumable MLM companies as evidence of a
pyramid scheme. Many leading direct selling companies have autoship
programs for the convenience of their distributors.
- The FTC also used the 2Xtreme case to challenge
the standard of business utilized by virtually all direct selling
companies, namely minimum monthly purchase or activity requirements
- as evidence of inventory loading and pyramid schemes. Again,
a devastating position for the direct selling industry.
- Subsequent FTC actions have reaffirmed the FTC's
position on "personal use."
The Purpose behind H.R. 1220
With help from the DSA sponsors of H.R. 1220, seek
to bring relief to the direct selling industry. The proposed bill
recognizes the importance of stamping out pyramid schemes while
at the same time recognizing the problem created by the FTC's interpretation
of language in the federal case, Omnitrition, that started the debate:
SECTION 1. SHORT TITLE.
This Act may be cited as the `Anti-Pyramid Promotional
Scheme Act of 2003'.
SEC. 2. FINDINGS.
The Congress finds the following:
(1) Pyramid promotional schemes, chain letters,
and related schemes are enterprises--
(A) that finance returns to participants through
sums taken from newly attracted participants;
(B) in which new participants are promised large
returns for their investments; and
(C) involve unfair and deceptive sales tactics,
and lead to the victimization of unwitting individuals.
(2) Pyramid promotional schemes, chain letters,
and related schemes constitute a threat in interstate commerce
and to the financial well-being of the citizens of the United
(3) The advent of the global Internet makes pyramid
promotional schemes international threats.
(4) The Ninth Circuit Court of Appeals erred in
defining a pyramid promotional scheme in Webster v. Omnitrition
Int'l, Inc. (79 F.3d 776; 9th Cir. 1996).
Congress to FTC: Recognize Personal Use
The proposed federal legislation directs the FTC
to adopt a new rule on pyramiding which both outlaws pyramid schemes,
but recognizes personal use. The bill directs the FTC to adopt
a model law similar to one adopted, at the request of the industry,
in numerous states in recent years, including Texas, Louisiana,
Oklahoma, Montana and Kentucky. In such state models, assuming
that a network marketing company sells products to distributors
in reasonable quantities, i.e. no inventory loading, and assuming
that it adopts an industry standard 12-month, 90% inventory refund
policy for terminating distributors, then personal use will be
recognized as a legitimate destination for product in the same
fashion as sales to nonparticipants.
SEC. 4. RULES TO PROHIBIT OPERATING PYRAMID PROMOTIONAL
(a) IN GENERAL- Not later than 1 year after
the date of the enactment of this Act, the Federal Trade Commission
shall promulgate a rule under section 18(a) of the Federal Trade
Commission Act (15 U.S.C. 57a(a)) providing that it shall be an
unfair or deceptive act or practice under section 5 of such Act
(15 U.S.C. 45) for any person, by the use of any means or instrumentality
of transportation or communication in interstate or foreign commerce,
to promote, offer, sell, or attempt to sell a participation or
the right to participate in a pyramid promotional scheme.
(b) LIMITATION- Nothing in this Act or in
the rule to be promulgated pursuant to this section shall be construed
to prohibit a plan or operation, or to define such plan or operation
as a `pyramid promotional scheme', based upon the fact that participants
in the plan or operation give consideration in return for the
right to receive compensation based upon purchases of goods, services,
or intangible property by participants for personal use, consumption,
or resale, and the plan or operation does not promote inventory
loading and implements an appropriate inventory repurchase program.
H.R. 1220 Deserves Industry Support
The dialog between the MLM industry and the FTC continues.
It is unlikely the FTC on its own will change its position. Industry
supports are hopeful that relief from uncertainty will come as a
result of passage of H.R. 1220 or that introduction of H.R. 1220
will accelerate positive dialog with FTC toward adoption of new
rules similar to progressive legislation that has been adopted in
many states that protects the consumer on one hand from pyramid
schemes, while, at the same time, recognizing the position of the
direct selling industry that personal use by distributors should
be counted as legitimate end destinations of company product sold
by network marketing companies.
To view the actual proposed legislation, H.R. 1220,
and for other important industry articles and issues, please visit
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