Ponzi Schemes

If the SEC Misses the SOL, It’s SOL (Sorry, Out of Luck) – District Court Holds Statute of Limitations Is Jurisdictional and Applies to SEC Disgorgement and Injunctive Relief Requests

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The SEC suffered a blow very recently when Judge James Lawrence King of the U.S. District Court for the Southern District of Florida entered summary judgment  dismissing the entirety of its alleged Ponzi scheme case on statute of limitations grounds.  SEC v. Graham, 2014 WL 1891418 (S.D. Fla. May 12, 2014).  The court’s order is a significant application of last year’s Supreme Court decision in Gabelli v. SEC, 133 S. Ct. 1216 (2013), in that (i) it applies the applicable statute of limitations to sanctions that have usually been considered equitable, rather than punitive, in nature; and (ii) it holds that the applicable statute of limitations is a jurisdictional threshold on which the SEC bears the burden, not an affirmative defense on which the defendant bears the burden.

In Graham, the SEC alleged that five defendants defrauded nearly 1,400 investors of more than $300 million by marketing unregistered securities as real estate investments and guaranteeing an immediate 15% profit and future rental revenue on certain resort properties.  According to the SEC, the defendants were using the new deposits to pay earlier investors in a classic Ponzi-scheme.  After the defendants abandoned their efforts with the collapse of the real estate and credit markets in 2007, the SEC embarked on a seven-year investigation, and ultimately brought suit in January of 2013.  The SEC alleged five counts of violations of federal securities laws, and sought not only civil penalties but also injunctive relief and disgorgement of all ill-gotten gains.  The defendants moved for summary judgment on the ground that the five-year statute of limitations under 28 U.S.C. § 2462 time-barred all of the SEC’s claims.  Section 2462 states, “Except as otherwise provided by Act of Congress, an action, suit or proceeding for the enforcement of any civil fine, penalty, or forfeiture, pecuniary or otherwise, shall not be entertained unless commenced within five years from the date when the claim first accrued ….”

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Supreme Court Narrows the Scope of SLUSA Preemption, Green-Lighting State Law Class Action Claims Alleging Ponzi Scheme

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On February 26, 2014, the U. S. Supreme Court (“the Court”) held that the Securities Litigation Uniform Standards Act of 1998 (“SLUSA”) did not preclude Stanford Ponzi scheme plaintiffs’ state-law class action claims because the claims did not involve covered securities.  The 7-2 majority opinion in Chadbourne & Parke, LLC v. Troice was written by Justice Breyer, joined by Justices Kagan, Sotomayor, Ginsburg, Scalia and Chief Justice Roberts.  Justice Thomas concurred, and Justices Kennedy and Alito dissented.

The Court’s decision is significant because it resolves a long-standing circuit split over the interpretation of the “in connection with” requirement in SLUSA.  As a result of the decision, plaintiffs may increasingly bring state law claims based on investment vehicles that are not covered securities themselves but whose performance implicates or is backed by covered securities.  Investment managers and entities that market such investments, as well as lawyers and accountants, may face an increased risk of liability as a result of this decision. READ MORE →

A Ponzi of A Different Color

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Cuffed Hands

High profile schemes perpetrated by Bernie Madoff, Allen Stanford, Nevin Shapiro, and others have brought, or at least reinforced, a general understanding of the term “Ponzi scheme” into the public lexicon.  But what, legally, is a Ponzi scheme?  In SEC v. Management Solutions, Inc., 2013 WL 4501088 (D. Utah Aug. 22, 2013), Judge Bruce Jenkins endeavored to answer that question and, in the process, authored an encyclopedic account of the term and key court opinions, from seven federal circuits, that have construed it.

Management Solutions was an SEC enforcement action against a father-and-son team that had allegedly raised over $200 million through a “classic Ponzi scheme.”  According to the SEC’s complaint, investors in the scheme were sold “membership interests” in an apartment-flipping business and were guaranteed a return of five to eight percent.  In reality, the funds were allegedly deposited into a general account and were used to pay a variety of expenses, including returns to other investors.  Each of the defendants in the SEC case settled without admitting or denying the allegations.

A hearing was held in 2013 to determine whether, as argued by the court-appointed receiver, the scheme was properly classified as a “Ponzi scheme” and, if so, at what point that designation became applicable.  The receiver sought such a finding in order to obtain the so-called “Ponzi presumption,” which is sufficient to establish actual intent to defraud.  READ MORE →

Another Securities Case for the Supreme Court. Next Up: Ponzi Scheme Cases

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Agreeing to take up yet another securities case, the Supreme Court granted cert on January 18 in three related appeals arising out of the alleged multi-billion dollar Ponzi scheme involving R. Allen Stanford’s Stanford International Bank. The Court’s decision in this case will likely resolve a circuit split over the scope of the preclusion provision of the Securities Litigation Uniform Standards Act (SLUSA).

Congress passed SLUSA in 1998 because plaintiffs were bringing class actions in state court to get around the tough pleading standards and other limitations imposed by the Private Securities Litigation Reform Act of 1995. SLUSA precludes state law class actions involving misrepresentations made “in connection with” the purchase or sale of a security covered under SLUSA. Lower courts have struggled with the meaning of those three words: “in connection with.” If a state court case has anything at all to do with securities, will it fail?How closely must a claim relate to the sale of covered securities before SLUSA bars state law remedies? The Supreme Court is about to weigh in on these questions.

In the Stanford ponzi scheme cases, the plaintiffs are investors who purchased CDs issued by Stanford International Bank. The investors asserted claims against third-party advisors (including law firms and an insurance broker) under Texas and Louisiana law, alleging that the investors were duped into believing the CDs were backed by safe securities. Although the CDs themselves were not securities covered by SLUSA, the third-party advisors argued that SLUSA nevertheless barred the state law claims because the alleged misrepresentations related to the SLUSA-covered securities that purportedly backed the CDs. The district court agreed, dismissing the actions. But the Fifth Circuit reversed the district court, holding that the alleged fraudulent scheme was only “tangentially related” to the trading of securities covered by SLUSA. The Fifth Circuit agreed with the Ninth Circuit that misrepresentations are not made “in connection with” sales of SLUSA-covered securities when they are only “tangentially related” to those sales. This means the Fifth and Ninth Circuits are at odds with the Second, Sixth, and Eleventh Circuits, which have all adopted broader views of SLUSA’s preclusion provision.

The third-party advisor defendants asked the Supreme Court to resolve the split, and the Supreme Court agreed, given that the circuit split threatensinconsistent outcomes in some of the biggest, mostcomplex, and multi-layered securities cases. The Court’s resolution will likely go a long way towards defining the role of state courts in adjudicating important class actions relating to securities issues.