Avoid Affinity Fraud Why You Shouldnt Rely on Friends and Family for Financial Advisors

affinity fraud

Scam artists often target groups of people who know each other, so do your own homework.

Discover the dangers of affinity fraud and why it’s crucial not to let friends and family choose your financial advisor. Learn why conducting your own research is essential. Protect your hard-earned money!

Gaylen Rust must have seemed trustworthy to the people who gave him money.

Rust was a longtime businessman in Layton, Utah, where he ran a coin shop started by his father in 1966. Rust also founded a charity called Legacy Music Alliance that funded arts programs in schools. An admiring 2013 profile in The Salt Lake Tribune called Rust “the states biggest proponent of arts education.”

Federal and state regulators, however, say Rust was running a Ponzi scheme. Civil lawsuits filed late last year by the Securities and Exchange Commission, the Commodity Futures Trading Commission and the Utah Division of Securities say Rust, his wife and one of his five children persuaded hundreds of friends, customers and business associates across the country to invest more than $200 million in a bogus silver trading pool.

When scam artists target groups of people who know each other or have something else in common, such as religion, its known as “affinity fraud.” And its one big reason why you shouldnt rely solely on recommendations from friends and family when choosing a financial advisor.

“If anything, word-of-mouth recommendations are even more important to the con artists than to the legitimate advisor,” says Barbara Roper, director of investor protection for the Consumer Federation of America. “Where else are they going to find their victims?”

Asking friends and family for referrals isnt a bad way to begin your search for an advisor, Roper says. Just dont assume your loved ones have done their due diligence.

The people who invested with Rust ignored several big red flags. According to the actions filed:

  • He wasnt registered in the securities industry.

  • He claimed consistently high returns, saying he averaged 20% to 25% annually and never less than 12%.

  • He didnt use a third party, such as a brokerage firm, to issue account statements and instead provided investors with spreadsheets showing purported transactions.

Promises of high returns with little or no risk are a classic sign of fraud, as are statements generated without supervision by a third party, Roper says.

Advisors who arent actual scam artists may still have checkered histories. One research team found that one out of every 14 advisors registered with Financial Industry Regulatory Authority, a private self-regulatory organization, had records of serious misconduct such as fraud, forgery or unauthorized trading. Thirty percent of that group had multiple offenses, says Mark Egan, a professor at Harvard Business School and a co-author of the study.

“Advisors who have engaged in the misconduct in the past are five times as likely to engage in misconduct again in the future,” Egan says.

Even advisors who dont run afoul of regulators can be bad news if they dont put their clients first or are simply incompetent. To protect yourself, Roper recommends the following steps to vet financial advisors:

Make sure the advisor is properly registered. Financial advisors should be registered either as a broker/dealer or as an investment advisor, Roper says. You can start at BrokerCheck, FINRAs free online tool. If the person youre checking out is an investment advisor rather than a broker, the tool will send you to the Investment Advisor Public Disclosure database. Either way, you should see their employment and disciplinary histories.

Take any disciplinary history seriously. Sometimes minor complaints end up in the databases, but typically the misconduct reported is serious, Egan says. At the very least, its worth talking to the advisor about what you find if youre already a client. If you havent hired this person, keep looking, since most advisors never run afoul of regulators.

Look for, and verify, the right credentials. People offering money advice should have at least one credential that signifies a rigorous financial education and adherence to a code of ethics, such as certified financial planner (CFP) or chartered financial analyst (CFA), Roper says. CPAs who are personal financial specialists (PFS) meet requirements similar to a CFP. You can verify an advisors credential at the sites of the organizations that granted them — the CFP Board of Standards, the CFA Institute and the American Institute of Certified Public Accountants, respectively.

You can check out any unfamiliar credentials at FINRAs site to see how much effort and education is required to obtain them, Roper suggests.

“Just the fact that an individual has a string of letters after their name,” she says, “doesnt mean they represent any valid area of expertise.”

This article was written by NerdWallet and was originally published by The Associated Press.

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affinity fraud

affinity fraud

affinity fraud