Competition Bureau
ToolsRelated topicsResourcesMulti-level Marketing and Pyramid Selling Provisions of the Competition ActSections 55 and 55.1Notice To Reader: This document does not reflect the recent amendments to the Competition Act which came into effect on March 18, 1999.
IntroductionThe former s. 55 was enacted as part of a package of amendments to the Combines Investigation Act (now the Competition Act) in 1976. It became evident soon after its enactment that the section was ambiguous and subject to wide variances in interpretation. The wording caused confusion among the direct selling industry, the public and the courts. Moreover, it did not address several harmful practices associated with pyramid selling schemes while it prohibited other practices now considered acceptable. Consequently, amendments to the pyramid selling provisions of the Act came into effect on January 1, 1993. Section 55 deals with income representations in multi-level marketing plans (mlm plans) and section 55.1 deals with situations where the mlm plan is deemed to be a prohibited scheme of pyramid selling. This information letter is meant to assist the multi-level marketing industry by outlining the approach the Commissioner of Competition (Commissioner) will take in enforcing these sections of the Act. Given the possibility of a wide range of factual circumstances, this bulletin is not a binding statement of how discretion will be exercised in a particular situation. Each matter will be reviewed on a case by case basis. This letter does not bind or affect in any way the discretion of the Attorney General in the prosecution of matters under the Act. Nor is it intended to be a substitute for the advice of legal counsel. Final interpretation of the law is the responsibility of the courts. The information letter will continue to be updated from time to time to account for future developments in law and policy. Text of Sections 55 and 55.155(1) For the purpose of this section and section 55.1, "multi-level marketing plan" means a plan for the supply of a product whereby a participant in the plan receives compensation for the supply of the product to another participant in the plan who, in turn, receives compensation for the supply of the same or another product to other participants in the plan; (2) No person who operates or participates in a multi-level marketing plan shall make any representations relating to compensation under the plan to a prospective participant in the plan unless the representations constitute or include fair, reasonable and timely disclosure of the information within the knowledge of the person making the representations relating to: a) compensation actually received by typical participants in the plan; or b) compensation likely to be received by typical participants in the plan, having regard to any relevant considerations, including i) the nature of the product, including its price and availability, ii) the nature of the relevant market for the product, iii) the nature of the plan and similar plans, and iv) whether the person who operates the plan is a corporation, partnership, sole proprietorship or other form of business organization. (2.1) A person who operates a multi-level marketing plan shall ensure that any representations relating to compensation under the plan that are made to a prospective participant in the plan by a participant in the plan or by a representative of the person who operates the plan constitute or include fair, reasonable and timely disclosure of the information within the knowledge of the person who operates the plan relating to a) compensation actually received by typical participants in the plan; or b) compensation likely to be received by typical participants in the plan, having regard to any relevant considerations, including those specified in paragraph (2)(b). (2.2) A person accused of an offence under subsection (2.1) shall not be convicted of the offence if the accused establishes that he or she took reasonable precautions and exercised due diligence to ensure a) that no representations relating to compensation under the plan were made by participants in the plan or by representatives of the accused; or b) that any representations relating to compensation under the plan that were made by participants in the plan or by representatives of the accused constituted or included fair, reasonable and timely disclosure of the information referred to in that subsection. (3) Any person who contravenes subsection (2) or (2.1) is guilty of an offence and liable a) on conviction on indictment, to a fine in the discretion of the court or to imprisonment for a term not exceeding five years or to both; or b) on summary conviction, to a fine not exceeding two hundred thousand dollars or to imprisonment for a term not exceeding one year or to both. 55.1(1) For the purposes of this section, "scheme of pyramid selling" means a multi-level marketing plan whereby a) a participant in the plan gives consideration for the right to receive compensation by reason of the recruitment into the plan of another participant in the plan who gives consideration for the same right; b) a participant in the plan gives consideration, as a condition of participating in the plan, for a specified amount of the product, other than a specified amount of the product that is bought at the seller's cost price for the purpose only of facilitating sales; c) a person knowingly supplies the product to a participant in the plan in an amount that is commercially unreasonable; or d) a participant in the plan who is supplied with the product i) does not have a buy-back guarantee that is exercisable on reasonable commercial terms or a right to return the product in saleable condition on reasonable commercial terms, or ii) is not informed of the existence of the guarantee or right and the manner in which it can be exercised. (2) No person shall establish, operate, advertise or promote a scheme of pyramid selling. (3) Any person who contravenes subsection (2) is guilty of an offence and liable a) on conviction on indictment, to a fine in the discretion of the court or to imprisonment for a term not exceeding five years or to both; or b) on summary conviction, to a fine not exceeding two hundred thousand dollars or to imprisonment for a term not exceeding one year or to both. Overview of Sections 55 and 55.1Sections 55 and 55.1 contain measures directed against deceptive practices common to multi-level marketing plans and to schemes of pyramid selling, including: a) representations relating to compensation without adequate disclosure of income received by typical participants; b) recruitment bonuses (head-hunting ); c) required purchases as a condition of participation in a plan; d) inventory loading ; and e) inadequate or non-disclosed product return policy. The following issues arising from sections 55 and 55.1 have been identified as requiring the Commissioner's interpretation. (1) How many levels of participants are necessary for a marketing plan to be a "mlm plan" as outlined in s. 55?A plan is a "mlm plan" (also known as a network marketing plan) when a product (or a service) is supplied to a participant who receives compensation, or any other benefit, for the supply of the product to another participant, who also receives compensation for the supply of the product to yet another participant in the plan. Therefore, in addition to the operator of the plan, there must be at least two other levels of participants in order for a plan to fall within this definition. (2) Will an operator be responsible for the actions of a participant when the participant makes representations about compensation which do not include the fair, reasonable and timely disclosure of information?An accused operator will not be convicted if he or she establishes that he or she took reasonable precautions and exercised due diligence to ensure that either no representations relating to compensation were made to participants or that representations made by participants relating to compensation constituted or included fair, reasonable and timely disclosure of information outlined in s. 55(2.1). Thus, an operator will not be liable for the actions of rogue distributors if he or she can establish this due diligence defence. Example #1Ms. Q, a participant eager to make lots of money in XYZ Company's mlm plan, tells Mr. W that he can earn $1,000 a week under the plan. This representation does not constitute fair or reasonable disclosure of the information required by s. 55(2.1). XYZ Company can be charged with an offence under s. 55(3) but will be acquitted if it can establish the due diligence defence. (3) How will an operator establish the due diligence defence in s. 55(2.2)?The operator must be able to prove either i) or ii) below: i) the operator's internal policies prohibited representations relating to compensation that has been, or may be paid to participants. This policy could be made known in a clear and conspicuous manner to each participant in printed materials, or could be set out in the agreement signed by each participant and would be reinforced by public statements made by the operator or representatives of the operator. An operator would also be expected to periodically monitor seminars, meetings and other sales presentations given by participants to ensure compliance with the operator's policies. In addition, the operator would be required to oversee effective sanctions against those participants who do not comply. In short, the greater the efforts of operators to make their policy known to participants, the better their chances of establishing a due diligence defence. There should also be a "paper trail" establishing these efforts to facilitate proof, preferably with some form of signed acknowledgement of receipt by each participant. Generally, a due diligence defense may include establishing that intelligent and efficient efforts to communicate the operator's requirements for compliance with the Act to all participants have been taken, and safeguards to detect and prevent wrongdoing are in place. Communications to new distributors at the time they become participants, and sufficient periodic reminders in writing to all distributors will likely be sufficient to establish due diligence. Operators who suspect, or who should suspect, violations of this obligation should pursue and resolve such suspicions promptly. ii) when representations relating to compensation are made by participants, or by representatives of the operator, the operator gave, in a clear and conspicuous manner to all participants and prospective participants, recent information relating to compensation received by typical participants. This would also require proper training by operators of the requirements and parameters of what type of representations relating to compensation can be made. An operator should also ensure that the representations relating to compensation are reviewed periodically so that only current information is disseminated. Example #2XYZ Company operates a mlm plan which prohibits representations relating to compensation being made by any participant in the plan. XYZ Company has made this policy clearly known in its promotional material supplied to all participants, including the distributor agreement signed by each participant. The company reiterates this policy at company functions such as its annual meeting. a) References to the policy at annual meeting are generally met with derisive laughter because the company does not enforce it - most participants consider the policy "not worth the paper it's written on." Incidents involving participants making representations related to compensation are frequent. b) The company also monitors seminars which promote the plan. Incidents involving participants making representations related to compensation are very rare and the company takes effective punitive measures against those participants who do not follow its policy. Example a) outlines a situation where a due diligence defence may fail, while in example b), a due diligence defence may succeed. Example #3ABC Inc. operates a mlm plan in which participants make representations relating to compensation. ABC Inc. gives to all participants and prospective participants information relating to compensation received by typical participants in 1989. ABC has not reviewed the amount of compensation received by typical participants since that time so as to ensure that the information it is giving is accurate. ABC does ensure that its participants have proper training regarding earning potential representations and the parameters of representations that can be made. This example outlines a situation where a due diligence defence may not be successful since current information relating to the amount of compensation received by typical participants is not provided. Example #4ABC Inc. operates a mlm plan in which participants make representations relating to compensation. Ms. Q has told Mr. W, a prospective participant, that 2% of participants earn $1,000 a week in the plan. She informs him at the same time that the remaining 98% make less than $100 a month. Mr. W signs an agreement to become a participant. This example outlines a situation where a due diligence defence may be raised. (4) What is a "typical" participant in a mlm plan?For the purposes of calculating compensation received, a participant in a plan is one who is actually conducting activities necessary to realize the benefits of the plan. As a general rule, a participant has the right to sponsor others in the plan, engage in sales to others and has been a member of the plan for at least one year. Thus, one who can only purchase products for personal consumption is not a participant in a plan for the purposes of calculating compensation received. Multi-level marketing plans usually produce various levels of earnings for their participants. Where one of those levels of earnings constitutes that of the majority of the participants, a typical participant will be one who receives that level. Where no single level of earnings accounts for the majority of participants, reference must be made to the fewest levels containing the largest numbers of participants which, together, constitute a majority of the participants. For greater certainty, operators should specify that participants in their first year of membership are not included in the calculation of earnings received by participants and therefore also not included in the category of "typical participant." Further, if the information provided by the company includes the highest figures earned by participants, then the company must also disclose the proportion of participants who earn that amount. Example #5An operator of a mlm plan represents that the following amounts of compensation were received by the following proportion of participants in the plan in the last year:
A typical participant in the above situation would be one who earned between $2,001 - $4,000/year because a total of 60% of participants received compensation within this range. If the operator were to make representations such as "60 % of participants made between $2,001 - $4,000", or "typical participants made between $2,001 - $4,000", the Commissioner may not have reason to initiate an inquiry under the Act. (5) What is "fair, reasonable and timely disclosure" as used in section 55?When making representations relating to compensation, disclosure of information will likely be "fair, reasonable and timely" when: (1) the information includes a breakdown of the different levels of compensation received by all participants, as well as the proportion represented by each level as shown in example #5; (2) it outlines the amount of compensation received by a typical participant; (3) it includes a realistic description of the amount of time and effort that would be necessary to attain various specified levels of compensation within the plan; (4) the most recent figures are used regarding levels of compensation (and these are updated periodically); (5) prospective participants are informed on a timely basis of changes to the levels of compensation received by typical participants in a plan. (6) Can operators, participants or representatives of operators make representations relating to compensation received by non-typical participants?Yes. Compensation received by non-typical participants may be indicated as long as compensation received by typical participants is also outlined at the same time. However, reference to non-typical participants should not be made in such manner as to detract from the representations regarding typical participants. With reference to Example #5 above, an operator could represent that 15% received between $8,001 - $10,000 as long as earnings for typical participants (i.e. 60% made between $3001 - $4000) were also disclosed. (7) Can operators or participants in a new mlm plan make representations relating to compensation?Yes. Operators of, or participants in, a new mlm plan, which is considered to be a plan that has been in operation for less than two years , may make representations relating to compensation. These representations may be made even though there is no prior compensation upon which they can be based. Persons making such representations should consider the factors listed in s. 55(2)(b)(i)-(iv). These include the nature of the product, the market, the plan and whether the person operating the plan is a company or other form of business organization. Following this, representations should be examined to ensure that they are realistic and supportable. It is the Commissioner's policy that operators of mlm plans will not be able to rely on overly optimistic marketing forecasts when considering the levels of compensation likely to be received. Compensation levels in new plans should be reviewed on a semi-annual basis to ensure that there is no major discrepancy between forecasted and actual levels of compensation received. When a majority of participants have participated in a new mlm plan for one year, the actual compensation received by these participants should be used instead of the forecasted levels. It is possible for a foreign mlm company wishing to commence business in Canada to make representations relating to compensation based on a plan's previous history in a foreign country. However, this will depend on whether the company can establish that there are sufficient similarities between the foreign and proposed Canadian operation. This will depend on various factors, including: type of product, market conditions and demographic differences. Example #6Company X introduces a new mlm plan featuring the sale of widgets, a new product on the market. Company X is aware of compensation levels received by participants in Company Y, which introduced a new mlm plan and product one year ago. Both plans are similar but Company X's plan offers slightly higher commissions. The clientele for both companies is confined to a certain geographic area and demographic group. There has been no significant change in economic conditions in the last year. Company X has examined the market very carefully and has determined that it should be at least as successful. Company X uses this information to make representations relating to compensation likely to be received by typical participants. In such a situation, the Commissioner may not have reason to initiate an inquiry under the Act. Example #7Mr. Y. is the operator of a new mlm plan. He has commissioned Mr. Z., a zealous marketing consultant, to assess the new mlm plan in light of the criteria set out in s. 55(2)(b)(i)-(iv). Mr. Z.'s projections are inflated. Mr. Y. then: a) accepts the projections at face value and uses them as a basis for the expected compensation levels received by typical participants in the new mlm plan, or b) assesses the projections in relation to the factors given and concludes that the figures are inflated. He therefore does not use the compensation levels provided. Example a) outlines a situation which may give the Commissioner reason to initiate an inquiry under the Act, whereas example b) does not. (8) How often should compensation levels received by participants be reviewed?Generally speaking, operators should review the amount of compensation received by participants on an annual basis. Data should be updated periodically to ensure accuracy. However, operators of new mlm companies should review compensation levels semi-annually as there is a greater need to verify projected compensation levels. (9) Can a MLM plan be a scheme of pyramid selling?Yes, if it contains any of the features described in s. 55.1(1)(a)-(d). (10) What does section 55.1 say about recruitment bonuses (head-hunting)?Section 55.1(1)(a) prohibits consideration being given by a participant for the opportunity to receive a benefit when others are recruited into the plan who, in turn, give consideration to participate. Consideration includes cash or any other benefit. The terms recruitment bonuses and head-hunting are often used to refer to such situations. If the price of the product is far in excess of its fair market value, there could be reason to believe that the price includes consideration for the right to receive compensation by reason of the recruitment. Example #8Company A initiates a mlm plan in which potential participants must pay $150 in order to be eligible to participate. A participant is then eligible to receive $50 for each person recruited into the plan who pays $150. This plan may fall within the definition. Example #9Company B initiates a network marketing scheme in which Mr. Jones pays $150 for an owner's manual and distributor agreement forms. The cost of the manual and forms to the company is approximately $40. Mr. Jones then recruits another individual, Mr. Brown, who also pays $150 for a manual and forms. Mr. Jones receives a $50 commission for recruiting Mr. Brown. Mr. Brown is now eligible to recruit others and receive a commission in respect of their recruitment. This situation may fall within the definition as there is hidden consideration paid for the right to receive compensation for recruiting others. The consideration is hidden in the cost of the manual and forms. Had company B sold the manual and forms for $40 (i.e. their cost price), then this situation would not fall within the definition. (11) What does section 55.1 say about purchase requirements as a condition of participation?Section 55.1(1)(b) prohibits a mlm plan where consideration is given by a participant, as a condition of participation in a plan, for a certain amount of products. This provision also prohibits a mlm where existing participants must purchase products in order to attain a higher commission/benefit level. However, this section allows for a participant to purchase products that are bought at the seller's cost price for the purpose of facilitating future sales. Accordingly, a plan may not raise an issue under this paragraph if a recruit was required to purchase a "starter's kit" (manual, directives, product samples, promotional material) at the seller's cost price plus reasonable handling and shipping costs. The Commissioner will also take into consideration whether a significant portion of sales are made to individuals who are not plan participants as the absence of such sales could indicate that there is a de facto purchase requirement, thereby raising an issue under this section. It is the Commissioner's view that while purchase requirements may contravene this section, sales requirements do not contravene the section. Example #10Company D operates a mlm plan in which a participant, as a condition of entry, must purchase $75 of product at the seller's cost price, to allow the participant to demonstrate the various products of the company. The product can be retailed for $125. This situation may not be within the definition as the product is purchased at the seller's cost price to facilitate sales. (12) What does section 55.1 say about inventory loading in respect of mlm plans ?Section55.1(1)(c) prohibits operators or distributors from supplying products to a participant in a plan in amounts that he or she knows are commercially unreasonable. In other words, there can be no inventory loading. In the Commissioner's view, "commercially unreasonable" will be based on considerations such as: (1) type of product; (2) selling price of the product; (3) size of the market; (4) number of participants; (5) number of competitors; and (6) sales history of the products. Example #11Company E operates a network marketing plan in which participants are sold large quantities of product at wholesale after entry into a plan. The market for the product is depressed given the substantial number of competitive companies. Numerous participants have recently joined the plan and they, too, purchased large quantities of products. The sales history of the product has not been successful. This situation may fall within the definition. (13) What does the new section say about a buy-back guarantees in mlm plans?Under s. 55.1(1)(d), mlm plans must have a buy-back guarantee, or a right to return the product in saleable condition. Participants must also be informed of the buy-back guarantee or right and how it can be exercised. Further, participants should be given the option of returning product to the participant from whom they purchased it, or to the company. In the Commissioner's view, some factors to be considered in determining what constitutes "reasonable commercial terms" are: (1) the nature of the product; (2) the time period given to return product; (3) the percentage of money returned; (4) the procedures to be followed in returning a product; and (5) product return policies of other companies offering similar products. Example #12Company F operates a network marketing plan featuring the sale of air filters with a product return guarantee. The company has made the terms of the policy known in promotional material and in agreements signed by participants. The policy and related procedures are also discussed at seminars and distributors are trained to inform prospective distributors about them prior to recruitment. The company will return 90% of money spent on the product and allow 75 days for participants to exercise their right to return products in saleable condition. Overall, this policy is similar to product return guarantees of other companies. Participants must return the product at their own expense. The company does not earn a profit on product return. This return policy meets the requirements of s. 55.1(1)(d). The Program of Advisory OpinionsAn opinion under the Commissioner's Program of Advisory Opinions can be requested as to whether a proposed marketing plan would give the Commissioner reason to initiate an inquiry under sections 55 or 55.1 of the Act. Opinions take into account previous jurisprudence, previous opinions and the stated policies of the Commissioner. The requestor should recognize that opinions are only given in relation to the Act and not in relation to other statutes, such as the Criminal Code of Canada. In order to provide an informed opinion, the Commissioner requires adequate disclosure of all material facts relating to the proposed plan, including the name of the requestor and the proposed business. The more complete and accurate the information provided, the less qualified the opinion will be and the less likely it is that the matter would be subject to revision because of new information received. The information that is submitted should include a description of the compensation plan, all promotional brochures, pamphlets, videos, audiotapes, contractual agreements and any other material which provides information relating to the marketing plan. The requestor must also confirm that the proposed plan raises no issues that are being considered by any other law enforcement agency in Canada or abroad. Those who seek an opinion are not bound by it and should a negative opinion be given on the plan, operators remain free to adopt the plan in question, recognizing that the matter may be tested in the courts. Similarly, the Commissioner is not bound by such opinions. They are given in relation to a specific set of facts. Should a plan that is implemented be different from the plan presented to the Commissioner, or should conditions change in a way that impact of the plan, the matter could be subject to further examination and the opinion revised. An opinion under sections 55 and 55.1 of the Act will not be given in the following situations: where the plan involves gold or silver coins, the travel industry or discount cards. An opinion will not be given in these situations because of the difficulty of establishing the value of these products. In such cases it is not possible to determine whether consideration is being paid for the right to receive bonuses for recruitment. An opinion will also not be provided where the operator is situated outside of Canada and there is no entity incorporated in Canada, or no individual located in Canada who could be liable for the actions of the company. An opinion will not be given where a company discontinues operations and resurfaces under a new name until the new entity is monitored and it is determined that it is a viable business. Operators who wish an opinion should submit their complete plan to Industry Canada, Competition Bureau , Fair Business Practices Branch, Place du Portage, Phase I, 17th Floor, Hull, Quebec, K1A 0C9. Starting November 1997, operators (or their counsel) will be charged a fee for the issuance of an opinion. For information relating to the user fees charged by the Competition Bureau, please contact 1-800-348-5358. Enforcement PrioritiesAll complaints received by the Competition Bureau are assessed in relation to the statute. Due to the large number of complaints received each year, a priority system for the selection of cases that best meet the objectives of the legislation has been established to ensure that all cases are appropriately handled. Some of the economic factors considered in determining the priority to be given a specific complaint about the activities of a mlm business are: the cost of the materials promoting the plan; the scope of the plan; the degree to which the misrepresentation or scheme affects the decision of prospective participants as to whether or not they will join the plan; the type of product/service offered by the plan; whether the practice is national or local; whether the matter has a high public profile; whether the practice was deliberate; whether new jurisprudence would be developed; and, whether enforcement action is likely to deter others from similar practices. Should the matter warrant enforcement action, the Commissioner has a number of options in resolving the complaint: through an compliance notice, an undertaking, a consent or contested prohibition order, or the criminal courts. An operator will be informed of any enforcement action. Complaint LineA person can lodge a complaint with the Competition Bureau's Information Centre by telephoning 1-800-348-5358 or by sending a facsimile at (819) 997-0324 or by writing to: Information Centre, 
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Created: 1999-09-22 Updated: 2006-09-26 |
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