Kathy Bazoian Phelps
Senior Counsel in Ponzi Scheme Litigation
and Bankruptcy Matters

Kathy is a senior business trial attorney with more than 30 years experience prosecuting and defending claims for high net worth clients involved in Ponzi scheme matters and in bankruptcy proceedings. Kathy’s practice includes recovering assets for clients in complex fraud cases under standard fee and alternative fee arrangements. She also handles SEC and CFTC whistleblower claims. Kathy also serves as a mediator in bankruptcy matters, in complex business disputes, and in matters requiring detailed knowledge about fraud or Ponzi schemes.

Kathy’s Clients in Ponzi Scheme Cases and Bankruptcy Matters
Equity Receivers
Bankruptcy Trustees
High Net Worth Investors
Debtors in Bankruptcy
Secured and Unsecured Creditors

Sunday, June 30, 2013

June 2013 Ponzi Scheme Roundup

Posted by Kathy Bazoian Phelps

   The month of June saw more Ponzi schemes revealed, more arrests, more guilty pleas, and more prison sentences. Here is a summary of stories that were reported this month. Please feel free to post comments about these or other Ponzi schemes that I may have missed. And please remember that I am just relaying what’s in the news, not writing or verifying it.

   Matthew James Addy, 34, of Pennsylvania was sentenced to more than 4 years in prison and ordered to pay $2.7 million in restitution in connection with his $3.4 million Ponzi scheme that defrauded more than 40 investors. Addy, a former youth pastor, ran his scheme through his company Edward J. & Co., which was supposedly a wholesaler that operated LaPorte Jewelers. Addy preyed upon members of religious groups with which he was associated. He had pleaded guilty to one count of securities fraud. It was alleged that he gave fictitious invoices and fake updates to investors and that he lied about industry and business connections.

   Aldo Baccala, 72, had his preliminary hearing on charges relating to an alleged $20 million Ponzi scheme that defrauded 55 investors. Baccala allegedly promised investors double-digit returns for investments in a nursing home in the Carolinas, a Nevada car wash, and a mushroom farm in Colusa. The judge dismissed 17 felony charges but found sufficient evidence on 135 counts relating to grand theft, securities fraud and elder financial abuse in the alleged Ponzi scheme that targeted many retired people.

   Gershon Barkany, 29, of New York, pleaded guilty to charges in connection with a $62 million real estate scheme. Barkany had defrauded investors by promising to invest their funds in "risk-free" properties in New York City and Atlantic City, and that he would then sell them at a profit. The deals were supposed to be risk-free because if Barkany was unable to find a buyer before closing, then the owner of the properties would refund their money. No such deals existed.

   Craig Berkman, 71, pleaded guilty to a $13.2 million Ponzi scheme that defrauded more than 120 investors by promising them pre-IPO shares of Facebook, LinkedIn, Group and Zynga. Berkman allegedly used the money to pay off creditors in his bankruptcy case, to pay off investors from an earlier scheme, and for personal expenses. Berkman had served as Oregon’s Republican Party chairman from 1989 to 1993.

   Steven Bingaman, 57, did not pay back any of the $1.1 million of restitution that he had agreed to pay in exchange for less prison time. At his sentencing hearing, prosecutors recommended 5 to 15 years, rather than the 2 to 6 years that was previously contemplated. Bingaman had defrauded victims out of $2 million and had promised to pay back $1.1 million over the past 11 months, which he failed to due. The announcement of the sentence was delayed to July.

   Brian Bjork was sentenced to 4 years and ordered to pay $1.1 million in restitution after pleading guilty to running what federal prosecutors called a "scam within a scam." Bjork was accused of defrauding 8 investors of $1.4 million in connection with the $50 million Ponzi scheme run by David Salinas, who fatally shot himself 2 years ago. Salinas ran a corporate bond Ponzi scheme that defrauded many college basketball coaches. Bjork used his position as treasurer of the Houston Athletics Foundation to write checks disguised as bond investments, which he then used for his own personal expenses.

   Julius Blackwelder, 59, was sentenced to 46 months in prison in connection with his $1.5 million Ponzi scheme that defrauded investors, mostly church members and associates of the Church of the Latter Day Saints, in which Blackwelder was known as Bishop Julius. Blackwelder lost money in commodities trading and has been restricted from future trading. He allegedly provided fraudulent account statements and false updates containing fictitious trades. He spent much of the investors’ funds on the construction of a 7,000 square foot mansion.

   John Bravata lost his bid to block the auction of his assets, including his Maserati and Ferrari, which were to be sold at auction by the government following his conviction for running a $50 million Ponzi scheme that defrauded hundreds of investors. Luxury cars, boats and a motorcycle that previously belong to Bravata will be auctioned. Bravata ran his scheme through BBC Equities, LLC and Bravata Financial Group LLC, representing that he was running a successful real estate investment fund that would generate guaranteed returns of 12% annually. Over 400 investors invested $50 million in the scheme.

   Ronald and Bonnie Brito pleaded guilty to charges related to their role in a $16 million Ponzi scheme that defrauded at least 250 investors. The scheme was run through GetMoni.com, where investors could supposedly earn profits by loaning money to building contractors at high rates of interest. Co-conspirator John Missitti previously pleaded guilty and is scheduled to be sentenced in September.

   Emilee Peterson Buckley, 39, was sentenced to 5 years in prison and ordered to pay $11.3 million in restitution after pleading guilty to running a Ponzi scheme through her company, Calypso Financial. Buckley had misrepresented to investors that Calypso had a net worth of $60 million and was making money from Utah properties with valuable water rights, a precious metals mine, and foreign trading in Hong Kong and Europe. She had promised returns of up to 15% and had brought in more than $13 million in investor dollars.

   Razel Canedo was accused of targeting Filipinos in a Ponzi scheme that promised to help the Filipino community by bringing Filipino nurses to the U.S. She sold promissory notes that offered returns of up to 50%. No nurses arrived from the Philippines, but it is alleged that Canedo was building a giant house in the Philippines and was sending money to her family.

   Randy Carpenter, 55, pleaded guilty to charges relating to his role in a $100 million North Carolina real estate Ponzi scheme. The scheme related to the development of the Village of Penland, which was to be a complex of luxury homes with shops and boutiques in the Blue Ridge Mountains. Investors were told that they could borrow money from banks for the lots and that the company overseeing the projecting would repay the loans. Carpenter was the engineer and surveyor of the project and received $2 million in fees relating to the transactions. He failed to report all of the earnings on his tax returns.

   David Connolly of New Jersey was sentenced to 9 years in prison and ordered to pay more than $18.7 million in restitution for his role in a $50 million real estate investment Ponzi scheme that defrauded about 200 victims. Connolly had pleaded guilty in February. He had promised victims that their money would buy specific properties that would generate monthly rental income, but he used the investors’ money for other purposes.

   Richard Dalton, 65, and his wife, Marie Dalton, 60, were sentenced to 10 years and 5 years, respectively, after pleading guilty to charges relating to a $17 million Ponzi scheme they ran through Universal Consulting Resources LLC in which they guaranteed returns to more than 100 investors of 48% to 120%. They represented that they were trading in bank notes or diamonds and that investors would get a monthly profit-sharing check. The investors’ dollars were used to make Ponzi payments to investors and to pay for personal expenses such as $35,000 in custom dental work, the wedding of the Daltons’ daughter, and a house.

   James Duncan and Maurice McLeod saw their sentencing postponed after they pleaded guilty to charges in connection with a Ponzi-type scheme that caused losses of $17 million along with mortgage fraud that caused losses of $124.5 million. Duncan and McLeod testified against co-conspirators Hendrix Montecastro and Helen Pedrino in a trial that led to their conviction. Other co-conspirators include Charlie Choi, Cindi Kelly and Thuan Du.

   Charlotte Durante, 68, was sentenced to 7 years in prison for her role in a $1.8 million Ponzi scheme in which she promised investors, mostly Haitian investors, returns of up to 18% to front cash for her real estate clients. The money was actually used to benefit her daughter’s history museum, the Museum of Lifestyle & Fashion History.

   George Elia, 69, was sentenced to 12 years in connection with his role in the Wilton Manors Ponzi scheme. Elia had pretended to be a successful investment advisor, but more than 40 people lost about $10 million in the scheme. Elia had used some investor money to buy a Rolls-Royce, two Bentleys and about $500,000 in jewelry. Elia and his wife had fled to Cypress in 2012 when investors had filed a lawsuit, but he was arrested a few months later during a visit to Las Vegas.

   Donald R. French Jr., 26, was sentenced to a little more than 10 years in connection with charges that he ran a $10 million Ponzi scheme through D3 Capital Management LLC, promising investors returns of up to 50% by investing their funds in foreign currencies, emeralds and a solar-energy project in Italy. French pleaded guilty in March.

  James Fry, 59, was found guilty following his trial in connection with his role in the Tom Petters Ponzi scheme. Informant Deanna Coleman testified at the trial and testified that Fry did not know about the Ponzi scheme. But on cross-examination, she testified that Fry’s firm, Arrowhead Capital Management, continued to invest in new transactions with Petters even though Petters was consistently paying obligations late. Fry was not accused of knowing about the Petters Ponzi scheme, but rather he was charged with lying to investors about how his fund worked. Fry had earned about $30 million in fees by bringing in investors.

   Robert Hurd, 72, of Los Angeles, was charged by the SEC with defrauding investors out of $1.2 million through his company, Your Best Memories International, in which he sold unregistered securities to raise money for his memory-improvement company. Hurd claimed that one of his products had FDA approval to treat Alzheimer’s disease. The investor funds were funneled to Hurd’s other company, Smokey Canyon, and were used to pay for Hurd’s private car collection. The SEC also sued Kenneth Gross, 76, who worked for Hurd and Your Best Memories.

   Francisco Illarramendi, 45, did not oppose the prosecutor’s request to hold a $2 million tax refund in escrow pending his September sentencing in connection with his $500 million Ponzi scheme to which he has previously pleaded guilty. The scheme, run through Michael Kenwood Capital Management Group, the Kenwood Short Term Liquidity, and Venezuela and Special Opportunties funds, may be the largest ever in Connecticut. The prosecutor requested that the tax refund be held because Illarramendi owes the government for his court-appointed lawyers and is subject to an "enormous mandatory restitution." His assets have been frozen in a civil suit commenced by the SEC. Illarramendi’s wife has asked that a portion of the check go to her for living expenses.

   Wendell Jacobson and Allen Jacobson and their company Management Solutions Inc. of Utah were the subject of a hearing to determine whether they were operating a Ponzi scheme. Victims disagree with the SEC and the receiver that it was a Ponzi scheme and challenged the assessment of the insolvency of the company given by receiver’s accountant. The SEC alleged in 2011 that they were running a $200 million Ponzi scheme, and the distinction will make a difference in how much the investors receive back when the company is liquidated.

   Yusaf Jawed had his sentencing postponed from June to September 9, 2013. His request was unopposed. Jawed ran a $37 million Ponzi scheme through Grifphon Asset Management that defrauded more than 100 investors. His guilty plea calls for a 6½ year prison sentence.

   Michael W. Kwasnik, 44, of Philadelphia was sentenced to time served of 5 months and ordered to pay $1.2 million in restitution in connection with charges of misappropriating $1.1 million from a client. Kwasnik has been suspended from the practice of law and is still awaiting the civil and criminal consequences of an alleged Ponzi scheme that he ran which defrauded 73 investors who lost $8.5 million.

   Duncan J. MacDonald III, 50, and Gloria Solomon, 71, were charged by the SEC with running a $10 million Ponzi scheme through their company, Global Corporate Alliance. Global was supposedly a health insurance company that had more than 100,000 premium-paying policy holders when in fact it never had more than 40 policyholders. MacDonald and Solomon allegedly manufactured enrollment numbers to induce investments from at least 80 investors who believed that the premium payments would be funding their returns.

   Syed Qaisar Madad, 66, a Pakistani-American residing in California, was sentenced to 12½ years for his role in a $30 million Ponzi scheme that he ran though Telecommunication and Multimedia. Madad had pleaded guilty to charges relating to the scheme in which he promised to use a day-trading strategy to generate high returns. Instead, he lost about $9 million in trading and misappropriated over $15 million of investors’ money for personal expenses, such as a house for his daughter, jewelry for his wife and daughters, vehicles, about $6 million to pay personal credit card bills, and donations to charities in Pakistan, India, Egypt and the U.S.

   Chris Mathis, 48, former Chief Magistrate in Floyd County, Georgia, faced some of his victims at his criminal trial relating to charges that he was running a Ponzi scheme. Mathis had purchased a cattle farm and took money from investors in connection with that business. It is alleged that he would take money from one investor and instead of buying cattle with it, he would make payments to earlier investors who expected returns.

   Robert Medhus, 65, of North Dakota, pleaded guilty to 16 felony charges in connection with a Ponzi scheme that defrauded 19 investors out of at least $935,000. Medhus is said to have used fake account statements printed with his company’s name, Associated Financial, to defraud investors and used their money for his own use rather than investing it in securities.

   Stephen Merry, Timothy Durkin, David Petersen and Yaman Sencan were indicted on charges relating to a multimillion scheme in which they promised a steady stream of profits at little or no risk by using a sophisticated computer program to take advantage of temporary price differences among different stock markets. The defendants ran the scheme through Westover Energy Trading Partners and Ramco & Associates.

   Elaina Patterson, 53, was indicted on charges relating to a $6 million Ponzi scheme in which she allegedly defrauded 31 investors. Patterson used her position as a personal banker at Bank of America to push fake investment opportunities on her friends and family, promising 10% to 15% and issuing fake certificate of deposit receipts and Form 1099s. She then allegedly began to steal from customers so she could fund withdrawals from investors. She set up accounts in investors’ names without their knowledge, put her own address on the accounts, deposited the investors’ funds and used the money both to fund payments to other investors and to funnel money into her own accounts. She made Ponzi scheme payments of almost $3.8 million, for a net theft of more than $2.1 million.

   Sharon Nekol Province, 69, of Missouri pleaded guilty to charges that she ran a $600 million Ponzi-like scheme selling pre-paid funeral services to about 150,000 customers. National Prearranged Services Inc. sold prearranged funeral contracts where customers paid an upfront sum for the contract. Related insurance companies, such as Lincoln Memorial Life Insurance Company and Memorial Service Life Insurance, issued life insurance policies related to the contracts and customers believed that their funds would be kept in trust or the insurance policy. Instead, their funds were used for unauthorized purposes and to make Ponzi-like payments. The company operated for about 16 years from 1992 to 2008.

   Richard Reynolds, aka Richard F. Adkins, 52, had his temporary release from custody revoked. Reynolds is accused of running a $5.38 million Ponzi scheme and had been allowed to go home four days a week to work on his own defense, despite a $10 million bail. The prosecutor contends that Reynolds violated the conditions of release when he went to a building next door to his wife’s apartment. Reynolds is alleged to have stolen from at least 140 investors, using his relationships with various ministers, pastors and evangelists to solicit investors.

   Jeff Ripley, 60, and Danny VanLiere, 61, were sentenced 6 to 20 years in connection with their Ponzi scheme that defrauded at least 140 investors of between $3,000 and $600,000 each for a total of over $9 million. VanLiere was ordered to pay $3.1 million in restitution, and Ripley was ordered to pay $5.3 million. Their company, API, was ordered to pay $7.6 million in restitution.

   Scott Saidel, the lawyer who represented the wife of Ponzi schemer Scott Rothstein, consented to disbarment in Arizona after pleading guilty to helping Kim Rothstein plead guilty to hiding more than $1 million in jewelry. Saidel is also licensed to practice law in Florida.

   Duane Hamblin Slade pleaded guilty after his earlier criminal trial resulted in a hung jury. Slade was accused of running a $160 million Ponzi scheme that targeted wealthy Mormons through his company Mathon Investments. Victims, who were largely from the Morman community, made loans to third-party borrowers at high interest rates and were promised rates as high as 120%. The trial for Guy Williams and his father Brent Williams, who have pleaded not guilty, is set to begin June 17.

   Maxwell B. Smith, 73, was sentenced to 7 years in prison and 3 subsequent years of supervised release for his role in a Ponzi scheme run through Health Care Financial Partners that defrauded investors out of more than $9 million. Smith had pleaded guilty to selling securities in the form of sham bond offerings, promising them dividend interest of between 7.5% and 9% with tax-free returns. Smith used the investor funds on personal expenses such as gambling, entertainment, travel, and renting a villa in France.

   Christopher Varlesi, of Chicago, was ordered to pay more than about $638,000 in restitution and $700,000 civil penalty in connection with allegations by the CFTC that he ran a Ponzi scheme through his company, Gold Coast Futures and Forex. The court also imposed a lifetime trading ban on Varlesi. Varlesi had purported to buy and sell securities and commodities but was not registered or licensed. He allegedly obtained at least $1.4 million from 15 investors, but spent the money on personal expenses, including his children’s tuition and spa treatments.

   Anthony Vassallo, 34, of California, was sentenced to 16 years in connection with his $80 million Ponzi scheme that defrauded more than 300 investors. Vassallo had misrepresented that he had developed software that enabled him to make profits of about 3% per month, or 36% per year in securities trading that he did through his company, Equity Investments Management & Trading, with co-conspirator Kenneth Kenitzer. Kenitzer has pleaded guilty and is awaiting sentencing.

   Eugene Wilson Sr., 56, of Indiana, was sentenced to 5 years in prison and 4 years of supervised release for his role in a $1.5 million Ponzi scheme. Wilson promised a high rate of return when taking investor funds and promised to keep the funds in an escrow account. Instead, he immediately wired the funds to third party accounts mostly in Europe.

   Carl David Wright, 52, a former schoolteacher, agreed to plead guilty to his role in a $1 million Ponzi scheme that he ran through Commodity Investment Group. Wright allegedly promised false returns of 20% to 30% on investors’ money which he said he would invest in hedge funds, commodities, and Quick Trip convenience stores. The CFTC has also filed a civil enforcement action against Wright.



   Technocash, an Australian electronic transfer company, closed its accounts in advance being named by the SEC for having received funds from the Ponzi scheme known as Profitable Sunrise. Profitable Sunrise had offered investors returns of 1.6% and 2.7% per business day and allegedly defrauded about $100 million from investors as part of a $6 billion money laundering scheme allegedly run by Liberty Reserve. Technocash had acted as agent for cross-border payments for businesses and individuals working in multiple currencies.


   Earl Jones, previously sentenced to 11 years in prison for operating a $50 million Ponzi scheme, waived his right to a parole hearing. Jones did not give any reason why he waived his right to a hearing, and his next review has been scheduled for September 2015.


   Advanced Global Trading was accused of being either a boiler room scam or a Ponzi scheme. The company sells voluntary carbon credits to retail investors. While carbon credits can be sold or traded legitimately, investors are warned to be careful with this type of investment. There are allegations that Advanced Global Trading is artificially inflating the price of carbon credits that it trades by selling them to new customers. The company allegedly makes a commission on each transaction and will continue to make money as long as new investors continue to buy carbon credits from existing investors.


   Kumiko Mikajiri, 69, Susumu Masubuchi, 59, and Katsuya Oishi, 74, were charged with operating a cow-raising Ponzi scheme through their company, Agura Bokujo. The scheme solicited investors to purchase "wagyu" cows with an initial investment of $35,000 to $58,000 per cow, and the cows would then yield returns from their calves. Returns were promised of up to 8% per year, and Agura Bokujo further promised that it would buy back the cow after a few years. Tens of thousands of investors lost about $4.2 billion in the scheme. The company filed bankruptcy in March 2011 after the major Tokyo earthquake, when many investors sought to cancel their contracts out of fear that the cows had consumed contaminated hay from a nuclear power plant. There were 71,000 investors at the time of the bankruptcy.


   A new animal Ponzi scheme called "Cattles & Ghee" came under scrutiny by SEBI. The scheme, operated by HBN Dairies & Allied Ltd., raised money for the purchase of cattle and promised investors that their money would double through returns linked to the ghee produced by them.

   Subhransu Lenka, the head of Astha International Limited, a money circulation company, was arrested in connection with a scheme that took about Rs 500 crore from investors.

   Three Russian nationals and 13 Indians have been accused of wrongdoing in the alleged Ponzi scheme called Mavrodi Mondial Moneybox (MMMIndia), a scheme involving Russian national Sergey Mavrodi, Alexei Muratove, Michael Glukhov and Kilin Adery. Investors were promised returns of 30% per month, but the basis of the scheme was that it was for people "who want to help each other." The investment was called "providing help" and returns on investment were called "taking help." Over 70,000 people had invested in the scheme, which was operated as "a double-the-money-scheme." The Russians went on a hunger strike and were then hospitalized. A court has ruled that they be turned over to the Mumbai Economic Offences Wing.

   Premchand Kamble was sentenced to 3 months in jail in connection with a Ponzi scheme that he ran through his company Unique Finance Corporation. About 300 investors were defrauded to invest their money in purchasing cars, and they were promised returns of Rs 7,000-8,000 per month to be generated from renting the cars to BPOs and call centers.

   The Odisha Police seized 1,000 silver coins each weighing 100 grams worth Rs 44 lakh from the personal locker of Prashant Das, the chairman and managing director of Seashore Group, located at a private bank. Seashore Group has been accused of running a Ponzi scheme.

New Zealand

   The Serious Fraud Office accused financial advisor David Ross, 63, of operating a $450 million Ponzi scheme through his firm, Ross Asset Management, that defrauded more than 900 investors. Ross was arrested and has been charged with false accounting and one charge of theft in what is believed to be New Zealand’s biggest Ponzi scheme. Ross had promised returns of 30% to 40% to investors and claimed to have invested money with a broker named Bevis Marks, but no such person actually existed.


   The Russian government is considering amendments to the Criminal Code that establish preventive measures against Ponzi schemes. The amendments propose jail terms and fines for active participants and organizers of Ponzi schemes. The bill defines a Ponzi scheme, which is referred to as a "financial pyramid" in Russian, as "activities to attract monetary funds or other assets from physical persons with repayment of income from earlier attracted funds in cases when organizers are not engaged in investment or any other legal business." Existing laws only provide after Ponzi scheme organizers are charged with fraud, but the amendments provide for preventative measures.


   The SEC and alleged Ponzi schemer Mark Feathers each filed motions to resolve the SEC’s claims that Feathers was running a $42 million Ponzi scheme through his company SB Capital Corp. The SEC is seeking more than $12.3 million from Feathers which is the approximate amount that the 400 investors lost, plus a $300,000 penalty. Feathers contends that documentation from SB Capital to investors fully disclosed the company’s operations and that the investors consented to borrowing so that he could continue to pay interest at the rate of 7.5%.

   The trustee of Bernard Madoff’s company’s Ponzi scheme proceeding appealed a ruling that permits New York Attorney General Eric Schneiderman to proceed with a $410 million settlement with J. Ezra Merkin. The trustee also has claims against Merkin and sought a stay of the Attorney General’s litigation and settlement while the Trustee pursued his claims. The trustee contends that the district court abused its discretion and erred in holding that the Trustee had delayed and waited too long to assert his own claim as trustee.

   The Madoff trustee lost an appeal to the Second Circuit regarding his claims against JP Morgan, HSBC Holdings PLC, UniCredit SpA and UBS AG. The Second Circuit affirmed the lower courts’ rulings that the trustee "stands in the shoes" of Bernard L. Madoff Investment Securities LLC and that he is barred by the doctrine of in pari delicto from pursing claims against the banks. As a result of the ruling, the trustee will be unable to pursue approximately $19 billion of claims against JP Morgan, $8.6 billion against HSBC and UniCredit, and $2 billion against UBS.

   The liquidators of the U.K.-based Madoff Securities International Limited commenced a civil case in London’s High Court against defendants including Madoff’s brother, Peter Madoff, his son, Andrew Madoff, Stephen Raven and Bank Medici founder Sonja Kohn. The liquidators are seeking to recover $80 million in connection with loans between Madoff’s London and New York operations and payments to Kohn for research.

   Bernard Madoff’s art, including drawings by Andy Warhol and Henri Matisse, will be sold to help raise money for victims.

   The trustee in the Lou Pearlman bankruptcy case has filed a liquidation plan providing for a 4 cent distribution to creditors. The trustee has recovered about $35 million, much of which will go to secured creditors. Unsecured creditors lost at least $260 million. Pearlman was known as the creator of the bands ‘N Sync and the Backstreet Boys but also ran a classic Ponzi scheme in which he assured investors that their money was safe in FDIC-insured accounts. Pearlman is serving his 25 year prison sentence.

   The CFTC sued U.S. Bank for alleged violations of the Commodity Exchange Act in its role in the Peregrine Financial Group, Inc. fraud run by Russell Wassendorf, Sr. The CFTC alleged that U.S. Bank knowingly transferred funds from Peregrine’s accounts which held customer funds, for such things as a divorce settlement payment, a restaurant and as security for a loan. U.S. Bank has denied responsibility. Peregrine and Wassendorf had defrauded more than 24,000 customers of about $215 million. Wassendorf is currently serving a 50 year sentence.

   The dispute between Tom Petters and his former lawyer continues over whether Petters’ lawyers told him about a 30-year plea deal that would have been a better deal than the 50 years he received had he accepted it. Petters says his lawyer never conveyed the deal to him, and his lawyer has now responded saying that Petters knew of the potential plea deal offer and rejected it several times. The attorney-client privilege was waived, and the lawyers have filed paperwork including a handwritten note from Petters appearing to reflect that he was aware of the 30 year deal.

   TD Bank entered into a $44 million settlement with investor Platinum Partners Value Arbitrage Fund, L.P. in connection with the Scott Rothstein Ponzi scheme. Platinum had alleged that TD bank played a role in helping Rothstein defraud investors by, among other things, telling investors that Rothstein’s accounts held "hundreds of millions of dollars" that didn’t actually exist. The settlement will be paid by a $18 million cash payment and then payment to satisfy Platinum’s approximately $26 million obligation to Rothstein’s law firm’s bankruptcy trustee in connection with an earlier settlement of a fraudulent transfer lawsuit brought by the trustee against Platinum. Platinum is also retaining its $54 million claim in the bankruptcy case.

   The Eleventh Circuit handed a victory to the trustee of the law firm of Scott Rothstein - Rothstein Rosenfeldt and Adler - in a battle over assets that had been forfeited by the government. The court found that the government could not trace funds in the bank account of the law firm to proceeds of crime since the bank accounts contained both tainted and untainted funds. The court recommended that the government pursue forfeiture of substitute assets such as Rothstein’s shareholder interest in his law firm and that the government file a claim in the pending bankruptcy case of the law firm.

   Defrauded victims of John Schurlknight filed a class-action against his estate seeking recovery of between $6 and $10 million that he allegedly stole from them. Schurlknight died in 2012, after he was accused of running a Ponzi scheme through his law firm, Schurlknight and Rivers Law Firm. The lawsuit names Schurlknight’s wife, his two college-aged children and Citizens Bank of Florence, accusing the family of living a lavish lifestyle using funds stolen from Schurlknight’s clients. As part of his scheme, Schurlknight would settle or otherwise resolve clients' personal injury claims without a client's knowledge, forge the client's name to a settlement check and steal 100% of the proceeds. The clients would believe that their cases were ongoing.

   A putative class action against the SEC in connection with the R. Allen Stanford Ponzi scheme was dismissed. The action alleged that the SEC facilitated the $7 billion Stanford scheme, but the court found that the SEC was protected by a law that bars lawsuits over federal official’s discretionary decisions.

Friday, June 28, 2013

Second Circuit Bars Madoff Trustee’s Claims Against Banks in Madoff Ponzi Scheme Case

Posted by Kathy Bazoian Phelps

   The Madoff trustee and Madoff victims hoped to hold the banks liable for alleged wrongdoing. The banks hoped to escape liability on the theory that the Madoff trustee, standing in the shoes of Madoff’s company, was a wrongdoer that should be barred from suing the banks.

   The Second Circuit has now spoken on the issue. The court affirmed the dismissals of the lawsuits that the Madoff trustee had filed against JPMorgan Chase Bank and HSBC Bank. Picard v. JPMorgan Chase & Co. (In re Bernard L. Madoff Investment Securities LLC), 2013 U.S. App. LEXIS 12551 (2d Cir. June 20, 2013). There will be no recovery through the trustee for the billions of dollars in damages allegedly caused by the banks’ conduct in aiding and abetting Madoff’s fraud. And this seemed to be a relatively easy decision for the Second Circuit.

   Some perspective on the Second Circuit’s view of these issues is helpful, however, in analyzing this decision. The Second Circuit is quite fond of its Wagoner rule, established in Shearson Lehman Hutton, Inc. v. Wagoner, 944 F.2d 114, 120 (2d Cir. 1991), in which it held that "A claim against a third party for defrauding a corporation with the cooperation of management accrues to creditors not to the guilty corporation."

   Citing its own Wagoner rule, the court held that the in pari delicto doctrine deprived the trustee of standing to pursue the debtor’s claims. It is important to note that no other circuit, nor indeed most courts – including lower courts in the Second Circuit – agrees with the Wagoner rule, because it combines in pari delicto and standing issues. See The Ponzi Book: A Legal Resource for Unraveling Ponzi Schemes, at 13.02[2][e].

   Although alone in its view of in pari delicto as a threshold standing bar to trustees’ claims, the Second Circuit nevertheless went through a more traditional analysis of the in pari delicto doctrine to reach its holding that bars the Madoff trustee from bringing the claims against the banks. The court summarily rejected the trustee’s first six arguments, noting that they "are resourceful, but they all miss the mark." Picard v. JPMorgan, at *21.
  • On the trustee’s argument that a SIPA trustee is exempt from the Wagoner rule, the court stated that the trustee cited no authority.
  • On his argument that the in pari delicto doctrine should not apply because he is not a wrongdoer, the court pointed out that neither were the other trustees in the cases in which the court did apply the doctrine.
  • On his argument that applying the doctrine impeded the enforcement of the securities law under Bateman Eichler, Hill Richards, Inc. v. Berner, 472 U.S. 299, 105 S. Ct. 2622 (1985), the court summarily stated that Bateman Eichler was inapposite.
  • On his argument the "adverse interest" exception to the defense should apply, the court stated that the exception was "narrow" and only applied when the fraud was committed against the corporation and not on its behalf, citing Kirschner v. KPMG LLP, 15 N.Y.3d 446, 912 N.Y.S.2d 508, 938 N.E.2d 941, 952 (N.Y. 2010).
  • On his equitable argument that the proceeds of a recovery by a SIPA trustee would benefit the blameless customers of the wrongdoer, the court cited the New York Court of Appeals in Kirschner v. KPMG LLP, 938 N.E.2d 941, 958 (N.Y. 2010), rejecting the trustee’s argument.
  • On the trustee’s argument that the defense should not be sustained at the pleading stage, the court observed that the New York Court of Appeals had held otherwise and that it "is appropriate where (as here) the outcome is plain on the face of the pleadings." Picard v. JPMorgan, at *6.
   The court then noted that the trustee’s claim for contribution is "the only one that may escape the bar of in pari delicto," but rejected it anyway. The trustee sought contribution for payments made to BLMIS customers under SIPA on the theory that the defendants are joint tortfeasors with BLMIS under New York law. The court held that under N.Y. C.P.L.R. § 1401 (McKinney), the party seeking contribution must have been compelled in some way, such as through the entry of a judgment, to make the payment against which contribution is sought. However, the payments to BLMIS’s customers under SIPA for which the trustee sought contribution were not compelled by Madoff’s fraud liability. Rather, they were an obligation under federal law, SIPA, which provides no right to contribution.

   The court focused most of the rest of its attention in the opinion on rejecting the trustee’s argument that he has standing to pursue his claims under Redington v. Touche Ross & Co., 592 F.2d 617 (2d Cir. 1978), under St. Paul Fire & Marine Insurance Co. v. PepsiCo, Inc., 884 F.2d 688 (2d Cir. 1989), under bailment law, and under SIPA itself.

   As to Redington, the trustee argued that the Supreme Court’s subsequent reversal of that decision addressed only the merits of the plaintiff’s claim and left intact the Second Circuit’s holding that a SIPA trustee has standing. The court held otherwise, stating that "Redington should be put to rest; it has no precedential effect. Even if Redington retained some persuasive value, it would not decide this case." Picard v. JPMorgan, at *36.

   The trustee argued that under St. Paul Fire & Marine Insurance, 884 F.2d 688 (2d Cir. 1989), a trustee may bring a claim if the "claim is a general one, with no particularized injury arising from it, and if that claim could be brought by any creditor of the debtor." Id. at 701. The Second Circuit, however, held that this decision did not broadly grant trustees standing to pursue creditors’ claims, because such a reading would put it in conflict with Caplin v. Marine Midland Grace Trust Co. of N.Y., 406 U.S. 416, 92 S. Ct. 1678 (1972), which held that the trustee has no standing to pursue creditors’ claims.

   In responding to the trustee’s two additional theories supporting his standing argument, the Second Circuit noted that, "The Trustee attempts to blunt the force of Caplin and its progeny by arguing that a SIPA liquidation is unique and is therefore not controlled by precedent under the bankruptcy code." Picard v. JPMorgan at *42. The trustee had argued that BLMIS’s customers were bailors, and that he, as a bailee, had a sufficient interest to pursue recovery on customers’ claims to recover their lost property. The court rejected this ground for standing, finding that nothing in SIPA, the bankruptcy code or common law supports it.

   Finally, the court rejected the trustee’s claim of standing based on a theory of subrogation arising under SIPA due to his previous payments on the claims of BLMIS’s customers. The court held that although 15 U.S.C. § 78fff–3(a) gave SIPC the right of subrogation as to the customers’ claims against the estate, nothing in that provision suggested that it also granted to the trustee subrogation of the customers’ claims against third parties.

   Curiously, in its final footnote, the court suggested a path that could lead to the defendants’ liability. "Picard and SIPC contend that, absent his exclusive authority to bring these customer claims, the Defendants would in effect be immunized from suit. But it is not obvious why customers cannot bring their own suits against the Defendants. In fact, the Defendants make clear that customers have already filed such actions." Id. at *58 n.29. Of course, this suggestion ignores the questions of whether creditors would have standing to pursue the same types of claims that the trustee sought to pursue or whether they may encounter their own legal barriers to recovery. And, even if they could legally bring their own claims, could they realistically finance litigation against well-funded institutions like JPMorgan and HSBC?

   This case, and many other recent decisions, go to great lengths to justify bars to recovery by bankruptcy trustees, SIPA trustees, and even regulatory receivers. This raises the question of why we have these fiduciaries in the first place. Absent the wave of recent decisions applying in pari delicto as a bar to these fiduciary plaintiffs, one would have thought that the point of the statutory schemes (Bankruptcy Code and SIPA) and the equitable case law (regulatory receiverships) in appointing fiduciaries was to redress the wrongs of the defrauded victims in fraud cases. One must now question what we had understood to be a basic premise of those laws. Are fiduciaries intended to be mere paper pushers, reconstructing the fraud that left victims penniless, but creating a paper trail that leads to nowhere?

Wednesday, June 19, 2013

Fourth Circuit Makes New Fraudulent Transfer Law

Posted by Kathy Bazoian Phelps

   Determined not to hold a securities brokerage firm liable for fraudulent transfers in a Ponzi scheme case, the Fourth Circuit recently pushed the boundaries of fraudulent transfer law to affirm the lower court's dismissal of the trustee's claims against it. Grayson Consulting, Inc. v. Wachovia Securities, LLC (In re Derivium Capital LLC), 2013 U.S. App. LEXIS 10529 (4th Cir. May 24, 2013).

   Although several aspects of the decision applied established case law, two holdings explored new territory. The court affirmed the dismissal of claims to recover securities transferred to Wachovia on the grounds that they were not transfers of property of the debtor. The court also affirmed the dismissal of claims to recover commissions on the grounds that the safe harbor provisions of § 546(e) protected those payments.

The Scheme
   In Derivium's scheme, its customers were induced to transfer stocks in exchange for three-year non-recourse loans worth 90% of the stocks' market values. When the loans matured, customers had the option of repaying the principal plus interest and recovering the stock, surrendering the stock, or refinancing the loan for an additional term. Customers transferred their stocks into Wachovia brokerage accounts in Derivium's name. They were told that Derivium would hedge their collateral using a confidential, proprietary formula. Instead, Derivium's owners directed Wachovia to immediately transfer the stocks into other accounts and liquidate them. Derivium used the proceeds from the stock sales to fund customers' loans and start-up ventures of Derivium's owners.

The Collapse
   Derivium collapsed when it could no longer satisfy its obligations to return customers' stocks and Wachovia closed its brokerage accounts. After Derivium filed bankruptcy, the trustee filed a complaint against Wachovia asserting several claims, including fraudulent transfer claims to recover $161 million in securities that customers transferred into the Wachovia brokerage accounts, and commissions that Derivium paid to Wachovia.

The Property Issue
   The court found that the transfer of the customers' securities to an account in Derivium's name at Wachovia was not a transfer of Derivium’s property. The court stated:
Derivium had no rights to the securities until after the transfers were effectuated. Accordingly, the Customer Transfers at issue here simply were not transfers of debtor property, and thus the transfers in no way diminished the bankruptcy estate.   Id. at *9. In other words, because Derivium's customers transferred their securities directly into Derivium's accounts at Wachovia, rather than to Derivium first, there was no transfer of Derivium's property to Wachovia. The court cited no prior cases in support of this precise focus on the form and timing of the challenged transfers. Interestingly, the court did acknowledge on several occasions that the securities were Derivium's collateral for its loans to its customers. The decision raises the question of whether the court put form over substance since it was clear that the customers intended to transfer securities to Derivium, not to Wachovia.

The Commission Issue
   This decision is also the first appellate decision to hold that commission payments can be shielded from recovery by the "settlement payment" defense of § 546(e).

   The court reasoned:
Because Congress included in the definition of "settlement payment" "any other similar payment commonly used in the securities trade," we also look to standard practices of the securities industry to inform the definition of "settlement payment." Several industry texts suggest that "settlement payment" means the transfer of funds paid in connection with completing a securities transaction.   Id. at *18. The court then quoted two such industry texts, but neither quote asserts explicitly that commissions are included within the scope of "settlement payments." Id. at *18-19. The only text cited that explicitly so suggests is Black’s Law Dictionary, but the court does not explain why this is an "industry text" in the securities industry. Id.

   Nevertheless, the could held, "commissions shown to be reasonable and customary parts of settling stock sales come within the stockbroker defense as 'settlement payments.'" Id. at 20. The court then affirmed the bankruptcy court's factual finding that Wachovia's discounted commission rates were reasonable and customary. Id. at *21.

   The court did emphasize, however, that its holding does not apply to commissions that are "not part of the settlement of securities transactions, such as commissions paid for the solicitation of investors[.]" Id. at *19.

The Bottom Line
   The Fourth Circuit's narrow view that the debtor's property did not include securities that collateralized loans from the debtor to its customers, coupled with the court's expansive view of the "settlement payment" defense, gives brokerage firms substantial new armor against trustee's fraudulent transfer claims in Ponzi scheme cases. Will other courts follow?

Monday, June 17, 2013

New Florida Law May Protect Charities Against Ponzi Scheme Clawback Claims

Posted by Kathy Bazoian Phelps

   Last Friday, Florida Governor Rick Scott signed HB 95. This bill amends § 726.109 of the Florida Statutes by adding this broad defense to a claim to avoid a charitable contribution as a fraudulent transfer:
"The transfer of a charitable contribution that is received in good faith by a qualified religious or charitable entity or organization is not a fraudulent transfer[.]"   However, this broad protection for charitable contributions has several limits:
  • The defense only applies to a constructive fraudulent transfer claim.
  • A contribution by a natural person within 2 years before a bankruptcy or the filing of a lawsuit to recover the contribution is still a fraudulent transfer unless either:
    1. The transfer was consistent with the practices of the debtor in making the charitable contribution; or
    2. The transfer was received in good faith and the amount of the charitable contribution did not exceed 15 percent of the gross annual income of the debtor for the year in which the transfer of the charitable contribution was made.
  • The law applies only to transfers made after July 1, 2013.
   This may sound familiar because it is similar to a law enacted in Minnesota last year (see The Ponzi Scheme Blog of April 13, 2012, "Legislative Protection for Charities Caught by Ponzi Clawbacks" for a review of that law). The new Florida limits are also similar to the limits on the recovery of charitable contributions found in Bankruptcy Code § 564(a)(2).

   It will be interesting to see if other states follow the leads of Minnesota and Florida in protecting charities from fraudulent transfer claims.

   Florida HB 95 is here.

Wednesday, June 12, 2013

Eleventh Circuit Hands Bankruptcy Trustee a Victory in Battle Over Ponzi Schemer Scott Rothstein's Assets

Posted by Kathy Bazoian Phelps

   The Eleventh Circuit issued its ruling today in the Scott Rothstein Ponzi scheme case in the ongoing battle between the bankruptcy trustee of Rothstein's law firm, Rosenfeldt and Adler P.A. ("RRA"), and the Department of Justice over assets of RRA. The trustee claims the funds are part of the RRA bankruptcy case to be administered by him, and the Government claims the assets are the subject of its forfeiture action to be administered by it. This conflict has led to multiple legal battles which have culminated in this Eleventh Circuit decision. The question presented to the Eleventh Circuit was whether the money in the bank accounts of RRA at the time that Rothstein was criminally charged is subject to forfeiture by the Government. The Eleventh Circuit handed the bankruptcy trustee a clear victory and held that the money is not subject to forfeiture. The decision is here.

The Facts

   Rothstein deposited crime proceeds from his Ponzi scheme along with his law firm's receipts from legitimate clients into commingled bank accounts in the name of RRA. RRA was placed into an involuntary bankruptcy, and the trustee was appointed. Meanwhile, Rothstein was charged with multiple counts relating to the allegation that he was operating a Ponzi scheme.

   In addition to the criminal charges, the Government sought to forfeit Rothstein's interest in a variety of properties, including RRA's bank accounts and property purchased using funds from those accounts. The Government's theory was that the money in those accounts constituted proceeds of Rothstein's Ponzi scheme or consisted of property that was acquired with proceeds of the fraud. Rothstein entered into a preliminary order of forfeiture with the Government.

   After that, the fighting began. In very summary fashion, here is what happened: the Government sought and obtained a restraining order relating to those assets; the Government attempted to seize the bank accounts; the bank rejected the attempt and went to court for direction; the court ordered the turnover of the funds to the Government; the RRA trustee filed an ancillary proceeding to assert his claim to the assets; and on and on the fighting went. Ultimately, the district court denied the RRA trustee's petition in the ancillary proceeding, finding that the funds in the bank accounts were more likely than not "proceeds of fraud."

The Oral Argument at the Eleventh Circuit

   The Eleventh Circuit then heard an appeal of the denial of the trustee's petition. At the oral argument, the court focused whether the Government had violated the automatic stay in seeking forfeiture of assets after the bankruptcy filing where those assets were in the name of RRA and arguably property of the bankruptcy. The court expressed concern that the forfeiture "is frustrating the bankruptcy law, and when you frustrate the bankruptcy law, you frustrate all of the creditors of the bankrupt estate." At the oral argument, the court only touched on whether the forfeited assets were "proceeds of crime." The transcript of the oral argument is here.

Eleventh Circuit's Use of Forfeiture Law to Deny Forfeiture

   The opinion issued today relies exclusively on forfeiture law to hand the assets to the bankruptcy trustee.

   The key to the Eleventh Circuit's decision is whether the funds in the RRA bank accounts constitute "proceeds" of Rothstein's Ponzi scheme. If so, under forfeiture law, proceeds of crime constitute a defendant's interest in property that can then be forfeited. If crime proceeds are commingled with legitimate funds, whether the commingled property constitutes "proceeds" is far less clear. The opinion focuses on this issue to deny forfeiture of the property as proceeds.

   The bankruptcy trustee had argued that the bank account funds were not in fact proceeds because they contained commingled funds, only some of which were tainted funds. The Eleventh Circuit pointed out that property is only forfeitable as "proceeds" where there is an established "nexus between the property and the offense." So the question became whether "property becomes so commingled that it may not be forfeited directly . . ." The court found that proceeds cannot be traced as a matter of law and that the Government can forfeit other assets through substitute asset provisions. Those provisions state, "the court shall order the forfeiture of any other property of the defendant" where "as a result of any act or omission of the defendant," forfeitable property, such as proceeds, "has been commingled with other property which cannot be divided without difficulty." 21 U.S.C. § 853(p). The court also endorsed the lower court's rejection of the use of the lowest intermediate balance rule ("LIBR") for purposes of trying to separate tainted and untainted funds, noting that the lower court called LIBR a "legal fiction."

   Acknowledging that the Eleventh Circuit had not previously considered this question of whether commingled property can be forfeited directly as proceeds, the court analyzed two Third Circuit decisions on this point. The Eleventh Circuit relied on U.S. v. Voigt, 89 F.3d 1050 (3rd Cir. 1996), noting that, "The sheer volume of financial information available and required to separate tainted from untainted monies in this case leads us to the conclusion that it is far more appropriate to apply the Third Circuit's rule in Voigt. . ."

   The Eleventh Circuit stated: "In sum, if ever there was a case where commingled proceeds 'c[ould not] be divided without difficulty' and that therefore required the Government to seek forfeiture pursuant to the statutes' substitute property provisions, §§ 1963(m) and 853(p), this is that case. For us to conclude otherwise would 'render the substitute asset provision a nullity,' Voigt, 89 F.3d at 1087, contrary to the time-honored canon of construction that we 'should disfavor interpretations of statutes that render language superfluous.'"

   In extending this rationale to property that was acquired with funds from RRA's bank accounts, the court remanded that aspect of the case to the district court for a factual finding of whether the property was purchased with commingled funds. If so, then the purchased property also would not be forfeitable.

Did the Eleventh Circuit Thumb Its Nose at the Government?

   The Eleventh Circuit acknowledged that the Government could still use the substitute asset forfeiture provisions of 18 U.S.C. § 1961 and 21 U.S.C. § 853 to attempt to forfeit a property interest held by Rothstein individually, such as his shareholder interest in RRA.

   The court suggested that, if the Government can succeed in obtaining an order from the district court in exercising in personam jurisdiction over Scott Rothstein, and that court orders Rothstein's shareholder interest in RRA forfeited as a substitute property interest, then "the Government standing in Rothstein's shoes, may appear in the Chapter 11 proceeding and lay claim to Rothstein's share of law firm assets that survive bankruptcy."

   While this may sound like a slight win for the Government, for those in the know about bankruptcy priority schemes, a shareholder will receive nothing in distribution from a bankruptcy proceeding until absolutely all creditors have been paid in full. With over $461 million in claims filed in the RRA case, according to published reports, the possibility of the Government ever seeing a dime in distribution on account of Rothstein's shareholder interest seems remote.
Was This the Right Analysis and Conclusion?

   As a matter of forfeiture law, was this the right conclusion? The Eleventh Circuit had a choice to make in what law to apply regarding the level of proof for tracing of proceeds in a commingled account. It applied a bright line rule – no tracing and therefore no finding that the property was "proceeds." Should there be discretion in this analysis, and should it matter what percentage of the money is tainted versus untainted?

Another question left hanging from this decision is whether the automatic stay should have prevented a forfeiture action after the bankruptcy had been filed. The court declined to opine on this issue. Was this because it concluded that this argument was a loser in light of the relation back doctrine, which the Government argued prevented the assets from ever becoming property of the bankruptcy estate in the first place?

   From the standpoint of Rothstein's victims, will they ultimately fare better if the bankruptcy trustee administers these assets as opposed to the Government? Should the administrative costs, tax consequences or distribution schemes of the two competing statutory structures of bankruptcy and forfeiture have any impact on who is better to administer the assets?

   This decision puts an explanation point at the end of a hard fought battle. While this one is a big win for bankruptcy estates, there are certainly others going in the other direction, where assets are forfeited by the Government despite a pending bankruptcy proceeding. We can only hope that bankruptcy trustees and the Government will maintain a sensitivity to the ultimate objective – getting money back to the defrauded victims – and handle these disputes in a manner that keeps their eyes on that objective.

Friday, June 7, 2013

CFTC Sues U.S. Bank for Its Role in the Peregrine Financial Ponzi Scheme

Posted by Kathy Bazoian Phelps

Normally a trustee or investors sue the banks for funds lost in a Ponzi scheme. Banks are accused of negligently not monitoring their accounts for fraud or, worse yet, for aiding and abetting the Ponzi scheme perpetrator’s fraud. Federal regulators like the SEC and CFTC go after the bad guys and are not generally in the business of suing the banks who held the money.

In the Peregrine Financial Group, Inc. fraudulent scheme – generally believed to be a Ponzi scheme if not just one massive embezzlement – the CFTC has just sued U.S. Bank for its role in the fraudulent scheme perpetrated by Russell Wasendorf, Sr., and Peregrine. Based in Cedar Falls, Iowa, Wasendorf defrauded 24,000 victims out of $215 million over 20 years. After his unsuccessful suicide attempt and subsequent arrest, Wasendorf pleaded guilty and was sentenced to 50 years. He was also ordered to pay full restitution.

The CFTC complaint, filed on June 5, 2013, alleges that Peregrine was a "futures commission merchant" registered with the CFTC and that Peregrine deposited more than $308 million of its customers’ funds with U.S. Bank. Under the Commodity Exchange Act, 7 U.S.C. §§ 1 et seq., and CFTC regulations, 17 C.F.R. §§ 1 et seq., neither U.S. Bank nor Peregrine was permitted to "hold, dispose of, or use" these customer funds as though they belonged to anyone other than Peregrine’s customers.

Nevertheless, the CFTC alleges, U.S. Bank held and used Peregrine’s customer funds as security on a $3 million loan to Wasendorf and his wife and to make a $6.4 million loan to Wasendorf Construction, L.L.C. The CFTC also alleged that customer funds were in an account that U.S. Bank treated as if it were Peregrine’s commercial checking account and knowingly allowed and facilitated Wasendorf’s transfers of customer funds out of this account to pay for Wasendorf’s private airplane, his restaurant and his divorce settlement, among other things. It is alleged that U.S. Bank knew that these transfers were not for the benefit of Peregrine’s customers.

An intriguing aspect of the complaint alleges that "Banker A," an "Assistant Relationship Manager" who worked at a Cedar Falls branch of the Bank, handled much of Peregrine’s transactions for the Bank. The complaint does not identify Banker A by name or disclose why her identity is concealed. The CFTC alleges that Wasendorf instructed the Bank to communicate only with him, and that any communications about the Bank had to be with Banker A. In summary, the complaint alleged that, "U.S. Bank knew that Wasendorf’s mandates concerning the 1845 Account were highly unusual."

The complaint also painstakingly describes how "Banker A" and U.S. Bank knew that Peregrine’s account was a customer segregated account and that the funds in it came from customers. The complaint goes on to allege that the Bank knowingly facilitated the transfer of customer funds in violation of the commodities laws. Although it comes close, the complaint does not allege that the Bank knew of Peregrine’s fraudulent scheme.
The CFTC seeks to enjoin U.S. Bank’s unlawful practices as well as restitution, disgorgement and civil monetary penalties. It does not state that any recoveries will be distributed to Wasendorf’s victims.

U.S. Bank responded to the complaint with the following statement: "Like the CFTC, we are sympathetic to the victims of Mr. Wasendorf’s self-admitted fraud. U.S. Bank was also a victim of the same fraud – one that the CFTC failed to detect. This lawsuit is without merit and represents an inappropriate attempt to reassign blame to U.S. Bank." The Bank further noted, "Banks are not responsible for losses generated by customers who are fraudsters."

On the legal merits of the CFTC’s claims, U.S. Bank responded: "The lawsuit itself accuses the bank of violating technical regulations that have never been interpreted by any Court to apply when a bank is not notified that it was holding Customer Segregated funds. The CFTC’s theory against the bank is unprecedented, seeking to impose responsibilities that the Bank never had and alleging violations that it never committed."

The CFTC’s complaint is here.

This is not the first effort by the CFTC to pursue a bank’s improper conduct under the commodities laws. In 2012, JPMorgan paid $20 million to settle CFTC claims over its unlawful handling of customer segregated funds at Lehman Brothers. The CFTC press release announcing this settlement is here.

It remains to be seen whether the Peregrine trustee will also pursue claims against U.S. Bank for the conduct alleged in the CFTC complaint. Given the numerous allegations of the Bank’s knowledge of various issues, a complaint for negligence, breach of fiduciary duty, or possibly aiding and abetting does not seem out of the realm of possibilities.

Wednesday, June 5, 2013

How Many Ponzi Schemes Are There?

Posted by Kathy Bazoian Phelps

   I am often asked, "How many Ponzi schemes are there?" This is a tough question to answer with 100% accuracy because there is no central registry for all Ponzi scheme cases. The media certainly reports on the big cases, and occasionally the smaller, local cases, but most schemes go unreported as lawyers, accountants, trustees and receivers quietly unravel them.

   The Securities Exchange Commission does respond to a significant portion of Ponzi scheme cases – the ones that involve the fraudulent sale of securities. Its website reports that since fiscal year 2010, it has brought has brought more than 100 enforcement actions against nearly 200 individuals and 250 entities for carrying out Ponzi schemes. Click here.

   The website of the Commodity Futures Trading Commission also has an extensive list of the enforcement actions that it has taken in cases involving Ponzi schemes and other frauds. So far in 2013, it has published 47 press releases regarding its new and pending enforcement actions. Click here.

   Monthly, this blog summarizes the stories relating to Ponzi schemes that make the news around the globe. The reported stories include newly discovered Ponzi schemes, guilty pleas and convictions relating to previously discovered schemes, and the sentences that courts dole out to the perpetrators. Those reported stories reflect these statistics for just the first four months of 2013:

  • Over 42 people pleaded guilty or were found guilty of charges relating to Ponzi schemes involving over $1.925 billion. In addition at least 3 other individuals were charged but pleaded not guilty to charges relating to Ponzi schemes involving over $87 million.
  • Over 30 people were sentenced in connection with Ponzi schemes involving over $775 million.
  • New charges were brought in connection with newly discovered Ponzi schemes involving more than $4.35 billion.
  • Over the past year alone, millions of investors have been defrauded by Ponzi schemes.
   These are staggering statistics, with no end in sight. Anyone have any good ideas on how to stop this onslaught?

Tuesday, June 4, 2013

Self Help: Net Losers Sue Net Winners in Ponzi Scheme

Posted by Kathy Bazoian Phelps

   Net winners in a Ponzi scheme – those who have profited – often get sued to return the profits paid to them. Those who lost money (net losers) usually don’t get sued, unless they were not in "good faith." It is a bankruptcy trustee or regulatory receiver calling the shots of who does and doesn’t get sued in the process of unraveling a Ponzi scheme in a subsequent insolvency proceeding.

   When it comes time to distribute recovered funds to investors, the net winners and net losers frequently do battle over the type of distribution made out of an insolvency proceeding, with each faction fighting for a bigger slice of the pie. Either the priority scheme in the Bankruptcy Code or a court-approved distribution plan will govern how money is to be distributed.When there is no bankruptcy or receivership proceeding to supervise the administration and distribution process, then what? Net winners are sitting on the profits paid to them, having recovered their original investment plus some. But what about the net losers? Where does the money come from to make net losers whole?

   In Carroll v. Stettler, 2013 U.S. Dist. LEXIS 76519 (E.D. Pa. May 31, 2013), the net losers opted for self-help. In that case, the net losers sued the net winners to recover the profits paid to those net-winning investors. This latest decision in a series of decisions handed the net losers a summary judgment, making the effort to take matters into their owns hands worthwhile.

   The case arose out of a scheme run by Lizette Morice through her company Gaddel Enterprises, Inc. Gaddel claimed that it purchased properties that were in tax foreclosure at a substantial discount and then sold the properties at a large profit. Morice and others solicited more than $7,000,000 from individuals by offering a share of the profits for a minimum of a $1,000 investment. No real estate transactions were ever conducted and most investors lost their entire investment. Gaddel did, however, pay some investors returns on their investments of over $5.1 million with funds from other investors. So, in classic Ponzi tradition, there were a few net winners and many net losers.

   Morice admitted to running a Ponzi scheme in her criminal proceeding, and the net losers of the scheme were left to their own resources in attempting to recover their losses. A few years ago, they filed a class action against the net winners seeking avoidance of Gaddel’s actual fraudulent transfers under state law. And so far at least, the case has been largely successful. The district court has:

  • Denied a motion to dismiss filed by the net winners, 2010 U.S. Dist. LEXIS 120672 (Nov. 12, 2010);
  • Granted class action certification for a class of 2,627 plaintiffs, 2011 U.S. Dist. LEXIS 121171 (Oct. 19, 2011);
  • Granted approval of a partial class action settlement in which some defendants agreed to pay $739,164.10, which is 80% of Gaddel’s transfers to them, 2011 U.S. Dist. LEXIS 121185 (Oct. 19, 2011);
  • Granted most of the plaintiffs’ motion for default judgments against the defendants who did not file timely answers, 2012 U.S. Dist. LEXIS 113660 (E.D. Pa. Aug. 10, 2012);
  • Granted in part the plaintiffs’ motion for summary judgment against the insider defendants, finding that Gaddel did perpetrate a Ponzi scheme; that under the Ponzi presumption, all challenged transfers were with actual fraudulent intent, and that the only triable issues related to the defendants’ good faith value defense, 2013 U.S. Dist. LEXIS 56080 (E.D. Pa. Apr. 18, 2013); and
  • In the most recent decision, granted in part the plaintiffs’ motion for summary judgment against the other defendants, entering judgment against many of the non-insider defendants, 2013 U.S. Dist. LEXIS 76519 (E.D. Pa. May 31, 2103).
   So when all else fails and no trustee or receiver is appointed to marshal assets, net loser victims of a Ponzi scheme may want to consider self-help and seek to recover money from net winners themselves.