Internet Fraud Hearing

(February 9, 1998.)  The U.S. Senate Governmental Affairs Committee heard testimony on February 9 regarding fraud on the internet.  Witnesses included representatives from America Online, the National Consumers' League, and the Federal Trade Commission, and a victim of an internet pyramid investment scheme.

The hearing was conducted by the Permanent Subcommittee on Investigations, of the Committee on Governmental Affairs, of the U.S. Senate.  Senator Susan Collins (R, Maine) is Chairman, and Senator John Glenn (D, Ohio) is the Ranking Minority Member.

Most of the hearing was devoted to gathering information about how the internet is being used to perpetrate fraud.  Republican Collins spoke out for increased consumer awareness of the problem, while Democrat Glenn advocated more government regulation of the internet industry.

"Law enforcement officials are quickly learning that almost any crime that can be committed in the real world can also be committed in the virtual world.  In fact, by using the Internet, criminals can target more victims more quickly, more cheaply, and with much less chance of getting caught," said Sen. Collins.

Types Of Fraud

Most of the testimony consisted of listing and describing the types of fraud being committed, and informing Committee and the public of the nature of the problem.  It also perhaps provided would be crooks a primer on how to get started.

Susan Grant, Director of the National Fraud Information Center, and Vice President for Public Policy of the National Consumers League, outlined the most common types of fraud.

• Web auctions where sold items are not delivered.
• Internet services that charge for supposedly free services.
• General merchandise sales where goods are not delivered, or as advertised.
• Computer equipment or software sales where products are not delivered, or as advertised.
• Pyramid schemes.
• Business opportunities which make empty promises of big profits.
• Work at home plans where materials or equipment are sold with false promises to provide piece work.
• Credit card issuing, where false promises to issue cards are made to people with bad credit upon payment of fees.
• Prizes which require upfront fees to claim winnings, which are never delivered.
• Book sales where books are not delivered, or as advertised.

Tatiana Gau, Vice President of Integrity Assurance at AOL described a number of fraudulent practices commonly perpetrated against AOL subscribers.

• Password scams, whereby someone attempts to acquire and misuse a subscribers password by any of several means, including direct solicitation, diag.dat phishing, fake websites with logins, guessing, and cracking.
• Credit and billing scams.
• Fake store fronts.
• Spam, including using false return addresses, and making false claims.

Barry Weiss, a CPA, testified about how he lost almost $5,000 from investing in Fortuna Alliance.  It turned out to be a pyramid scheme, and was shut down by the FTC.   Weiss made the point that even people with investment experience are taken in by internet fraud.

Grant offered some reasons for the success of fraud on the internet.  First, "consumers are seduced by the novelty and excitement of being on the net."  Second, people got used to computers, and came to trust them, before they became connected to the internet.

Should There Be More Regulation Of The Internet?

Glenn does not believe that the internet industry is capable of regulating itself.   "If self regulation does not happen, Congress could and should" regulate the internet industry.  Sen., Glenn (D., Ohio) was also critical of America Online itself.  "When the leaders of the industry are being hauled up for things like this, we have got a problem," declared Sen Glenn, in reference to AOL's now settled matter before the FTC.  "If this goes on we are going to have tough new regulations."  He concluded that, "If the companies do not police themselves, they are going to get policed."

Collins made no statements endorsing increased government regulation in this area.   Rather, "Congress must approach its role with caution.  Too much regulation will hamper, if not destroy, the development of online commerce and the spirit of the Internet as a society of free and open communication.  On the other hand, too little regulation or inadequate laws will erode consumer confidence to the extent that the full potential of the Internet as a vehicle of commerce and communication may never be realized."

FTC Chairman Robert Pitofsky stated that "self regulation is going to be difficult here."

Two problems with regulating internet fraud were discussed.  First, as Tatiana Gau reported, "A number of persons perpetrating the frauds are juveniles", and are hence beyond the reach of regular law enforcement.  Second, the internet knows no national borders, and it is hard to police people who defraud Americans from abroad.

Pitofsky stated that foreign based scams "is one of the most serious problems, and it is going to grow as time goes on ... We need bilateral agreements."  Pitofsky noted that after the Fortuna Alliance was shut down by the FTC, it restarted "offshore" in Antigua. "The problem is not identifying the crooks," said Pitofsky.  "It is bringing an enforcement action that can be enforced in a foreign country."

Federal Trade Commission

The FTC is the federal agency most likely to gain in funding and powers if Congress enacts new laws regulating consumer fraud on the internet.

The FTC has been shifting its resources to combat internet fraud.  It now has 53 people on its internet staff.  This represents 16% of its Consumer Protection expenditures for 1998, up from 4% in 1996, and 11% in 1997.

Sen. Glenn asked "What do you need to more effectively fight internet fraud."  Pitofsky replied, "We are robbing Peter to pay Paul. ... To cover the internet ... we are going to need more people and more money."

The FTC receives about 100 to 200 internet related complaints per month.   Pitofsky's statement, submitted for the hearing record states that "The Commission has seen an increase in complaints over the last year, but fortunately on-line problems seem to be growing at a slower rate than the internet marketplace itself."

The FTC cites the IDC estimate that online advertising will reach 4.35 billion dollars, and online commerce will reach 220 billion dollars, in the year 2000.