Own your own business! Tens of thousands of dollars for only a small, upfront investment! Easy money! The man stands next to the gleaming red sports car with the supermodel girlfriend smiling up at him as he tells you that he's been making $100,000 a month for the past year and now he wants to show you how to be a success just like him. We have all seen the ads on TV, in magazines and on websites. They promise financial independence, the opportunity to own your own business under the protective umbrella of the "organization" and, if the ad is to be believed, hot supermodel girlfriends and red sports cars.

Let's say that you are intrigued enough to follow up on one of these ads. You click the link, dial the number, whatever it takes and soon a friendly, persuasive customer service rep is opening your life to a new world: The world of multi-level marketing, or MLM.

Now, some relationship marketing is quite legitimate. Cosmetics, cookware, candles and home décor items are marketed successfully and honestly through parties and informal get-togethers. They represent a drop in the bucket when compared to the total number of MLMs out there today, but they do exist. The difference is that these companies focus on product sales rather than recruitment to avoid being tagged as pyramid schemes.

Most companies will not call it multi-level marketing; that has a bad reputation, right up there with a good pyramid scheme. You will hear about "relationship marketing," "network marketing," "dual marketing" and things like that. Regardless of the label they put on the operation, you are recruited as an independent distributor for the product line of the parent company. You are then encouraged to recruit other salespeople. This is your "downline." You will earn a commission on what they earn and the people who recruited you (your "upline") will earn something on your sales and the sales of your downline and so on all the way to the top. What could be easier?

Why MLMs Don't Work

If you are at the top layer of the MLM organization, the scenario outlined above actually does work. After a few levels, though, it is tough to make a living. In fact, according to Robert L. Fitzpatrick, president of Pyramid Scheme Alert and author of The Myth of "Income Opportunity" in Multi-Level Marketing, "Ninety-nine percent of all sales representatives each year in the sample of companies analyzed earned less than $14 a week in rebate income. This figure is before all business expenses, inventory purchases and taxes are deducted. The figure therefore represents a significant financial loss for virtually all that join these schemes."

In the same work, Fitzpatrick explains how only a handful of folks at the top of the pyramid actually make great money. The average incomes of the top tiers of the MLMs he studied ranged from $126,322 to $1,024,466. At the bottom, where 99 percent of the participants reside, yearly income ranged from a mere $87.36 to a whopping $871.69. Plus, the top 1 percent also includes those in the middle tiers, not just the top moneymakers! There are a number of reasons for this, including the difficulty of door-to-door sales, the high prices of many of these products and the unease associated with turning family and friends into customers. Still, the primary reason for this is market saturation.

Market saturation means that you can only sell so many units of a given item at a given price before you have no one left to buy your products. Once you go over that number, the price has to drop or sales will drop. This is a concept that is consistently ignored by MLM companies because they don't need to worry about it. The company computes sales based on the inventory purchases of the distributors, not on how many units make it to consumers. Why? They do this because they know where their real money comes from: recruitment. A primary focus on recruitment over sales is one of the hallmarks of the classic pyramid scheme.

Avoiding the MLM Trap

So how can you tell whether you have run into a bad MLM situation? Listen carefully and ask hard, probing questions. Be sure to find out:
• Is there unlimited recruiting or advancement via recruitment?
• Do you have to provide an upfront investment in order to join the company?
• Are there company-paid commissions to more than three levels of distributors?
• Is the company payout per sale for each upline distributor more than that for the distributor that actually sold the product?
• Is the average income of those at the top radically different from those in the middle and at the bottom?

If you can answer "Yes" to these questions, alarms should start ringing. If you can't get straight answers, or the person you are asking becomes irritated or flustered by your questions, it is time to walk away.

Read about Charles' experience with one MLM company, click here.