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

Friday, January 31, 2014

January 2014 Ponzi Scheme Roundup

Posted by Kathy Bazoian Phelps

     2014 began with a continued, but unfortunate, strong showing of activity in Ponzi scheme cases. Below is a summary of the activity reported for January 2014. 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.

     Juan Jose Alvarez de Lugo, 53, was sentenced to 4 years in prison in connection with a $5 million Ponzi scheme that defrauded at least 22 victims. Alvarez de Lugo built up a real estate business with a sophisticated website and promotional materials and misrepresented that he was working with governmental agencies to buy, rebuild and then sell “social housing projects” to help the poor. He targeted contacts from his home country Venezuela to invest and promised them annual returns of 20%.

     James W. “Bill” Bailey, Jr. lost his appeal seeking to overturn his 32 year sentence. The Fourth Circuit Court of Appeals upheld his sentence arising from charges in connection with a $15 million Ponzi scheme that he operated through Southern Financial Services and that defrauded about 76 victims. The basis of the appeal was Bailey’s claim that the court had wrongly accepted a second plea agreement that contained corrections to a previous agreement. The court noted that Bailey had personally confirmed the corrected plea agreement and the lower court had “validly accepted a reformation of the original plea agreement.”

     Anthony Barreiro, 64, and Ernest Ray Parker aka Ray Parker Gaylord, 50, were indicted on charges that they were running a $3.4 million Ponzi scheme through their antique businesses, Charles Gaylord & Co. and ARTLoan Financial Inc. Barreiro and Parker represented to investors that their money would be loaned to investors to buy artwork and the art would be held at ARTLoan as collateral. It is alleged that the two kept $1.5 million and that $1.8 million was used to make Ponzi payments. ARTLoan filed for bankruptcy in 2011.

     Arvin Lee Black II aka Lee Black, 34, pleaded guilty to charges relating to a $21 million Ponzi scheme that defrauded more than 50 victims. Black ran a stock day trading company called Sole Group LLC and promised investors returns of 5% with little risk.

     Christopher Blackwell, 34, was sentenced to 210 months in prison and ordered to pay $8.6 million in restitution in connection with an $8.6 million Ponzi scheme. Blackwell had pleaded guilty to the scheme in 2011 and then fled to Greece. Blackwell had promised investors big returns on low risk ventures.

     Bryan Caisse, 50, a U.S. Naval Academy grad, was indicted on charges relating to his alleged operation of a $1.2 million Ponzi scheme that defrauded more than 20 victims. Caisse was supposedly running a hedge fund called Huxley Capital Management in which he promised investors annual returns of 8% in connection with short-term loans. Caisse instead used the money to fund his lifestyle. Caisse tried to delay angry investors by pretending he had suffered brain damage and a broken hip in a car accident. He had fled the country with a one-way ticket to Colombia and is reportedly now trying to raise bail from the same people who were his victims.

     Anthony D’Agostino, 77, was found guilty on all counts relating to a $20 million alleged Ponzi run through Commercial Mortgage & Finance. D’Agostino, the former president of the company, insists he was not running a Ponzi scheme. About 1,400 people lost money in the scheme. Commercial Mortgage is still in business but is being operated by a board of creditors who lost their money.

     David George Dreslin, 54, was arrested in connection with an alleged $6 million real estate development Ponzi scheme. Dreslin solicited investors through his company, Dreslin Financial Services, promising them high returns in a short period of time and that their investment would be safe. Dreslin did not actually own the real estate he represented. His business partner, Gary Gauthier, 64, was also arrested and is accused of soliciting investors into the scheme. Gauthier is the former host of a Christian radio show called “It’s God’s Money.”

     Glen Galemmo, 48, pleaded guilty to charges relating a Ponzi scheme that defrauded about 200 victims. The plea agreement said that Galemmo collected $116 million, but more than 160 investors are suing Galemmo and claim that they lost up to $300 million. Galemmo had promised clients more than 30% returns through investments in his company, Queen City Investments.

     Kamalu Gonzales, 47, was sentenced to 78 months in prison and ordered to pay $830,000 in restitution in connection with a $1 million Ponzi scheme that defrauded at least 16 victims. Gonzales diverted about $410,000 for his own purposes despite his representations that he was a successful investor and trader on the foreign currency exchange market.

     Randal Kent Hansen, 65, was convicted on charges in connection with a $10 million Ponzi scheme that he ran through two hedge funds known as RAHFCO Funds LP and RAHFCO Growth Fund. The scheme, which he ran with Anthony John Johnson, defrauded about 90 investors from whom he took more than $20 million.

     Jason Nicholas James, 38, was arrested on charges related to a Ponzi scheme involving at least $350,000, run under the guise of a used-car dealership. James was using the identity of his brother, Jeremy Michael James, and other alias that included Jay James and J. James.

     Herbert Kay was indicted on charges that he ran an investment Ponzi-like scheme that defrauded at least 5 people out of about $200,000. Kay entered not guilty pleas to all of the charges, stating that his business simply failed and “There’s just nothing nefarious here.”

     Douglas Edward Kacos, 58, and Thomas Doctor, 60, will not be receiving any jail time in connection with their no contest pleas to charges of money laundering. As part of the $9 million Ponzi scheme run by Jeffrey Ripley, 60, and Danny VanLiere, 61, through their company, API Worldwide Holdings, that defrauded 140 investors, Kacos and Doctor ran funds through Kacos’ restaurant, New Beginnings Restaurant.

     Pastor Charles Lawrence Kennedy, 71, was sentenced to one year and a day in prison and ordered to pay about $315,000 in restitution in connection with a Ponzi scheme that defrauded about 100 investors. Kennedy solicited funds for a scheme run by Stanley Wayne Anderson and Edwin Alexander Smith through CFO-5 LLC and Trinity International Enterprises Inc. Investors were told that significant profits were generated through the trading of European medium term notes, when in fact no such program existed. Kennedy solicited funds from fellow pastors and members of their congregations through his company, Keys to Life Corporation, and promised them that for every $1,000 invested, the minimum return would be $1,000,000 which would be paid in 90 days. Kennedy collected $460,000 from 9 investors and forwarded $315,000 of that sum to Trinity.

     Jason Keryc, 34, Anthony Ciccone, 39, and Diane Kaylor, 36, each pleaded not guilty at their arraignment in connection with their involvement of the $400 million Ponzi scheme masterminded by Nicholas Cosmo. Two other associates, Bryan Arias, 40, and Shamika Luciano, 31, have also been charged in connection with the scheme. Cosmo had taken in more than $400 million from 5,000 investors through his companies, Agape World and Agape Merchant Advance. It is alleged that each of the defendants made money the scheme in the following amounts: Keryc $16 million; Ciccone $10.7 million; Kaylor $4.7 million; Arias $1.7 million; and Luciano $275,000.

     Ryan W. Koester was sentenced to 2 years in prison and 14 years probation and ordered to pay more than $517,000 for his role in a $1.5 million Ponzi scheme that defrauded 24 investors. Koester operated his scheme through his company, Rykoworks Capital Group LLC, claiming to be an expert in foreign commodities trading. Instead of investing the money in foreign markets, he used them for living expenses and risky internet trading.

     Terry Kretz, 61, Daryl Bornstein, 54, and Robert Haley, 54, pleaded guilty to charges relating to a Ponzi scheme run through investment company, Hanover Corporation. They offered investors promissory notes bearing high interest rates, representing that the money would be used for specific purposes such as stock options and startup companies.

     Anthony Lupas Jr., 79, surrendered to a federal prison for inmates “who have special health needs.” Lupas was deemed not competent to stand trial after it was determined that he had “lost his perception of reality.”  Lupas was a lawyer who had defrauded his clients out of $6 million in a Ponzi scheme.

     Bernard Madoff returned to prison after recovering from a heart attack that occurred last December.

     Peter Barnett Madoff, 68, the younger brother of Bernard Madoff, was disbarred as an attorney by the New York appeals court for his role in the Bernie Madoff Ponzi scheme. Peter Madoff was sentenced 10 years in prison after pleading guilty to federal conspiracy and securities fraud charges relating to the scheme. Peter Madoff admitted that he failed to report benefits as income on his tax returns and that he falsely placed his wife on the payroll of the Madoff firm.

     Barry Minkow pleaded guilty to charges of stealing $3 million from parishioners of San Diego Community Bible Church of which he was the pastor. Minkow gained notoriety for his $100 million Ponzi scheme operated through his carpet cleaning company ZZZZ Best. Minkow, at 21, was the youngest person at the time to take a company public, but was sentenced to 25 years in prison in 1988 for the scheme. He was released in 1995, became the pastor of the church two years later, and founded the Fraud Discovery Institute which helped the FBI and other law enforcement agencies to detect white collar crimes. In the meantime, he continued to engage in fraudulent activities, and was sentenced to 5 years in prison in 2011 for securities fraud. He faces an additional 5 years for this latest conviction.

     Hendrix Montecastro was sentenced to 81 years and 8 months in prison in connection with his $142 million Ponzi scheme. His mother, Helen Pedrino, 62, was sentenced to 7 years in prison. They were also ordered to pay more than $6 million in restitution.

     Steven Palladino, 56, his wife Lori Palladino, 51, and his son Gregory Palladino, 28, pleaded guilty to charges relating to an alleged $10 million Ponzi scheme that they ran through Viking Financial Group that allegedly defrauded about 40 victims. Steven Palladino was sentenced to 10-12 years in prison and 5 years of probation, while Lori and Gregory were each sentenced to 2 years in a house of correction.

     James Pantazelos lost his appeal of his sentence in which he argued that his criminal-history score overstated the significance of his criminal history because his prior criminal history involved nonviolent offenses. The Seventh Circuit affirmed his 114 month sentence. U.S. v. Pantazelos, 2014 U.S. App. LEXIS 1142 (7th Cir. Jan. 22, 2014). Pantazelos had operated a $4.3 million Ponzi scheme through Destiny’s Partners, Inc.

     Larry Michael Parrish, 49, was sentenced to 9 years in prison and order to pay $4 million in restitution in connection with $9.2 million Ponzi scheme that defrauded 70 investors. The scheme was run though IV Capital Ltd. as an investment firm that supposedly traded in international exchanges. Parrish guaranteed monthly returns of at least 2.5%.

     Tom Petters, 54, filed new motions to have the judge removed from his case and to alter the recent order that denied Petters his previous effort to have his 50 year prison term reduced. Petters also asked to be released on bail pending a ruling on his motions. Petters filed the motions with the assistance of his “jailhouse lawyer,” John Gregory Lambros, who is an inmate with Petters serving time for his role in an international cocaine distribution ring in the 1980s. Lambros is not actually an attorney and is scheduled to be released in 2014. Petters was convicted in connection with his $3.65 billion Ponzi scheme.

     Aubrey Lee Price, 47, was arrested in Georgia on charges relating to an alleged Ponzi scheme he had run though PFG, LLC and Montgomery Asset Management, LLC fka PFG Asset Management, LLC. Price had disappeared in 2012 and had left a suicide note, but authorities remained skeptical and had conducted a massive manhunt. In 2013, a court declared Price dead, but on New Year’s Eve, Price was pulled over in a routine traffic stop for a tinted window violation. Officers became suspicious when he gave them evasive answers, and they learned that Price was wanted by the FBI. Price defrauded investors by promising high returns in supposed low risk securities investments. Instead, Price use the investors’ funds to purchase a failing bank, Montgomery Bank & Trust, and then used the bank to embezzle at least $21 million.

     R. Christopher Reade, 43, a Las Vegas attorney, pleaded guilty to charges that he helped his client, Rick Young, launder $2.3 million from a $16 million Ponzi scheme. Young claimed he had developed an automated trading program that traded according to his strategies simply by “flipping a switch.” Young is serving 25 years in prison and was ordered to pay $13.3 million in restitution.

     Hans Seibt, 72, was sentenced to 10 years in prison and ordered to pay $1.3 million in restitution. Seibt used his companies, HSLV Development Corp., Clark and Nye County Development Corp., and SWN Land Corp., to solicit investments of $10,000 or more in the land scheme and promised investors returns of 10% to 12%.

     Luis Alonso Sena, 61, was arrested in connection with charges relating to a $7 million alleged Ponzi scheme that lured in more than 70 individuals. Sena is the pastor of Zion Living Word Christian Center in California. He purported to run a foreign currency investment company through Architects of the Future Investments, promising investors up to 20% returns per month.

     Richard Trabulsy had his new plea agreement approved by the court after his first plea agreement was thrown out after a dispute over the length of his sentence. Trabulsy worked with John Bravata at BBC Equities, which ran a $50 million real estate Ponzi scheme that defrauded more than 400 investors.  Bravata is serving a 20 year sentence. His son, Antonio Bravata, was also convicted in connection with the scheme and is serving a 5 year sentence.

     WCM777 changed its name to Kingdom777. The name change came with the announcement that Kingdom777 acquired the assets of WCM777 on December 30, 2013. The founders, Dr. Phil Ming Xu and Tiger Liu will not be officers in the new company and are referred to as “founders. Police in Peru raided the local WCM777 operation, which prompted the head of the organization to declare his love for the Peruvian people. Xu also promised “a promotion plan with a payout ratio of 130%.” The state of California issued a Desist and Refrain Order that bans the company in California, which also named executives Ming Xu and Zhi Liu, and Harold Zapata and World Capital Market Inc.

     Joel Wilson, 31, was arrested in Germany and accused of running a $500,000 Ponzi scheme. Wilson represented that he would use investors’ funds to purchase, fix up and resell homes in Michigan but instead used the money for himself and to make Ponzi-like payments. He ran the alleged scheme through his company, Diversified Group Advisory Fund LLC. Wilson left for German in 2012 during the investigation of the alleged Ponzi scheme. Shawn Dicken, 40, was also charged in connection with the scheme.



     The Ontario Securities Commission approved a settlement that will permanently bar Kevin Warren Zietsoff, 41, from participating in the capital markets. Zietsoff operated a $15 million Ponzi scheme and defrauded more than 80 victims in Canada and the U.S. He sold promissory note securities without a license, misrepresenting that he was a successful trader and that the notes were either low risk or risk free.

     The Nova Scotia Securities Commission levied $500,000 of fines against Quintin Sponagle and Trevor Hill in connection with a alleged $3.2 million Ponzi scheme that they ran through Jabez Financial Services Inc. The scheme allegedly defrauded 137 investors, who were promised returns up to 214%.

     Earl Jones, currently serving an 11 year sentence after pleading guilty to a $50 million Ponzi scheme, could be released from prison in light of a recent Quebec court ruling. The Quebec Superior Court ruled that a federal government decision that abolishes early parole for white collar crime is unconstitutional. Jones waived his right to a parole hearing in June.


     Hong Kong-based company Mega Holding has been accused of running a Ponzi scheme that allegedly defrauded 35,000 people.

     It was reported that over 20, and maybe hundreds of, retired senior officials from the Ministry of Foreign Affairs were swindled in a $24.8 million (150 million yuan) scheme run through the Xin Lu Yuan Company operated by Zhang Zhouming, 46. The company had claimed that it owned 6 mines in China and overseas and more than 1,000 acres of forest and that each adviser could earn a bonus of 500 yuan for introducing a new investor to the company. Zhang was arrested in 2012. The scheme involved more than 1,700 investors who lost a total of about $430 million (2.6 billion yuan).


     Matthew Ames, 38, pleaded not guilty to charges that he ran a £1.6 million Ponzi scheme under the guise of saving the rainforest. Ames was charged with fraud in connection with his two green investment firms, Forestry for Life and the Investor Club. Investors were promised 15% returns from teak tree plantations and rainforest protection projects. Instead of investing the money, however, Ames used the money to fund a lavish lifestyle and to purchase a Lamborghini and a Caribbean rental.

     Nigel Goldman, 56, disappeared from his mansion in Spain after he was accused of stealing more than £3 million from investors in an alleged Ponzi scheme run through his Tangiers-based company, International Financial Investment. Goldman offered investments in commodities such as bullion, and stocks and shares. Goldman is a British poker champion who has twice been jailed for fraud. In 2012, he wrote “High Stakes: How I Blew £14 Million” - his memoirs describing his history of dishonesty.


     Dresden based financial service provider Infinus Group was dismantled as a Ponzi scheme. Public prosecution of Dresden arrested six senior representatives of Infinus for giving untrue statements about the financial situation of Infinus. Public prosecution suspects that payments to the investors were made with investments of new clients. According to the public prosecution, 25,000 investors lost approximately EUR 400,000,000. Following the search and arrest detention, 17 of the 22 companies belonging to the Infinus Group filed for insolvency. It is reported that the creditors’ claims total nearly EUR 1 billion. Reported by Bernd Klose, www.raklose.de/.


     A new law was signed to prohibit Ponzi schemes in Kazakhstan. The law, which amended the criminal code, provides for 7 to 12 year long prison terms for those orchestrating a Ponzi scheme and bans advertising of Ponzi schemes.  According to the General Prosecutor’s Office, from 2010 to 2013, there were a total of 61 criminal cases relating to Ponzi schemes and about 4,000 victims with about $5 million of losses.

New Zealand

     Rene Alan Chalmers, 43, was sentenced to 4 years and 3 months in prison in connection with a $1.5 million Ponzi scheme through his company, Chalmers Cameron Investments. Chalmers had previously plead guilty to charges of theft and making false statements to investors, which arise from his supposed trading foreign currency business and misleading banks when buying properties.


     The government shut down an office of WCM777, which recently changed its name to Kingdom 777, due to regulatory scrutiny it has been receiving in a number of countries.


     Police arrested suspect Elvy Mansilangan-Lu, known as the “Queen of the Ponzi Scheme,” in connection with an alleged Ponzi scheme run through Minerva Co. The scheme was supposedly a double your money investment scheme in which victims, mostly Muslim investors, lost about P200 million.


     The receiver of the Acorn Capital Management Ponzi scheme run by Donald Anthony Walker Young defeated a motion to dismiss his claims to recover allegedly fraudulent transfers made to two of Acorn’s limited partners, Diana and William Wister, in the amount of about $11.8 million.

     Francisco Javier Herrera Navarro, the ex-director of commodities trading company, Agra Canada and its subsidiary Agra USA, must pay $42 million to Rabobank in connection with a personal guarantee that he made promising to repay Agra’s obligations and the amounts due on receivables that Agra Canada sold to Rabobank. A New York state appeals court reversed a lower court's denial of the bank’s motion for summary judgment and said that Navarro unconditionally waived all defenses when he signed the guarantor agreement. The losses were in connection with a Ponzi scheme run though the companies that were operated by Eduardo Guzman Solis.

     JPMorgan Chase & Co. reached agreements with various governmental agencies to pay $2.6 billion in fines to resolve criminal and civil allegations that it failed to stop Bernard Madoff’s Ponzi scheme. JPMorgan agreed that it ignored red flags in the Madoff banking arrangement for and failed to report suspicious activity. In connection with a deferred prosecution agreement, JPMorgan will pay $1.7 billion to settle the government’s charges, $350 million to the Office of the Comptroller of the Currency, $325 million to the Madoff trustee, and $218 million to settle class action claims. The $1.7 billion from JPMorgan will go in the Madoff Victim Fund to be distributed to the Madoff victims. 193 investors – the “net winners” who withdrew more money than they invested and who are not otherwise entitled to share in the recovery - have asked to be excluded from the JPMorgan settlement.

     The U.S. Supreme Court asked the Obama administration for its input on the issues raised in the Madoff trustee’s appeal seeking permission to sue HSBC and other financial institutions. The trustee’s claims were dismissed by the lower court on the grounds that the trustee lacked standing to bring the claims, among other things. The Trustee’s claims against JPMorgan will be dropped in light of the settlement reached with that bank.

     The Madoff trustee’s settlement with Jeffry Picower was upheld on appeal. Two investors, Adele Fox and Susan Marshall, sought to pursue their own claims against Picower but were stayed by the court overseeing the Madoff case because those claims were “derivative” of the trustee’s claims. The trustee’s settlement brought in a total of $7.2 billion to be paid to the estate and the government, which makes up a large part of the $9.5 billion that the trustee has recovered in the case.

     A New York appellate court overturned an order dismissing claims against accounting firm Konigsberg, Wolf & Co. and its president, Paul Konigsberg, brought by Madoff investor Mark Weinberg. Weinberg alleges that the firm and its partner, Steven Mendelow, steered him to invest in a Madoff feeder fund FGLA Equity. The appellate court found that Weinberg had adequately pled claims of fraud, aiding and abetting fraud and negligent hiring and supervision.

     U.S. Bankruptcy Court Judge Burton R. Lifland, the judge overseeing the Bernard Madoff Ponzi scheme case, died at age 84 after suffering from bacterial pneumonia. Judge Stuart M. Bernstein will take over the Madoff case.

     The receiver of the Arthur Nadel Ponzi scheme has reached a settlement with Choice Direct Mail Inc. and Ty Hardin to settle claims that they hid money from the receiver. The receiver had obtained a judgment against Donald Rowe, the publisher of a Sarasota investment newsletter that had strongly touted Nadel’s investment program. Rowe was ordered to pay $4 million but was subsequently accused of hiding assets to avoid paying the receiver. Last year, the law firm of Band Weintraub PL agreed to pay almost $1 million to settle claims that it was “front and center” in a conspiracy to hide Rowe’s money from the receivership. In this new settlement, the receiver will recover nearly $750,000 and Choice Direct mail, and Ty Hardin have not admitted any liability. The Nadel Ponzi scheme involved losses of $162 million by 350 investors. 

     The bankruptcy trustee in the Tom Petters case filed a motion to take a district court appeal directly to the 8th Circuit Court of Appeals. The appeal relates to the bankruptcy court’s ruling to consolidate separate entities.

     The former partner of Scott Rothstein, Stuart Rosenfeldt, filed a motion to avoid testifying in the upcoming criminal trial of a junior lawyer in their firm, Christina Kitterman, who has been accused of playing a role in the Rothstein Ponzi scheme. Rosenfeldt plans to plead the Fifth and refuse to answer questions that might incriminate him since Rosenfeldt still faces possible indictment from his association with Rothstein. Rosenfeldt denies any wrongdoing.

     The Fifth Circuit upheld a lower court’s ruling that Trustmark National Bank could not withhold $1.98 million from the receiver in the Ponzi scheme case of R. Allen Stanford. Trustmark had secured a letter of credit by issuing a certificate of deposit to Stanford who placed the cash collateral in a Trustmark deposit account. A creditor of Stanford was allowed to present its letter of creditor to Trustmark for payment, but Trustmark was not allowed to offset that with Stanford’s cash collateral and Trustmark was ordered to turnover the cash collateral to the receiver. See Trustmark National Bank v. Janvey, 2014 U.S. App. LEXIS 357 (5th Cir. Jan. 8, 2014)

     The receiver of the WexTrust Capital Ponzi scheme case is seeking compensation for him and his professionals in the amount of about $1 million. This request is in addition to about $20 million that has previously been paid in fees. The Ponzi scheme involved losses of $238 million, and the 1,300 victims have shared about $5 million in recovered funds so far. Secured creditors have been paid about $55.1 million. The case remains open due to ongoing unresolved issues with the IRS and family members relating to certain real property. The scheme was run by Joseph Shereshevsky and Steven Byers, who are serving 22 year and 13 year prison terms, respectively.

     In the ZeekRewards $600 million Ponzi scheme case, a lawyer representing a group of victims has objected to the receiver’s proposed process to distribute assets to victims, arguing that if the distributions go directly to the victims, they will not be able to first deduct their 25% fee from each claim. One lawyer has asked that future distributions to 740 victims be paid solely to his law firm because he entered into a contingency fee agreement with them to file a class action, which was later found to be in violation of the stay order in the case. The receiver takes issue with the contingency fee being charged for filling out the online claims form, noting that “whether or not the fee agreement would permit Movants’ counsel to claim a large contingent fee (as much as 25%) for simply providing administrative assistance in filing a claim through the Receiver’s claim portal is uncertain.” More than 170,000 individuals have submitted claims.

     Four Oaks Fincorp Inc. and Four Oaks Bank & Trust Company in North Carolina reached a deal with the government to pay a penalty of $1.2 million without admitting wrongdoing or liability in connection with the ZeekRewards scheme. Authorities say that the bank permitted Rex Ventures Group, the parent company of ZeekRewards, to move $60 million because the bank permitted money to move in a manner which took the bank out of its usual intermediary position between the third party processor and the Federal Reserve. The bank allowed the third party processor to directly submit Automated Clearinghouse requests for payments directly to the Federal Reserve, which removed the controls of the bank required by the Bank Secrecy Act to ensure that the bank satisfied its “know your customer” obligations.

     The Office of Comptroller of the Currency announced a policy shift which would make it easier to target lenders in certain types of enforcement actions. The new “streamlined” procedures apply to banks with more than $50 billion in assets. The agency is insisting that banks have strong risk-management grades and that boards stand up to management, questioning and challenging management’s actions that threaten to take undue risk. The new procedures will allow the agency to skip a judicial hearing in obtaining a safety-and-soundness order, which can be enforced through assessment of civil money penalties.

     The State of California is considering legislation to align California law with federal income tax law. Senate Bill 797 is intended to provide relief to victims of Ponzi schemes by offering them tax relief and to “ensure the state doesn’t re-victimize these innocent Californians.” SB 797 allows innocent victims to carryover or carryback net operating losses for each taxable year beginning on or after January 1, 2008.

     Congress took away half of the $50 million that the SEC had set aside for technology initiatives. SEC Chairman Mary Jo White said that the cutback “will affect the pace and extent of our continued progress.” The SEC was to use the funds for technology upgrades that would have helped it, among other things, better detect trading and accounting frauds that are often the subject of Ponzi schemes.

Tuesday, January 28, 2014

Jumping Through Hoops to Get Trustee Standing in Ponzi Scheme Cases

Posted by Kathy Bazoian Phelps

   In Ponzi scheme cases, the issue of trustee standing to bring third party claims can be very challenging. The Supreme Court has made clear that a trustee may pursue the debtor’s claims against third party defendants, but may not pursue creditors’ claims. Caplin v. Marine Midland Grace Trust Co. of N.Y., 406 U.S. 416 (1972). What makes the issue so challenging in Ponzi scheme cases is determining which claims belong to creditors and which belong to the debtor. Does the defrauded victim hold a claim for a particularized injury, or does the trustee hold the claim belonging to the debtor for generalized injury to the debtor as claims are filed against a debtor for victims’ losses in a Ponzi scheme?

   To avoid being thrown out of court on standing issues, trustees and their attorneys often employ a belt and suspenders approach to litigation. Trustees obtain assignments from creditors of their claims so the trustee then owns all possible claims and will be covered under either scenario. The theory is that, after the assignment, Caplin no longer applies because the trustee is pursuing claims that the estate owns, not the creditors’ claims. Pursuant to 11 U.S.C. § 541(a)(7), the estate includes, “Any interest in property that the estate acquires after the commencement of the case.”

   This strategy, however, has had mixed success depending on how and when the assignment is documented, as is fully discussed in § 13[2][d] of The Ponzi Book: A Legal Resource for Unraveling Ponzi Schemes (LexisNexis® 2012). At the circuit level, the cases have gone different ways, but a close look at these cases reveals differences in material facts that led to the different results:

  • The Ninth Circuit appeared to reject the assignment strategy in Williams v. Cal. 1st Bank, 859 F.2d 664 (9th Cir. 1988), where the court held that the creditors remained the “real parties in interest” because “the bulk of any recovery” had been reserved specifically for them. 
  • But then the Fourth Circuit approved it in Logan v. JKV Real Estate Servs. (In re Bogdan), 414 F.3d 507 (4th Cir. 2005), where the assignment was an unconditional assignment of all claims, making the trustee the real party in interest in that case. 
  • More recently in Grede v. Bank of NY Mellon, 598 F.3d 899 (7th Cir. 2010), the Seventh Circuit also approved the trustee’s standing based on an assignment of the creditors’ claims, where the trustee was a liquidating trustee and the claims were assigned pursuant to a plan of reorganization. 

   A recent decision from the United States District Court for the District of Idaho nicely reconciles the differing outcomes in these cases and lays out a possible roadmap for trustees. Zazzali v. Eide Bailey LLP, 2013 U.S. Dist. LEXIS 163282 (N.D. Idaho Nov. 14, 2012). In that case, the confirmed chapter 11 plan created a litigation trust called the Private Actions Trust (“PAT”), to which the creditors had assigned their personal claims against the Ponzi schemer’s accountants. When the PAT sued the accountants, the accountants responded with a motion to dismiss, arguing that under Caplin and Williams, the trustee lacked standing to pursue creditors’ claims.

   The court rejected this argument, concluding that Caplin and Williams apply only to bankruptcy trustees, and that the plaintiff was the trustee of a post-confirmation trust and not a bankruptcy trustee. The court instead relied on the Seventh Circuit’s decision in Grede, which specifically approved the standing of a post-confirmation trustee that resulted from creditors’ assignments of their litigation claims. The court also relied on two bankruptcy court decisions that had come to this same conclusion. In Calvert v. Zions Bancorporation (In re Consolidated Meridian Funds) 485 B.R. 604 (Bankr. W.D. Wash. 2013), the court held that under confirmed plan, the liquidating trustee is bound by the terms of the new contract and contract principles apply. Reaching the same result was Zazzali v. Hirschler Fleischer, P.C., 482 B.R. 495 (Bankr. D. Del. 2012), a decision that arose out of the same case and the same PAT that was before it.

   Grede, Calvert and the Zazzaili decisions clarify that in chapter 11, the assignment strategy may well succeed in creating standing for the trustee if it is executed in the context of a confirmed chapter 11 plan that creates a post-confirmation litigation trust.

   But what if the case is in chapter 7? Can a chapter 7 trustee ever establish standing through assignments of creditors’ claims? Based on the case law, a trustee could certainly try to solicit assignments from creditors, but those assignments would have to be unconditional assignments for the benefit of all creditors, as in Bogdan, to have any hope of success. Conditional assignments based on a promise to return some or all of the proceeds of the claims to the assigning creditors, as in Williams, are problematic for the purposes of establishing standing under the confines of Caplin.

   In the alternative, the chapter 7 trustee could, under 11 U.S.C. § 706(b), move to convert the case to chapter 11. That section states, “On request of a party in interest and after notice and a hearing, the court may convert a case under this chapter to a case under chapter 11 of this title at any time.” Upon conversion, the trustee, with the US Trustee’s consent, could become the chapter 11 trustee and then seek confirmation of a plan that creates a post-confirmation trust and accomplishes the necessary assignments. This strategy is more costly and time-consuming, though, so the claims would have to be of sufficient size and merit to justify this strategy. And, of course, the court deciding the issues would have to agree to follow the rationale in Grede and the Zazalli decisions that distinguish a liquidating trustee from a chapter 7 trustee.

   Is all of this jockeying and strategizing over the issue of trustee standing necessary? Is there a significant enough distinction between a trustee and a post-liquidation trustee to justify polar opposite results for creditors? Shouldn’t a fiduciary appointed to administer assets for the benefit of creditors (e.g., a chapter 7 trustee, liquidating trustee, or equity receiver) be permitted to bring claims that those very creditors are asking the fiduciary to pursue on their behalf? The developing case law requires trustees and creditors to consider all of the moving parts in strategizing over the pursuit of litigation claims, including the character of the fiduciary bringing the claims and the character of the assignments made by the creditors. Would it be easier to amend the bankruptcy code to clarify that the trustee has full standing to pursue creditors’ claims when those claims can be brought by each creditor in a group of similarly situated creditors?

Monday, January 20, 2014

How Much Control Does a Trustee Have in a Ponzi Scheme Case?

Posted by Kathy Bazoian Phelps

   Consider three recent events in the Bernard Madoff Ponzi scheme case, which demonstrate a certain unevenness and perhaps even inconsistency in the authority vested in the trustees who are administering these types of cases. Trustees act under the authority of the Bankruptcy Code or the Securities Investor Protection Act, as is applicable in the Madoff case, with the objective of maximizing returns for the people who lost money in connection with a Ponzi scheme.

1. The Trustee is in charge on the fraudulent transfer front. 

   The Second Circuit recently affirmed the Madoff trustee’s control over fraudulent transfer claims and an injunction barring two creditors from pursuing their own claims against a fraudulent transferee defendant that the Trustee had sued. Marshall v. Picard (In re Bernard L. Madoff Investment Securities LLC), 2014 U.S. App. LEXIS 600 (2d Cir. Jan. 13, 2014). The Trustee had entered into a settlement with Jeffry Picower resolving the Trustee’s fraudulent transfer claims against Picower. The settlement resulted in recovery of $5 billion for the estate and about $2.2 billion to be forfeited to the government. Creditors Susanne Stone Marshall and Adele Fox separately sued Picower under state law tort theories, but the lower court enjoined such actions when it approved the Trustee’s settlement with Picower. 

   That injunction provided that: 
[A]ny BLMIS customer or creditor of the BLMIS estate who filed or could have filed a claim in the liquidation, anyone acting on their behalf or in concert or participation with them, or anyone whose claim in any way arises from or is related to BLMIS or the Madoff Ponzi scheme, is hereby permanently enjoined from asserting any claim against the Picower BLMIS Accounts or the Picower Releasees that is duplicative or derivative of the claims brought by the Trustee, or which could have been brought by the Trustee against the Picower BLMIS Accounts or the Picower Releasees . . . .
   The court agreed that the claims asserted in appellants' Florida actions were "duplicative or derivative" of those claims that could have been or were asserted by the Trustee in the New York action and, accordingly, were barred by the terms of the injunction. The Second Circuit explained, “Although appellants seek damages that are not recoverable in an avoidance action, their complaints allege nothing more than steps necessary to effect the Picower defendants' fraudulent withdrawals of money from BLMIS, instead of ‘particularized’ conduct directed at BLMIS customers.”

2. It is unclear what power the trustee has to bring third party tort claims. 

   The Supreme Court is struggling with what to do with the Madoff trustee’s appeal of a decision denying him the ability to bring claims against certain financial institutions that he asserts are liable for damages for aiding and abetting the fraud, among other things.

   On October 9, 2013, the Madoff trustee filed a petition for writ of certiorari seeking review of a Second Circuit decision that upheld the dismissal of his claims on the basis that the trustee did not have standing to sue the banks and that the trustee “stands in the shoes” of Madoff’s firm and therefore cannot sue the banks for losses caused by Madoff’s fraud.

   The Trustee contends that there is a split in the circuits on these issues and that the appeals court misinterpreted the U.S. Securities Investor Protection Act, which the Trustee argues authorizes trustees to sue wrongdoers to recoup money. 

   Apparently still undecided about whether to grant cert, the Supreme Court docket in the case of Picard v. JPMorgan Chase & Co. et al, contains this notation dated January 13, 2014: “The Solicitor General is invited to file a brief in this case expressing the views of the United States.” 
   While the Madoff case may have a different outcome because it is a SIPA proceeding, bankruptcy trustees generally have standing to bring tort claims against third parties if the claim belongs to the debtor, but not if the claim belongs to individual creditors. Caplin v. Marine Midland Grace Trust Co. of New York, 406 U.S. 416, 433-34 (1972). However, bankruptcy trustees are frequently barred from bringing such claims under the in pari delicto doctrine which imputes wrongful conduct of the debtor’s agents to the debtor in whose shoes the trustee stands. See, e.g., Baena v. KPMG LLP, 453 F.3d 1, 6 (1st Cir. 2006); Official Comm. of Unsecured Creditors v. R.F. Lafferty & Co., 267 F.3d 340, 354-60 (3d Cir. 2001).

   It remains to be seen whether the U.S. government will weigh in on the subject and whether the Supreme Court will grant cert of the Madoff trustee’s appeal. If so, this case could have significant ramifications for trustees and for the creditors for whose benefit the trustees act in filing lawsuits against third parties. 

   As a footnote to this issue, JPMorgan, which is one of the defendants in the Trustee’s lawsuits to recover from financial institutions on aiding and abetting theories, recently entered into a Deferred Prosecution Agreement (available here) with the government and agreed to pay $1.7 billion in forfeited funds along with $350 million to the Office of the Comptroller of the Currency, $325 million to the Madoff trustee, and $218 million to settle class action claims. In the DPA, JPMorgan admitted to many of the allegations made by the Madoff Trustee in his complaint, making the Trustee’s claims even more compelling on a factual basis. Although the Trustee has now settled with JPMorgan, as of now, unless the Supreme Court grants cert, the Trustee has no authority to bring these claims against the other banks because they have been dismissed on procedural grounds. It is the defrauded victims and creditors who stand to lose if the Supreme Court says no.

3. Issues regarding distribution of funds to creditors are complicated and confused.

   In a SIPA proceeding like the Madoff case, the distribution scheme is controlled by the statute. Distributions to go first to “customers” and only to other creditors if there are funds leftover in the general fund.

   In a case under the bankruptcy code, there is no distinction between customers, defrauded victims, and other general unsecured creditors.

   However, when a parallel government forfeiture action intersects with either a SIPA or a bankruptcy proceeding, many of the distribution rules and priorities get turned on their head.

   This is the result in the Madoff case. The government, in connection with its forfeiture proceeding, recently appointed a special master to distribute forfeited funds to “victims.” The government’s definition of “victims” however, is different than the definition of “customers” under SIPA guidelines or “creditors” under the Bankruptcy Code.

   The special master recently posted a letter on his website at www.madoffvictimfund.com, and he sent the letter to each of the “customers” in the SIPA proceeding. In his letter, he explained:
   Some may not understand why there are two separate programs to help people who invested in Madoff: a "forfeiture" program and a "bankruptcy" program. The answer is that these two programs have different objectives. The U.S. Congress created the bankruptcy process to allow insolvent firms to reorganize, or to be liquidated in an orderly manner in accordance with established priorities. Where a former broker dealer firm such as Madoff Securities is being liquidated, the law limits distributions of most bankruptcy estate assets to "customers". The term customer is defined very narrowly to require a claimant to have held a direct account with Madoff Securities. Since more than 80% of investors in Madoff did not have a "direct" account, bankruptcy law creates significant disparities among former investors as to who can recover. Out of approximately 16,500 claims in the bankruptcy proceedings, claims covering only 2,186 accounts were "allowed" (roughly 18%). More than 14,000 bankruptcy claims were rejected, most commonly because the individual invested through a feeder fund or similar entity.
   Separately, Congress also created forfeiture laws to allow law enforcement authorities to seize the proceeds of criminal activity. By law forfeited assets are used to help "victims" of the criminal activity that gave rise to the forfeitures. 

   The statements made in the letter are not entirely accurate (treating a bankruptcy and a SIPA proceeding as interchangeable, which they are not), but the letter does provide a glimpse into the nature of the problem. For the lucky few who are both “customers” and “victims,” they should receive distributions from both the Madoff trustee and the special master. For those who are general unsecured creditors but not “customers” or “victims,” e.g, a landlord or a janitor who were not paid, they will get nothing out of either distribution scheme. Getting money back to the empty-handed landlord and janitor is an issue completely out of the control of both the Madoff trustee and the special master and leaves one questioning the fairness of the distribution schemes.

   In addition to the conflict between who is a “customer” under SIPA, who is a “victim” under forfeiture laws, and who is a “creditor” under the Bankruptcy Code, each of these systems strains under the tug of war over the assets that will get distributed to the customers, victims or creditors. The government seeks to forfeit all proceeds of the crime, which is usually most if not all of the assets to be administered in a bankruptcy or SIPA proceeding. Trustees seek to gain control over the very same assets as part of their duties and distribution guidelines. So should those assets be distributed to “victims” under the forfeiture laws, to “customers” under SIPA, or to all creditors pursuant to the bankruptcy code? Depending on who is administering the assets (a SIPA trustee, a bankruptcy trustee or the government), the money will end up in the hands of different categories of claimants, again leaving one questioning the fairness of these clashing systems.

   Efforts are increasing among the Department of Justice and bankruptcy groups to foster a level of cooperation and coordination among the different systems when there are parallel forfeiture and bankruptcy proceedings to most efficiently and cost-effectively administer assets of the fraudster to maximize recoveries for those who lost money in the Ponzi scheme. The Federal Judicial Center recently posted a YouTube video entitled "Asset Forfeiture and Bankruptcy Case Coordination" at:
This video provides an excellent discussion of the issues that arise in this context.

So Do Trustees Have Control?

   It is not an exaggeration to call this a mess. It is a patchwork of uncoordinated, conflicting and sometimes inequitable and dysfunctional rules that are borrowed from other circumstances to apply in Ponzi scheme cases. Our present system for pursuing just compensation for Ponzi scheme victims is certainly not one that we would create if we were to start from scratch. Maybe it’s time to think about doing that. 

   All of these issues are fully discussed in The Ponzi Book: A Legal Resource for Unraveling Ponzi Schemes (LexisNexis 2012).

Friday, January 3, 2014

Guest Blog: Why I Voted That Ponzi Scheme Perps’ Sentences Are Too Long

By Hon. Steven Rhodes

I confess. I was the one. In The Ponzi Scheme Blog DECEMBER POLL, I cast the sole vote that prison sentences for Ponzi scheme perpetrators are too long.

After spending two years co-writing The Ponzi Book with Kathy Phelps, I certainly understand the social, emotional, and financial devastation that Ponzi schemes cause, as well as the outrage that victims so justifiably feel. As Kathy has well-chronicled in this blog, the numbers are staggering – the numbers of newly-exposed schemes, the numbers of defrauded victims, and the numbers of dollars lost.

Still, longer sentences are not the answer. They accomplish nothing and are very expensive. Worse, they are unjust.

Let’s consider the expense first. Our country has 5% of the world's population and 25% of the world’s prison population. We have 2,240,000 people behind bars.

Here are the yearly costs per inmate for some sample states:
  • California - $47,000
  • Florida - $28,000
  • Illinois - $38,000
  • Michigan - $28,000
  • New Jersey - $55,000
  • New York - $60,000
  • Wisconsin - $38,000
The yearly cost per inmate in the federal prison system is $30,000.

We spend an astounding $63,000,000,000 per year to incarcerate prisoners. That’s a lot of money that isn’t going to teachers, police or reducing the national debt.

And what do we get when we spend this tax money on the extraordinary sentences that we give to Ponzi scheme perps? Ponder these sentences:
  • Bernie Madoff - 150 years
  • Marc Drier - 20 years
  • Alan Stanford - 110 years
  • Tom Petters - 50 years
  • Scott Rothstein - 50 years
  • Sam Israel - 20 years
  • Lou Pearlman - 25 years
  • Peter Lombardi - 20 years
  • Nicholas Cosmo - 50 years
The conventional wisdom is that incarceration serves three purposes. It prevents and deters the defendant from repeating the crime (special deterrence). It also deters others from committing the crime (general deterrence). And it punishes the crime (retribution).
Would the potential for even longer incarceration deter Ponzi scheme perps? The answer is that sociopaths like Ponzi scheme perps are not deterred by the potential of incarceration. Once convicted, two things deter their recidivism. First, while incarcerated, they can’t repeat the crime. Second, after release, they may be too notorious to dupe investors a second time even when they do try, although we have no reliable statistics on this point.

A much better way to deter Ponzi scheme perps is to educate our students and indeed ourselves on how to avoid them. For this, I certainly do commend Kathy’s wonderful new book, Ponzi-Proof Your Investments: An Investor’s Guide to Avoiding Ponzi Schemes and Other Fraudulent Scams. How many could be educated with the money saved from giving shorter prison sentences to Ponzi scheme perps?

In any event, nothing suggests that the present sentences have any deterrent effect. Kathy’s monthly roundup blogs summarize the news reports of the ongoing onslaught of Ponzi schemes.

Punishing Ponzi scheme perps is therefore the more important function of incarceration. In our system, the length of incarceration reflects the severity of the crime. This is the doctrine of proportionality. To demonstrate the disproportionality of Ponzi scheme perps’ sentences, these are the average sentences in 2011 for these violent crimes, according to the U.S. Department of Justice, Bureau of Justice Statistics:
  • Murder - 24 years
  • Kidnapping - 9 years
  • Rape - 14 years
  • Robbery - 8 years
  • Assault - 5 years
The average sentence for property crimes was 5 years.

The sentences given to the Ponzi scheme perps listed above - 20 to 150 years - are simply not proportionate to these sentences for violent crimes that involve physical injury or death. And that’s so even considering the amounts of money those perps have stolen, the numbers of their victims, and the devastation they have caused.

What if, instead, Ponzi scheme perps like Madoff and the others listed above receive shorter sentences (but still forfeit their assets) and have extended parole supervision in their home communities, where they would have to start their lives over with nothing and make their ways in society among their victims? Would that result in injustice? I don’t think so.

Announcing The Ponzi Scheme Blog’s JANUARY POLL

Posted by Kathy Bazoian Phelps
Cast your vote in this month’s poll. This one relates to how the government should assess fines against financial institutions that have participated in, failed to report suspicious activity in, or taken other action to assist in perpetuating a Ponzi scheme.
Specifically, the question is:
How should the dollar amount of fines for a bank's participation in a Ponzi scheme be determined?
For background purposes, let me recap the two largest such fines in the past few months levied in two of the more notorious Ponzi schemes:
  • JPMorgan tentatively agreed to pay $2 billion for involvement in Bernard Madoff scheme (total customer losses in Madoff are about $19.5 billion) 
  • TD Bank was assessed fines of $52.5 million for involvement in Scott Rothstein scheme (total victim losses in Rothstein are at least $500 million in the $1.4 billion scheme)
To get a flavor for the number of fines and the dollar amount of those fines assessed against financial institutions in all kinds of cases, see FinCEN’s report of fines in enforcement actions in all cases at http://www.fincen.gov/news_room/ea/, or the Office of the Controller of Currency website summarizing enforcement actions and fine amounts at http://apps.occ.gov/EnforcementActions/.

Here are the choices in the JANUARY POLL, but please feel free to post comments or email me any other ideas you have on how to calculate the dollar amount of the fines being assessed. Should those fines be:
     a. A percentage of the bank's profits from the scheme?
     b. A percentage of the bank’s annual net profits?
     c. An amount sufficient to pay all victim losses?
     d. Other?

Wednesday, January 1, 2014

Results of The Ponzi Scheme Blog’s DECEMBER POLL

Posted by Kathy Bazoian Phelps

The DECEMBER POLL asked the following question:

“Are prison sentences for Ponzi schemers the right length?”

The choices were:

     (a) Should be longer
     (b) Should be shorter
     (c) Are just right
     (d) Don’t know
The results were:
  • The overwhelming majority voted that prison sentences should be longer (80%).
  • A very small minority (only one vote) felt that prison sentences should be shorter (3%).
  • A somewhat larger percentage felt that sentences are just right (16%).
  • Nobody was uncertain about their opinion on this one!
To avoid investing in a Ponzi scheme in the first place, read about my new book Ponzi-Proof Your Investments: An Investor’s Guide to Avoiding Ponzi Schemes and Other Fraudulent Scams at www.ponzi-proof.com