As you are likely aware of, a promissory note is essentially an “IOU” that a company gives you in return for your monetary investment. The company has X number of years to repay the loan, plus interest.
Promissory notes can be viable investment strategies, until they are not. Unfortunately, as more fraudsters realize that promissory notes are very similar to the scraps of paper a 10-year-old gives his or her parent in exchange for some pocket change, promissory note frauds are becoming increasingly common. As the U.S. Securities and Exchange Commission explains, it is impossible for it and other agencies to stop every promissory note fraud that takes place in the nation. That is why it is leaving it up to you, the investor, to ask vet out scams yourself.
The makings of promissory note fraud
Fraudsters have scammed investors out of hundreds of millions of dollars in recent years. The surprising thing about this is that promissory note schemes take on many of the same patterns. Below are a few to be aware of:
- The fraudsters convince often unsuspecting agents to sell promissory notes for attractive commissions of up to 30%. Despite not having a license to sell securities, and relying solely on the information the fraudsters provide, the agents seek out investors with whom they have established trusting relationships.
- Enticed by promises of high, fixed returns and a low level of risk, the investors purchase the notes against their better judgment. In many cases, the agents “guarantee” the notes.
- The fraudsters then pay the agents with the money they collect from the sellers, after which they abscond with the rest.
In some cases, the fraudsters will take their schemes one step further. For instance, some may use the funds to support elaborate Ponzi schemes. Others may convince investors to “rollover” their matured promissory notes to avoid repaying the initial investment.
How to avoid promissory note scams
If you encounter a situation with the tell-tale signs detailed above, you should run. However, if you need more convincing, there are a few clues you can look out for that point to fraud.
For starters, legitimate corporate promissory notes are typically not available to the public. Rather, companies sell them privately and to sophisticated buyers who seek out investment opportunities.
You can also verify the legitimacy of a promissory note by checking with the SEC. If a note is unregistered, it is likely illegitimate.
Some other signs of a false investment include a promissory note that the seller claims is not a security; a seller that does not possess the proper licensure to sell securities; claims of notes that are “insured” or “guaranteed”; and promises of risk-free investments. If a seller approaches you with what you believe is a fraudulent investment, contact the SEC and an attorney right away.