Are you being conned?

Kelly Rodgers, MoneySense May 2001

When we read about the latest investment scam in the newspapers, we usually pity the poor souls who have been ripped off. But we may also feel a bit smug about our own truth -detecting abilities. "That could never happen to me," we think. "I'm too smart to be duped."

The sad truth is that both naive and sophisticated investors fall prey to criminals touting fraudulent investment schemes. Occasionally, even financial advisers are taken in by these schemes and unwittingly pass them along to their too-trusting clients. As a result, Canadian investors lose millions of dollars every year, much of which is never recovered.

To protect ourselves, we should first understand what draws us to these scams. Two of the most common attractions are greed and tax evasion. Note that I have specified "evasion," not "avoidance." Avoiding tax is legal, and most taxpayers structure their affairs to minimize taxes. Evading taxes, however, is illegal.

The recent case of First International Bank of Grenada (FIBG) demonstrates how investors are drawn in. FIBG was an offshore company that guaranteed investors interest rates of up to 100%, per year. That dwarfs the 5% to 6% that most GICs offer in this country, so greed played a key role in bringing in investors. Also, the returns that investors received were touted as tax free, which appealed to people who wanted to screw the tax man.

FIBG sounds to me like a classic Ponzi scheme, where early investors are paid off with money from later investors, Regulators in Grenada and British Columbia have now moved to shut down FIBG, but I fear that a lot of people may lose their savings.

Any fast-money scheme should raise suspicions among prospective investors. First, since the "promised" return is much greater than what you can get from other investments, the risk must also be much greater. That raises a red flag. Second, if the investment involves tax evasion, then crooks are likely behind it-and crooks generally do not treat people honestly. Another red flag.

Keep in mind that crooks usually don't appear as crooks. They often pose as good friends and wonderful community members. Take the case of Chris Horne, a former vice-president at RBC Dominion Securities in Toronto. Horne is a charming man who was revered as a serious art collector in the 1980s and '90s. Unfortunately, he funded his art collection with $7 million of his clients' money. He was found guilty of fraud in 1996.

Horne's clients were not naive. They were just trusting. Despite their sophistication, experienced investors can be just as susceptible to the charms of criminals as their less experienced cousins. Veteran investors often place too much confidence in their ability to judge people. They rely on their own instincts instead of checking out someone's background.

Fortunately checking up on someone is easy to do. All it takes is a single call. Phone the securities commission in your province and ask two questions. One, is the investment that you are being offered registered for sale in Canada? And, is the person selling the investment registered to sell that particular product? If the answer to either of these questions is no, then don't pursue the investment.

If the investment in question is a so-called early-stage company-a private company that is in its formative stages- keep in mind that even the legitimate ones are high risk. These investments should not represent more than 5% of your investment portfolio.

What do you do if you feel that you have been ripped off? That depends on who did the ripping off. If the person is a legitimate, registered financial adviser, start with a phone call to his or her branch manager. Often, the manager will deal with the problem quickly and efficiently. If you don't get satisfaction, you can lodge a complaint with your provincial regulator or you can pursue civil action through a lawyer.

If the scam artist is operating outside of a legitimate firm, the solution can be harder to find. Regulators can apply suspensions and issue cease-trading orders on shady characters and their dubious investment schemes, but they cannot order restitution, which means you may not be able to recover your lost money. Even if you pursue the matter through the courts, you may have a hard time recovering your money if the criminal has disposed of the proceeds.

That's why it is important to check out people and deals before you invest. Careful investing doesn't mean you have to be paranoid. Healthy skepticism, good common sense and some research should be enough to keep you safe.