Income and Earnings Representations

by Kevin D. Grimes, Attorney at Law

^{Copyright © Grimes & Reese 1996}

Contents

Scope

The Bottom Line

Average or Median Earnings

Statements of Non-average, Non-median Earnings Achieved by a Substantial Number of Distributors

Income Testimonials

Definition of "Average"

Record Keeping Requirements

Discussion

Status of the Law

"Plan B"

Federal Trade Commission Decisions

The Initial Decision

National Dynamics -- The First Modification

National Dynamics -- The Second Modification

In re Larry Brog and the Computation of "Average"

Sample Income Chart

Endnotes

Scope

Let's face it . . . your distributors are out there waiving checks, telling prospects what they and others have made, and presenting hypothetical (i.e., astronomical) examples of the phenomenal incomes that can be earned with your company. Is this potentially problematic for your company? Absolutely. As discussed below, a few states have statutes that expressly limit or even prohibit income claims. Moreover, the consumer protection acts of all states prohibit any type of promotional activity that is misleading, unfair, or unsubstantiated.

This article will examine the legal issues surrounding written earnings claims and income representations made by direct selling, multilevel marketing or network marketing companies (collectively referred to as "direct selling companies") and their distributors. In addition, this paper will analyze federal and state law relative to such representations.

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The Bottom Line

Direct selling companies may publish flyers, articles or other printed media containing income claims, provided that they include the following elements relative to the type of claim that is made:

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A. Average or Median Earnings

(1) a true statement;

(2) of the average or median earnings;

(3) actually achieved;

(4) by all distributors; and

(5) during any stated time period.
 

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B. Statements of Non-average, Non-median Earnings Achieved by a Substantial Number of Distributors

(1) a true statement;

(2) of any particular amount of earnings;

(3) actually achieved or exceeded;

(4) by a substantial number of distributors;

(5) during any stated time period; and

(6) provided that it is accompanied by;

(a) a clear and conspicuous disclosure of the percentage of total number of distributors who have achieved such results; and

(b) printed in type size at least equal to that of the statement of sales, profits, or earnings of the percentage of the total number of distributors who have achieved such results.
 

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C. Income Testimonials

To make income testimonials, the company must ensure that any such testimonial includes or is accompanied by the following clear and conspicuous disclosures (if printed, in boldface type at least equal in size to that of any sales, profits, or earnings figure stated in the testimonial):

(1) an accurate statement of the average amount of time per day, week, or month required by the distributor to achieve the stated results;

(2) an accurate statement of the year or years during which, and the geographical area(s) in which, the stated results were achieved;

(3) if the results achieved by the distributor providing the testimonial have not been achieved by at least 10 percent of all distributors during the time period covered by the testimonial, a statement of the average or median sales (or profits or earnings, whichever is included in the testimonial) of all distributors during the time period covered by the testimonial, or the following statement: IMPORTANT NOTICE: THE RESULTS DESCRIBED ABOVE ARE SUBSTANTIALLY IN EXCESS OF THE AVERAGE RESULTS ACHIEVED BY ALL OUR DISTRIBUTORS. OUR RECORDS SHOW THAT ONLY ___% OF OUR DISTRIBUTORS HAVE EQUALED OR EXCEEDED THE PERFORMANCE DESCRIBED ABOVE DURING THE INDICATED TIME PERIOD; and

(4) if the results achieved by the distributor providing the testimonial have been achieved by 10 percent or more of all distributors during the time period covered by the testimonial, but are in excess of the average or median results achieved by all distributors, a statement of the percentage of all respondents' distributors who, according to respondents' records, have achieved equal or better results during the same time period, or a statement of the average or median results achieved by all distributors of respondents' products during the same time period.

Because direct selling distributors usually have no access to the numbers and averages required to make permissible written income claims, they should be strongly discouraged or prohibited from doing so . . . unless the company provides that information to them, and the distributors provide that information to their prospects. In light of the overwhelming likelihood that your distributors are making income claims, I suggest that you strongly consider preparing a flyer that contains the information discussed in this article.

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D. Definition of "Average"

The computation of "average" earnings must not be based on less than all dis tributors in the stated category (e.g., "active distributors," or a certain level of distributor), unless the fact that some distributors are excluded and the basis for any such exclusion are clearly and prominently disclosed in close proximity to such representation.

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E. Record Keeping Requirements

Direct sellers must maintain records which substantiate that any representation made regarding past or present earnings are accurate. Such records must be sufficient to:

(1) substantiate the accuracy of any representations made regarding amounts earned;

(2) the number or percentage of distributors achieving such results

(3) the time period during which such results were achieved; and

(4) the amount of time per day, week, or month required to achieve such results.
 

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Discussion

A. Status of the Law

Six jurisdictions, Georgia, Maryland, Massachusetts, Louisiana, Puerto Rico, and Wyoming have statutes that expressly limit or proscribe earnings claims or representations made by direct selling companies.¹ Georgia and Louisiana allow earnings representations provided that a direct seller has "documented data to substantiate the claims of income or earning potential."² Maryland allows income claims so long as "the past earnings . . . are those of a substantial number of participants."³ Similarly, Puerto Rico allows earnings representations so long as such statements are "obtained by a reasonable number of participants.⁴ Two states, Massachusetts and Wyoming, flatly prohibit income representations.⁵ Despite their apparent "total" prohibition, there is, nevertheless, a legitimate legal argument that income representations are permissible in Massachusetts and Wyoming under the auspices of certain Federal Trade Commission ("FTC") decisions. (See Sections B and C below.

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B. "Plan B"

As have most states, both the Massachusetts and Wyoming legislatures have directed that their respective state courts and attorneys general interpret their consumer protection laws in light of regulations promulgated and decisions rendered by the FTC.⁶ As discussed below in Section C, the FTC does allow certain type of income and earnings representations, provided that certain criteria are met. Thus, under the Massachusetts and Wyoming consumer protection acts, direct selling companies' written income representations should be permissible so long as they comport with the FTC's requirements. It is important to note that while the decisions of the FTC are persuasive, they are not conclusive or dispositive of any issue at the state level.

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C. Federal Trade Commission Decisions

Fortunately for direct selling companies, the FTC has provided clear guidelines regarding income claims. This guidance is derived primarily from National Dynamics Corporation⁷ and its progeny.

1. The Initial Decision

In National Dynamics, the defendant company was charged with violating the Federal Trade Commission Act by making certain statements regarding the earnings of its distributors. Typical and illustrative of these representations are the following:

• I talk big figures, $10,000, $15,000, $25,000 a year . . . VX-6 is the Aladdin's Lamp of specialty selling.
• Pictures of individuals with captions

"$1,554.00 one week"

"$148 one day"

"$2316.96 one week"

"$1028 one month"

"$500 one week"

"$350 one week."

• Our men made MORE THAN $4,000,000 PROFITS and haven't even scratched the surface yet!
• I'm going to show you how to enjoy an income of $1,000 or more a month . . . without ever risking a penny of your own money.
• One Quick Phone Call--At My Expense--And You Can Choose How Much You Want to Earn This Year--( ) $2,000.00 ( ) $5,000.00 ( ) $10,000.00 ( ) $15,000.00 ( ) $25,000.00.
• You too can make $1,000.00 a month with VX-6 . . .
• HERE'S HOW TO MAKE $46.00 A DAY--EASY! HERE'S HOW TO MAKE $95.00 A DAY--EASY!

The FTC found that of the 12,000 distributors who purchased VX-6 from National Dynamics during the calendar year 1969, not more than 60 distributors, or one-half of one percent of the total number of distributors, "made profits in excess of $10,000 through the resale of VX-6; that of those 60, not more than 20 made profits in excess of $15,000; that not more than 5 made profits in excess of $25,000; and that no distributor made profits in excess of $75,000." Not surprisingly, the FTC held that "distributors do not realize such earnings . . . on the contrary, few, if any, attain such earnings." The FTC further opined that "while it may be possible for a distributor to realize earnings of the magnitude stated in respondents' advertising, the representation that a substantial number of distributors have made and can make the high profits indicated is false, misleading, and deceptive" and violative of the Federal Trade Commission Act.

The FTC ordered National Dynamics to cease and desist from:

representing, directly or by implication, that persons purchasing respondents' products for resale will derive any stated amount of gross or net profits or other earnings through representations as to the past earnings of purchasers of respondents' product unless, in fact, the past earnings represented are those of a substantial number of purchasers and accurately reflect the average earnings of such purchasers under circumstances similar to those of the purchaser to whom the representation is made; or misrepresenting in any manner the past, present, or future profits or earnings derived, or to be derived, from the resale of respondents' products.

(Emphasis added.) In light of the subsequent modifications made to the Commission's order as the result of National Dynamics subsequent appeals, the value of the above-cited language is primarily historical.

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2. National Dynamics⁸ -- The First Modification

National Dynamics appealed the decision of the FTC to the United States Court of Appeals for the Second Circuit, which reversed the Commission's decision and remanded the case back to the FTC. The FTC modified its earlier order to permit statements regarding sales, earnings, and profits in a format utilizing ranges instead of averages.⁹

Recognizing the Court's direction regarding earnings statements, the FTC concluded that:

the use of earnings ranges may be made provided that for any stated range (i.e., $5-10,000), respondents also provide an equally clear and conspicuous statement of the number of distributors who achieved earnings within that range, and a statement of the period of time over which the figures were compiled. In addition, the top figure for the highest earnings range may not exceed the highest earnings figure actually achieved by a distributor, to prevent, for example, use of a $20-40,000 category when the highest achieved figure might be only $30,000. We believe that these requirements are necessary to prevent the deceptive use of earnings ranges, without being unduly burdensome.

The FTC again ordered National Dynamics to cease and desist from:

representing, directly or by implication, that persons purchasing respondents' products can or will derive any stated amount of sales, profits, or earnings; or misrepresenting in any manner, the past, present, or future sales, profits, or earnings from the resale of respondents' products; Provided, that the foregoing paragraph shall not be construed to prohibit:

(a) an accurate representation of any range or ranges of sales, profits, or earnings achieved by purchasers of respondents' products which includes a clear and conspicuous disclosure (in bold-face type at least equal in size to that of the representation of the range or ranges where such appear in print) of the following information:

(i) an accurate statement of the number of participants achieving sales, profits, or earnings within the stated range; and

(ii) an accurate statement of the time period in which the reported figures were achieved.

The figure purporting to be the end figure of the highest range in an advertisement may not exceed the highest amount of sales, profits, or earnings actually achieved by a purchaser.

(Emphasis added.)¹⁰

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3. National Dynamics -- The Second Modification

The FTC revisited its modified March 4, 1975 order only three months after its creation.¹¹ This last order "eliminated certain ?loopholes' in the March 4, 1975 order and set forth with greater clarity a wide variety of options . . . available for making truthful claims concerning the earnings of their distributors."

The "adjusted" attitude of the Commission, thanks to the Second Circuit, is readily apparent from the following language:

In fashioning our modified order, we have proceeded on the theory that respondents should be allowed to make a wide variety of simple, truthful, nondeceptive statements concerning the earnings of their distributors. At the same time, they must be prevented from bandying about high earnings achieved by a minority of purchasers with no indication of the unrepresentativeness of such earnings. If respondents lack evidence that the high reported earnings of a few distributors are in fact representative of the earnings of large numbers of other distributors, then it is clearly deceptive for them to portray the minority results reported to them without a clear indication of their unrepresentativeness.

(Emphasis added.)

Again, the FTC ordered National Dynamics to cease and desist from:¹²

(a) Representing, directly or by implication, that persons purchasing respondents' products can or will derive any stated amount of sales, profits, or earnings therefrom;

(b) Misrepresenting in any manner the past, present, or future sales, profits or earnings from the resale of respondents' products, or representing, directly or by implication, the past or present sales, profits or earnings of purchasers of respondents' products except that any or all of the following representations shall not be prohibited:

(1) A true statement of the average or median sales, profits, or earnings actually achieved by all purchasers [distributors] of respondents' products during any stated time period.

(2) A true statement of any particular amount of sales, profits, or earnings actually achieved or exceeded by a substantial number of purchasers of respondents' products during any stated time period, provided that it is accompanied by a clear and conspicuous disclosure (if printed, in type size at least equal to that of the statement of sales, profits, or earnings) of the percentage of the total number of purchasers who have achieved such results.

(Emphasis added.)

Thus, the Commission's order embodies a general prohibition on representations of past earnings, followed by a detailed enumeration of various broad sorts of earnings claims, in addition to allowable average earnings claims. The order makes clear that any true statement of average or median earnings achieved by distributors during any particular stated past time period is permissible. In fact, the FTC cited the following examples as permissible:

1. Last year our distributors earned an average of $_____
2. In 1971 our distributors earned an average of $_____
3. For all of 1973 our distributors earned an average of $_____ per month.
4. In May, 1973, our distributors earned an average of $_____

   
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4. In re Larry Brog¹³ and the Computation of "Average"

In re Larry Brog dealt with representations regarding distributor income and the computation of "average" distributor earnings. The Commission found that Brog's promotional literature "represented, directly or by implication, that the income figures shown thereon reflect an average which is computed by taking into account the total number of distributors who have advanced to the specified bonus level and the amount of money earned by each of them during the month in question." The FTC concluded, however, that:

In truth and in fact, the income figures shown on the flipcharts do not reflect an average which is computed by taking into account the total number of distributors who have advanced to the specified bonus level and the amount of money earned by each of them during the month in question. Respondent provides distributors with monthly income figures for use on the flipchart which are computed by taking into account only those distributors who earn some income during the month in question, and the total amount of money earned by them. Because the large majority of distributors earn no income during a given month, this manner of computation results in average income figures which are substantially larger than would be the case if the figures were computed by the method set forth in Paragraph Ten. Therefore, respondent's representation as set forth in Paragraph Ten is false and misleading.

(Emphasis added.)

The Commission ordered Brog to cease and desist from representing as an "average," directly or by implication, any computation of income levels, earnings, sales or other payments received by distributors as a whole or by a specified distributor category which was based on less than all distributors in the stated category, unless the fact that some distributors are excluded and the basis for any such exclusion are clearly and prominently disclosed in close proximity to such representation.

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Sample Income Chart

The Income Statistics chart is for your information. Please note that the FTC requires: (1) a statement of the average amount of time per day, week, or month required by distributors to achieve the stated results; (2) a statement of the year during which the results were achieved; (3) the geographical area(s) in which the results were achieved; and (4) a statement of the average (or median) earnings of ALL distributors during the time period covered.
 

The statistics above are for all active U.S. _________ Distributors who were eligible to earn downline commissions in 1995. Those Distributors at the Consultant level are not included in the statistics above because Consultants are not eligible to earn downline commissions. The average annual income for all ________ Distributors in 1995 was $_______. The earnings of the Distributors in this book are not necessarily representative of the income, if any, that a __________ Distributor can or will earn through his or her participation in the __________ Compensation Plan. These figures should not be considered as guarantees or projections of your actual earnings or profits. Any representation or guarantee of earnings would be misleading. Success with __________ results only from successful sales efforts, which require hard work, diligence, leadership. Your success will depend upon how effectively you exercise these qualities.

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Endnotes

1. Several other states condition, limit, or prohibit income claims relating to the sale of a "business opportunity." See, e.g., Indiana Code §§ 24-5-8-2 and 24-5-8-5; General Statutes of North Carolina § 66-98; South Carolina Code § 39-57-60; Texas Civil Statutes § 5069-16.15; and Code of Virginia § 59.1-266. As long as a direct selling company is not a "business opportunity," the foregoing statutes should not be problematic.

2. Section 10-1-414 of the Georgia Code provides that a multilevel marketing company:

shall not represent that a business opportunity or multilevel program provides income or earning potential of any kind unless the seller [direct selling company] has documented data to substantiate the claims of income or earning potential, which data shall be furnished to the administrator or his representative upon request.

Louisiana Statutes Annotated, Title 51, Chapter 23, Section 1823 provides:

No business opportunity seller or agent shall:

(1) Represent that a business opportunity provides income or earning potential of any kind unless the seller has documented data to substantiate the claims of income or earning potential and discloses this data to the prospective purchaser at the time such representations are made.

(2) Advertise or make any written reference to a specific range or level of income or earning potential without setting forth the following disclosure, with blanks completed in print as large or larger than that referring to income or earning potential: "No assurance of earnings or ranges of earnings can be made. The number of purchasers who have earned more through this business than they invested is at least __________. This is ________ percent of the total number of purchasers. This information is current as of __(date)__."

3. Section 14-303 of the Maryland Code provides,

A multilevel distribution company may not represent directly or indirectly that participants in its marketing program may or will earn a stated gross or net amount or represent in any way the past earnings of participants unless the stated gross amount, net amount, or past earnings:

(1) are those of a substantial number of participants in the community or geographic area where the representation is made; and

(2) accurately reflect the average earnings of participants under circumstances similar to those of the participant or prospective participant to whom the representation is made.

The Maryland statute goes farther than those of Georgia and Louisiana in that it also imposes a second requirement that the claims reflect the average earnings of those participants "under circumstances similar to those of the participant or prospective participant to whom the representation is made." As discussed below, this language was taken from the Federal Trade Commission's decision in In re National Dynamics Corporation, et al., 85 F.T.C. 1052 (June 17, 1975). On remand from the United States Court of Appeals for the Second Circuit, the FTC subsequently deleted this requirement from its order. Thus, in all likelihood, this criterion would not be enforced by Maryland.

4. Section 997d of the Laws of Puerto Rico provides,

No multi-level distribution company may, directly or indirectly through its dealers, agents or participants, use as propaganda in the enlistment of new participants information on the profits or benefits obtained in the past by its dealers, agents or participants, or assure to prospective participants in this type of business a given amount of profits or benefits, unless the profits or benefits mentioned are those obtained at present by a reasonable number of participants in the Commonwealth or a similar geographical area and reflect the average profits and benefits obtained by them through the distribution and/or sale of properties or services. Likewise it is prohibited to make use of propaganda aimed at showing the facility of enlisting and retaining new participants and their operational or economic success.

5. Section 93-69 of the Massachusetts General Laws provides in pertinent part,

(e) Multi-level distribution companies shall not represent, directly or indirectly, that participants in a multi-level marketing program will earn or receive any stated gross or net amount, or represent in any manner, the past earnings of participants; provided, however, that a written or verbal description of the manner in which the marketing plan operates shall not, standing alone, constitute a representation of earnings, past or future. Multi-level distribution companies shall not represent, directly or indirectly, that additional distributors or sales personnel are easy to secure or retain, or that all or substantially all participants will succeed.

Section 40-3-107 of the Wyoming Statutes provides,

Multilevel distribution companies shall not represent directly or by implication that participants in a multilevel marketing program will earn or receive any stated gross or net amount, or represent in any manner the past earnings of participants. A written or verbal description of the manner in which the marketing plan operates shall not, standing alone, constitute a representation of earnings, past or future. Multilevel distribution companies shall not represent directly or by implication, that it is relatively easy to secure or retain additional distributors or sales personnel or that all or substantially all participants will succeed.

6. Section 93A-2 of the Massachusetts General Laws Annotated provides in pertinent part:

(b) It is the intent of the legislature that in construing paragraph (a) of this section in actions brought under sections four, nine and eleven, the courts will be guided by the interpretations given by the Federal Trade Commission and the Federal Courts to section 5(a)(1) of the Federal Trade Commission Act (15 U.S.C. 45(a)(1)), as from time to time amended.

(c) The attorney general may make rules and regulations interpreting the provisions of subsection 2(a) of this chapter. Such rules and regulations shall not be inconsistent with the rules, regulations and decisions of the Federal Trade Commission and the Federal Courts interpreting the provisions of 15 U.S.C. 45(a)(1) (The Federal Trade Commission Act), as from time to time amended.

The Massachusetts Supreme Judicial Court has held that the Attorney General's interpretative powers are limited in that his definitions under the Consumer Protection Act not be inconsistent with Federal Trade Commission and federal court decisions, and the usual limitation that his regulations be neither arbitrary nor capricious. Purity Supreme, Inc. v. At torney General, 380 Mass. 762, 407 N.E.2d 297 (1980).

Additionally, Section 93A-3 of the Massachusetts General Laws Annotated provides:

Nothing in this chapter shall apply to transactions or actions otherwise permitted under laws as administered by any regulatory board or officer acting under statutory authority of the commonwealth or of the United States. For the purpose of this section, the burden of proving exemptions from the provisions of this chapter shall be upon the person claiming the exemptions.

Thus, if certain income representations have been and are allowed by the FTC, they are allowable under Massachusetts law.

Wyoming Statutes, Section 40-12-110 provides:

(a) Nothing in this act [the Consumer Protection Act] shall apply to:

(I) Acts or practices required or permitted by state or federal law, rule or regulation or judicial or administrative decision;

Again, if certain income representations are permissible by the FTC, they should be allowable under Wyoming law.

7. In re National Dynamics Corporation, et al., 82 F.T.C. 488 (Feb. 16, 1973).

8. In re National Dynamics, et al., 85 F.T.C. 391 (Mar 4, 1975).

9. The FTC also addressed "income testimonials" in its opinion. Since this topic is beyond the scope of this article, it will not be discussed herein. However, in light of income testimonials invariably contained in direct selling companies' videos, it is unquestionably a timely topic.

10. The FTC also held that National Dynamics must

maintain records which substantiate that any past or present sales, profits, or earnings represented are accurate. Where ranges of sales, profits, or earnings are represented, such records shall be sufficient to substantiate the number of purchasers achieving results within any stated range and the time period during which such results were achieved. Where average or median figures are represented, such records shall be sufficient to substantiate that such median or average figures are accurate.

11. In re National Dynamics Corporation, et al., 85 F.T.C. 1052 (June 17, 1975).

12. The Commission reiterated the requirements to:

maintain records which substantiate that any representation made regarding past or present sales, profits, or earnings are accurate. Such records shall be sufficient to substantiate the accuracy of any representations made regarding amounts earned or sold, the number or percentage of purchasers achieving such results, the time period during which such results are achieved, and the amount of time per day, week, or month required to achieve such results.

13 In re Larry Brog, 106 F.T.C. 576 (Dec. 3, 1985).