According to recent SEC enforcement actions, promissory note schemes have increased substantially in recent years.  This is likely due to the promise of high guaranteed rates of interest made by scam artists selling these “investments.”

The following are some basic tips on how to evaluate promissory note investments and avoid those that may be fraudulent.

What is a Promissory Note?

A promissory note is a form of debt that companies sometimes use, like loans, to raise money. The company, through the notes, promises to return the buyer’s funds (principal), and to make fixed interest payments to the buyer in exchange for borrowing the money.  Promissory notes have set contractual terms, or repayment periods, which should be set forth specifically in the debt instrument (i.e. the Note itself).

Problems With Some Promissory Notes

There are three main types of problems with fraudulent promissory notes.  First, some promissory notes are fraudulent from the get go and are intended solely to deceive investors into believing that they are entering into a contractual arrangement with a company.  Second, some promissory notes are actually securities that should be registered with the appropriate regulatory bodies.  The fraudulent promissory notes generally bypass this requirement and sell the note as an unregistered security in contravention of applicable law.  Third, certain sellers of promissory notes are also required to be registered, and fraudulent promissory notes are often marketed and sold by unregistered sellers.

How to spot a fraudulent promissory note

Fraudulent promissory note programs are often characterized by deceptive promises or statements.  Examples include that the investors will receive very high, double digit returns, that returns are guaranteed, or that the notes are backed by collateral to guarantee them.

Promissory note schemes often target elderly, income seeking investors who are attracted to the notes due to the interest/income that is offered.

Red Flags to Watch Out For

–  Legitimate corporate promissory notes generally are sold to sophisticated buyers through a corporate offering.  If you are an individual investor being offered the opportunity as part of a limited offering, this alone may be a red flag.

–  No reputable financial professional should push you to make an immediate decision about an investment, or tell you that you must “act now.” If someone pressures you to decide on a promissory note purchase, this is a definite red flag.

–  The SEC maintains databases where you can check to see whether a promissory note is registered.  If it is not registered, this may be a red flag.

–  If you are buying through your stockbroker, confirm that the note is being sold through the advisor’s broker-dealer.  Broker’s are prohibited from selling investments outside of their firm and if your broker is attempting to do so, this is certainly a red flag.

–  A financial professional cannot guarantee a return, so if the person attempting to sell you the promissory note guarantees a specific return, this is a red flag.

–  If it sounds too good to be true, it usually is.  If the Note is offering a very high return, this is a red flag.

Already Invested?

If you think you have already purchased a fraudulent promissory note, the securities attorneys of The White Law Group may be able to help.

The White Law Group, LLC is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm with offices in Chicago, Illinois and Boca Raton, Florida.

For more information on The White Law Group, visit http://whitesecuritieslaw.com.