I was recently speaking with someone who was defrauded in an investment. This person had a fairly successful career in corporate finance before he retired so I questioned him closely on how he came to be defrauded. After about five minutes of discussion he stated, “But the thing that really threw me was that the investment was guaranteed!”
My response upon hearing this was to ask, “Who underwrote the guarantee?” Instead of answering, the person I was speaking with just stared at me with very wide eyes. He later told me that he simply took the guarantee at face value, which he knew was a mistake.
Just because someone may say that “your satisfaction is guaranteed” does not mean that anything is really “guaranteed.”
There are three basic kinds of financial guarantees: The first is a form of insurance policy known as a performance bond, the second is a trust that is established to specifically fund a guarantee that is typically managed by a bank or established law firm, and the third is provided by the government. An example of a governmental financial guarantee is the Federal Deposit Insurance Corporation (FDIC), which guarantees bank savings accounts up to $250,000.
Here is a practical way of evaluating nongovernmental financial guarantees: First, establish the nature of the guarantee; meaning, is it based on some kind of insurance/performance bond or via a trust? If neither of these is in place, then the investment you are considering may not be “guaranteed” (because if an investment is a fraud, then any guarantee made by the fraudster is also fraudulent).
If there is a bond or trust in place, the next step is to get information on it such as: the name of the firm issuing the bond or managing the trust, the date it began and the date it ends, the face value of the bond or trust, the extent to which that value has been eroded by claims, and any conditions for making prospective claims.
While the above may seem like a great deal of information, it is all basic and as a result it can all be faked fairly easily. Therefore, you must validate any information you are provided with.
Common methods of validating financial guarantees include comprehensive legal review. This can be costly, so one way to reduce expenses is to do some of the legwork yourself. For example, you can look-up contact information for insurance companies, banks or law firms and either call or visit them to validate any information you have been provided.
As a general rule, I prefer to deal with large insurance companies, banks or law firms because big firms tend to have sizeable assets of their own, and as a result they also tend to have large amounts of insurance coverage to protect those assets in the event they are sued.
You can also contact local regulatory agencies, such as state Insurance Departments, and consumer advocacy groups, such as the Better Business Bureau, to determine if an insurance company, bank or law firm is in good standing. Similarly, you can check the internet and social media websites to track cyber complaint activity and trends.
If you accomplish all of the above and determine that a particular financial guarantee seems valid, you should then have a lawyer review it for you. There is a cost to do this properly, but it is important to legally validate the status of a financial guarantee before making an investment, especially a sizeable investment. Mitigating the risk of loss, including loss caused by fraud, is a big part of long-term successful personal finance.
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