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No. 10-10683-BB__________________________________________________________________
UNITED STATES COURT OF APPEALSFOR THE ELEVENTH CIRCUIT
__________________________________________________________________WILLIAM F. PERKINS, PLAN TRUSTEE FOR INTERNATIONAL
MANAGEMENT ASSOCIATES, LLCAppellant
v.AENA Y. HAINES, ET AL,
Appellees__________________________________________________________________
On Direct Appeal from the United States Bankruptcy Court for the Northern
District of Georgia, Atlanta Division__________________________________________________________________
BRIEF OF THE SECURITIES AND EXCHANGE COMMISSION, AMICUS
CURIAE, IN SUPPORT OF APPELLEES AND AFFIRMANCE OF THE
ORDER OF THE BANKRUPTCY COURT
__________________________________________________________________
DAVID M. BECKERGeneral Counsel
MARK D. CAHNDeputy General Counsel
JACOB H. STILLMANSolicitor
KATHARINE B. GRESHAMAssistant General Counsel
MORGAN BRADYLYONSAttorneySecurities and Exchange Commission
100 F. Street, NEWashington, DC 20549(202) 551-7926 (Bradylyons)
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William F. Perkins v. Haines, et al; Docket No. 10-10683-BB
CERTIFICATE OF INTERESTED PERSONS AND CORPORATE
DISCLOSURE STATEMENT
The Certificate of Interested Persons and Corporate Disclosure Statement
filed with the Brief of Appellant William F. Perkins, Plan Trustee for International
Management Associates, LLC, as supplemented by the Certificate of Interested
Persons and Corporate Disclosure Statement filed with the Brief of Defendants-
Appellees, should also include:
Becker, David M.
Cahn, Mark D.
Gresham, Katharine B.
Stillman, Jacob H.
C-1 of 1
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TABLE OF CONTENTS
Page
CERTIFICATE OF INTERESTED PERSONS AND
CORPORATE DISCLOSURE STATEMENT . . . . . . . . . . . . . . . . . . . . . . . . . . C-1
TABLE OF CITATIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . iii
INTEREST OF THE SECURITIES AND EXCHANGE COMMISSION . . . . . 1
STATEMENT OF THE ISSUES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
FACTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 4
SUMMARY OF ARGUMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
ARGUMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
The bankruptcy court correctly determined that the general
rule in Ponzi schemes applies whether an investment involves
equity or debt. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
A. Investors with equity interests in an entity
operated as a Ponzi scheme give value for transfers up
to the amount of principal invested for purposes of
the affirmative defense to a fraudulent transfer action. . . . . . . . . . . 9
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TABLE OF CONTENTS (Continued)
Page
B. Policy reasons support the view that there should be
no distinction between debt and equity in the context
of an action to recover principal payments in a Ponzi
scheme case. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 19
C. The Trustees arguments about the differences between
debt and equity are not persuasive in the Ponzi scheme
context. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22
CONCLUSION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
CERTIFICATE OF COMPLIANCE
CERTIFICATE OF SERVICE
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TABLE OF CITATIONS
CASES Page
Alexander v. Albright (In re Terry Manufacturing Co., Inc.),
Nos. 03-32063, 05-3050, 2007 WL 274319 (Bankr.
M.D. Ala. Jan. 25, 2007) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23-24
American Broadcasting Systems, Inc. v. Nugent
(In re Betacom of Phoenix,Inc.), 240 F.3d 823 (9th Cir. 2001) . . . . . . . . 22
*Barclay v. Mackenzie (In re AFI Holding, Inc.),
525 F.3d 700 (9th Cir. 2008) . . . . . . . . . . . . . . . . . . . . . . . . . . 10, 13-15, 20
Bayou Superfund, LLC v. WAM Long/Short Fund II, L.P.
(In re Bayou Group,LLC), 362 B.R. 624 (Bankr. S.D.N.Y. 2007) . . . 13, 20
Dicello v. Jenkins (In re International Loan Network, Inc.),
160 B.R. 1 (Bankr. D.D.C. 1993) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 17
*Donell v. Kowell, 533 F.3d 762 (9th Cir. 2008), cert. denied,
129 S. Ct. 640 (2008) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12-13, 16, 19-20
Eby v. Ashley, 1 F.2d 971 (4th Cir. 1924), cert. denied,
266 U.S. 631 (1925) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 15-16
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TABLE OF CITATIONS (Continued)
Page
Fisher v. Sellis (In re Lake States Commodities, Inc.),
253 B.R. 866 (Bankr. N.D. Ill. 2000) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
*Merrill v. Abbott (In re Independent Clearing House Co.),
77 B.R. 843 (D. Utah 1987) . . . . . . . . . . . . . . . . . . . . . . . . 10, 12, 17-18, 20
*Wyle v. C.H. Rider & Family (In re United Energy Corp.),
944 F.2d 589 (9th Cir. 1991) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 16-17, 24
STATUTES AND RULES
Bankruptcy Code, 11 U.S.C. 101, et seq.
Section 101(5)(A), 11 U.S.C. 101(5)(A) . . . . . . . . . . . . . . . . . . . . . . . . . 12
Section 101(12), 11 U.S.C. 101(12) . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Section 544(b)(1), 11 U.S.C. 544(b)(1) . . . . . . . . . . . . . . . . . . . . . . . . . . 10
Section 548, 11 U.S.C. 548 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 23
Section 548(a)(1)(A), 11 U.S.C. 548(a)(1)(A) . . . . . . . . . . . . . . . . . . 9-11
Section 548(a)(1)(B), 11 U.S.C. 548(a)(1)(B) . . . . . . . . . . . . . . . . . . . . . 10
Sections 548(a)(1)(B)(i)-(ii)(I), 11 U.S.C. 548(a)(1)(B)(i)-(ii)(I) . . . . . 10
Section 548(c), 11 U.S.C. 548(c) . . . . . . . . . . . . . . . . . . . 3, 5-6, 10-11, 13
Section 548(d)(2)(A), 11 U.S.C. 548(d)(2)(A) . . . . . . . . . . . . . . . . . 11-12
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TABLE OF CITATIONS (Continued)
Page
Bankruptcy Abuse Prevention and Consumer Protection Act of 2005,
Pub. L. No. 109-8, 1402(1), 119 Stat. 23 . . . . . . . . . . . . . . . . . . . . . . . . . 10
Sections 19 and 20 of the Securities Act of 1933, 15 U.S.C. 77s, 77t . . . . . . . . . . 1
Section 21 of the Securities Exchange Act of 1934, 15 U.S.C. 78u . . . . . . . . . . . . 1
Fed. R. App. P. 29(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2
Georgia Code Annotated
Ga. Code Ann. 18-2-73(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
Ga. Code Ann. 18-2-74(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Ga. Code Ann. 18-2-75(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Ga. Code Ann. 18-2-77(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Ga. Code Ann. 18-2-78 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Ga. Code Ann. 18-2-78(a) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Ga. Code Ann. 18-2-78(d) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
Ga. Code Ann. 18-2-79 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
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INTEREST OF THE SECURITIES AND EXCHANGE COMMISSION
The Securities and Exchange Commission is the agency principally
responsible for the enforcement of the federal securities laws and the protection of
the investing public. See Sections 19 and 20 of the Securities Act of 1933, 15
U.S.C. 77s, 77t; Section 21 of the Securities Exchange Act of 1934, 15 U.S.C.
78u. This appeal was taken from an order in the bankruptcy of International
Management Associates, LLC (IMA), denying partial summary judgment with
respect to fraudulent transfer actions brought by the Trustee, who had previously
been the receiver in a Commission securities fraud enforcement action against
IMA.
The Trustee is seeking to recover payments made to investors by IMA prior
to the collapse of IMA, which the Trustee alleges was operating a Ponzi scheme
through several affiliated hedge funds. As a general rule, innocent investors in
Ponzi schemes have a good faith-for value defense against fraudulent transfer
actions to recover their investment principal. The Trustee contends, however, that
because the IMA investors had worthless equity, rather than debt, interests in the
hedge funds, they cannot establish that they gave value for payments they
received. The bankruptcy court rejected the Trustees argument, holding that the
existence of a fraud claim arising from the investment, not the form of the
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investment, is the relevant consideration in determining if investors gave value.
(Order Den. Trustees Mot. for Partial Summ. J. 12, Dec. 1, 2009.) The Trustee
appealed.
The Commission submits this amicus curiae brief, pursuant to Fed. R. App.
P. 29(a), to address the important legal question raised by the Trustees appeal:
whether equity investors in a fraudulent scheme can establish that they gave
value in exchange for payments up to their principal amounts because they held
claims based on fraudulent inducement arising from their initial investment.
The answer to this question will have a significant impact on the treatment of
investors defrauded by Ponzi schemes purporting to offer equity investments.
The Commission believes that the Trustees view is contrary to long-
established legal principles governing the recovery of payments received by
investors prior to the collapse of a Ponzi scheme. Moreover, as a policy matter, it
should make no difference whether investors are defrauded by Ponzi schemes that
purport to offer debt securities or Ponzi schemes that purport to offer equity
securities.
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STATEMENT OF THE ISSUES
Section 548(c) of the Bankruptcy Code and similar state laws provide a
defense to fraudulent transfer actions to those who took for value and in good
faith. In the Ponzi scheme context, courts generally find that defrauded investors
gave value for transfers up to their principal amounts because the investors had
restitution or rescission claims that were satisfied to the extent of the transfers they
received. For the purposes of this appeal, it is assumed that the investor
defendants were fraudulently induced to invest as equity holders in a Ponzi
scheme and that they received transfers purportedly in exchange for tendering
their equity interests to IMA. The question presented is whether they gave value
for purposes of this defense.
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1/ The court entered a default judgment as to Wright after he failed to answer
the complaint, enjoining him from committing further violations andordering him to pay $17,019,510 in disgorgement, $2,786,399 in
prejudgment interest, and a $120,000 penalty.
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FACTS
A. The Commissions Enforcement Action
In February 2006, the Commission filed a complaint alleging a fraudulent
offering involving investments in a group of hedge funds run by promoter Kirk
Wright and two investment advisers he controlled International Management
Associates, LLC and International Management Associates Advisory Group, LLC.
1/ The complaint alleged that, over a period of about nine years, the defendants
raised approximately $150 million from about 500 investors in the hedge funds,
which were organized as limited liability companies and limited partnerships.
B. The Bankruptcy Filing and the Fraudulent Transfer Actions
A month after the Commission filed its complaint, IMA and its affiliated
funds filed voluntary petitions for relief under the Bankruptcy Code. Thereafter,
the Trustee filed 108 adversary proceedings in the bankruptcy court, seeking to
recover certain transfers made to investors in the form of the return of amounts
they had invested i.e., the principal of their investments and, in some cases,
purported profits, as fraudulent transfers under the Bankruptcy Code and
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2/ The Trustee has since dismissed or settled with some of the defendants.
3/ For the purposes of this appeal, it is assumed that Wright used IMA and itsaffiliated hedge funds to operate a Ponzi scheme at all material times.(Trustees Br. 6.)
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comparable state fraudulent transfer statutes. 2/ Under the liquidation plan
confirmed by the bankruptcy court in August 2008, it appears that the main assets
that would be available for distribution to the defrauded IMA investors are the
assets the Trustee hopes to recover through the fraudulent transfer actions.
The Trustee moved for partial summary judgment, seeking a ruling that,
assuming he were able to establish aprima facie case for the recovery of the
payments as fraudulent transfers, the investors could not assert a defense under
Section 548(c) of the Bankruptcy Code, 11 U.S.C. 548(c), and comparable state
law fraudulent transfer statutes, that they received the payments for value and in
good faith.
The general rule with respect to investors in Ponzi schemes is that good
faith investors give value, and can assert the Section 548(c) affirmative defense
to a fraudulent transfer action, for transfers up to the amount they invested, but not
for transfers of additional funds. 3/ The Trustee does not address whether the
investors had the requisite good faith; at this stage of the proceedings, he is
seeking a ruling that, as a matter of law, the investors did not give value and
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acquisition and use of funds through a fraudulent scheme, not the particular
manner in which the perpetrator carried it out. (Order 12.)
The bankruptcy court certified its order for direct interlocutory appeal by
the Trustee to this Court.
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SUMMARY OF ARGUMENT
The bankruptcy courts denial of the Trustees motion should be affirmed.
The bankruptcy court correctly concluded that there is no basis, simply because
the scheme in this case involved purported equity interests, for a result contrary to
the general rule in Ponzi schemes that good faith investors can retain transfers up
to the principal amounts they invested. The substance of a Ponzi scheme is the
fraud perpetrated on investors; the form of the so-called investment should not
be controlling. Further, in light of the hardship that would be inflicted on
defrauded investors if they were now forced to disgorge funds received years ago
and likely already spent, the equitable balance should be struck in favor of
allowing innocent investors to keep their principal amounts.
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ARGUMENT
THE BANKRUPTCY COURT CORRECTLY DETERMINED THAT THEGENERAL RULE IN PONZI SCHEMES APPLIES WHETHER AN
INVESTMENT INVOLVES EQUITY OR DEBT.
Investors in Ponzi schemes who become defendants in fraudulent transfer
actions are, as a general rule, deemed to have given value, for purposes of the
defense to a fraudulent transfer action, for any payments they received prior to a
bankruptcy or receivership that represent a return of the initial amount they
invested. The Trustees view that there should be a different rule for equity
investments finds no support in the extensive case law addressing Ponzi schemes.
This view is also at odds with the Commissions policy of generally not seeking
recovery of investment principal received by innocent investors in Ponzi schemes.
The policy arguments advanced by the Trustee in support of his position did not
convince the bankruptcy court and should similarly fail to persuade this Court.
A. Investors with Equity Interests in an Entity Operated as a PonziScheme Give Value for Transfers Up to the Amount of Principal
Invested for Purposes of the Affirmative Defense to a FraudulentTransfer Action.
Under Section 548(a)(1)(A) of the Bankruptcy Code, a trustee may avoid
any transfer made within two years before the filing of a bankruptcy petition if the
debtor made the transfer with actual intent to hinder, delay, or defraud any entity
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4/ The time period was extended from one year to two years by the BankruptcyAbuse Prevention and Consumer Protection Act of 2005, Pub. L. No. 109-8, 1402(1), 119 Stat. 23, but the extension was made applicable only to
bankruptcy cases that commenced more than one year after April 20, 2005.IMA filed for bankruptcy relief on March 16, 2006.
5/ The concept of value is material to both the Section 548(c) defense andthe Trustees claim for recovery of payments as constructively fraudulent
transfers. SeeMerrill v. Abbott (In re Indep. Clearing House Co.), 77 B.R.843, 861 (D. Utah 1987) (en banc) (in examining a defendants Section548(c) defense, the court explained that [t]he extent to which a defendant
gave value for a particular transfer is essentially the flip side of thequestion we have already discussed ... [] namely, whether the debtorreceived a reasonably equivalent value in exchange for the transfer).
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to which the debtor was ... indebted. 11 U.S.C. 548(a)(1)(A). 4/ The existence
of a Ponzi scheme is sufficient to establish that a transfer was made with the
requisite fraudulent intent. Barclay v. Mackenzie (In re AFI Holding, Inc.), 525
F.3d 700, 704 (9 Cir. 2008). Under Section 548(a)(1)(B) of the Bankruptcyth
Code, a trustee may avoid any transfer made within two years before the filing of a
bankruptcy petition if the debtor received less than a reasonably equivalent value
in exchange for such transfer or obligation; and ... was insolvent on the date that
such transfer was made[.] 11 U.S.C. 548(a)(1)(B)(i)-(ii)(I). 5/ Section
544(b) of the Code allows trustees to bring actions under state law, which
typically provides longer reach-back periods. 11 U.S.C. 544(b)(1). The Trustee
is seeking to avoid transfers to the investors under both the Bankruptcy Code and
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6/ A transfer or obligation is not voidable under [the Georgia Code provisioncomparable to 11 U.S.C. 548(a)(1)(a)] against a person who took in good
faith and for a reasonably equivalent value or against any subsequenttransferee or obligee. GA.CODE ANN. 18-2-78(a); Notwithstandingvoidability of a transfer or an obligation under this article, a good faith
transferee or obligee is entitled, to the extent of the value given the debtorfor the transfer or obligation, to: (1) A lien on or a right to retain any interestin the asset transferred [.] GA.CODE ANN. 18-2-78(d).
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the fraudulent transfer provisions of the Georgia Code, which have a four-year
statute of limitations. SeeGA.CODE ANN. 18-2-74(a), 18-2-75(a), 18-2-77(a),
18-2-79.
The Trustee asks this Court to rule that the investors cannot assert the good
faith-for value defense under the Bankruptcy Code and comparable state law
fraudulent transfer statutes because they did not provide value for the transfers
they received. Section 548(c) of the Code provides, in pertinent part, that a
transferee ... that takes for value and in good faith ... may retain any interest
transferred ... to the extent that such transferee ... gave value to the debtor in
exchange for such transfer or obligation. 11 U.S.C. 548(c). See also GA.CODE
ANN. 18-2-78. 6/
Value for the purposes of this defense to a fraudulent transfer action
includes the satisfaction ... of a present or antecedent debt of the debtor[.] 11
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which arose when they bought the modules, regardless of whether there existed a
contractual right to the return of principal. Id. at 595-96.
Even when courts find that a payment in a Ponzi scheme case was on
account of a contractual arrangement, they often make clear that a restitution claim
is also available to support the finding that the defendant in a fraudulent transfer
action gave value for the transfer. See Dicello v. Jenkins(In re Intl Loan
Network, Inc.), 160 B.R. 1, 12 (Bankr. D.D.C. 1993) ([f]rom the time a defendant
entrusted money to ILN, ILN was indebted to that defendant for the amount of his
investment[;] [t]his debt arose either as the result of a contractual obligation or the
defendants right to restitution) (emphasis added, footnote omitted);Indep.
Clearing House, 77 B.R. at 857 ([w]e believe that the Codes definition of debt
and its related terms is broad enough to cover the debtors obligation to return a
defendants principal undertaking, whether that obligation was based on the
contract between the debtors and the defendant or was based on the defendants
right to restitution) (emphasis added). Significantly, theIndependent Clearing
House court went on to emphasize that the defendants contract claims were not
critical to its decision:
If there was not a valid contract between the debtors and a defendant,before the transfer the defendant would have had a claim forrestitution, to prevent the debtors unjust enrichment. If there was a
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valid contract that gave the defendant an equity interest in thedebtors business, as the trustee contends, the defendant would stillhave had a right to restitution if the debtors fraud induced him toenter into the contract.
Id. at 857 n.24 (citation omitted).
Finally, the Trustees argument against what he refers to as transmutation
without articulation his shorthand for the bankruptcy courts deeming the
payment on account of an equity interest to be payment in satisfaction of a fraud
claim that was neither asserted nor proven is undermined by the numerous cases
that, as the Trustee acknowledges, fully recognize the claims for restitution and
rescission of defrauded investors, regardless of the fact that the defrauded
investors had neither asserted nor proven their fraud claims at the time of the
subject transfers. (Trustees Br. 46-47.)
In support of his argument, the Trustee contends that it is well-established
that any claimant must both provide notice of a claim and articulate the basis for
the claim. (Trustees Br. 47.) But, if receiving the payment were conditioned on
asserting the fraud claim, the investor would necessarily be aware of the
fraudulent nature of the investment and thus would be unable to establish the
good faith required for the affirmative defense. There is no reason for this Court
to reject the longstanding analysis that allows an innocent investor in a Ponzi
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scheme who receives a payment that returns principal before the scheme collapses
to assert the defense that the payment was received in good faith and for value.
Moreover, the Trustees concerns about principles of notice and due process
are present regardless of whether the unasserted claim is for equity or debt.
Applying the general rule means that any innocent investor, whether the
investment is debt or equity, who gets his principal back before the bankruptcy or
receivership is favored over an investor who does not. The Trustees response,
that the transmutation from equity to debt is somehow more problematic than
the transmutation from debt to another form of debt, is both inconsistent with
the case law that recognizes that defrauded equity investors have fraud-based debt
claims at the time of the subject transfers and not relevant in the Ponzi scheme
context, as discussed infra, pp. 22-24.
B. Policy Reasons Support the View that There Should Be NoDistinction Between Debt and Equity in the Context of anAction To Recover Principal Payments in a Ponzi Scheme Case.
There is no compelling reason why innocent investors who have what are
purported to be debt interests in a Ponzi scheme should be allowed to keep
principal amounts while innocent investors who have what are purported to be
equity interests should not. Commission enforcement actions against perpetrators
of Ponzi schemes involve a variety of investments, including notes (e.g.,Donell,
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supra) and equity interests (e.g., AFI Holding,supra;Bayou Group, LLC,supra).
Investors suffer the same harm regardless of the form the purported investment
takes and the availability of the good faith-for value defense to a fraudulent
transfer action should not depend on the happenstance of how the fraudster
chooses to pitch the investment.
Consistent with the general rule, innocent investors who redeem their
investments before a Ponzi scheme collapses generally should not be liable for the
return of principal amounts. This result reflects a balancing of interests. On the
one hand, in an appropriate case, a bankruptcy trustee or a receiver in a
Commission action can bring an action to recover fictitiousprofits. This is so
even though it may create a significant hardship when an innocent investor ... is
informed that he must disgorge profits he earned innocently[.] Donell, 533 F.3d
at 776. In contrast, in most cases, the disruption to an innocent investor who has
only gotten back the money he or she invested goes too far. SeeIn re Indep.
Clearing House, 77 B.R. at 887 ([t]he ideal solution, of course, would be for all
undertakers to get back their original undertaking. But that solution presupposes
that the original undertakings are still around to be gotten back, and it is clear that
they are not).
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11/ In asserting such equitable disgorgement claims, the Commission may incertain circumstances seek to recover payments of principal, especiallywhen the payments are made to insiders or other favored investors.
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Similar considerations arise when the Commission asserts equitable
disgorgement claims in its enforcement actions against relief defendants who have
not themselves committed violations of the federal securities laws. The
Commissions policy is that innocent investors who recover their initial
investments before a Ponzi scheme collapses generally should not be liable for the
return of principal. 11/
While there is arguably some merit to the Trustees view that fairness to all
investors favors the recovery of money received by earlier investors so that it can
be distributedpro rata, this consideration is outweighed by the hardship that
would be inflicted on individual investors forced to return principal payments
received in good faith. These are not payments for fictitious profits that, in a
Ponzi scheme with no legitimate earnings, necessarily come from the money other
investors contributed to the investment pool. Rather, principal amounts represent
a return of the investors own contributions to the investment pool. The
application of the principle that such investors are entitled to keep the amounts
they invested should not turn on an illusory distinction between an investment in a
Ponzi scheme structured as debt and a similar investment structured as equity.
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C. The Trustees Arguments about the Differences Between Debtand Equity Are Not Persuasive in the Ponzi Scheme Context.
The policy reasons that generally underlie the priority of debt over equity in
bankruptcy do not apply in the context of a fraudulent transfer action involving a
Ponzi scheme. In a real business enterprise, creditors rely on the distinction
between debt and equity. See Am. Broad. Sys., Inc. v. Nugent (In re Betacom of
Phoenix, Inc.), 240 F.3d 823, 829 (9 Cir. 2001) (Shareholders expect to taketh
more risk than creditors in return for the right to participate in firm profits. The
creditor only expects repayment of a fixed debt. It is unfair to shift all of the risk
to the creditor class since the creditors extend credit in reliance on the cushion of
investment provided by the shareholders.). In the bankruptcy of an entity
operated as a Ponzi scheme, however, the most significant claims are generally
those of the defrauded investors, as opposed to those of ordinary trade creditors.
Thus, while fraudulent transfer actions against equity holders in the context
of a typical bankruptcy involving a legitimate enterprise would likely serve to
redistribute assets from equity holders to creditors, in a Ponzi scheme, reallocation
is primarily among investors of the same class. As the bankruptcy court observed,
in a Ponzi scheme the fraudulent transfer laws, for the most part, result in an
alteration of the distribution of assets among the defrauded victims. (Order 11.)
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Reliance on the principle that creditors have priority over equity holders does not
make sense in this situation.
The Trustees arguments about the distinctions between debt and equity are
also inapposite in the Ponzi scheme context because of the nature of the value
deemed to be given by investors to the debtor for purposes of the defense to a
fraudulent transfer action. Because courts interpret this value to be the
satisfaction of a claim for restitution or rescission, as opposed to the debt or equity
interest itself,see discussion,supra, pp. 9-19, the nature of the underlying
instrument is not relevant.
The Trustee relies heavily on the Terry Manufacturingcase to support his
arguments about the differences in treatment accorded to debt as compared to
equity. Alexander v. Albright (In re Terry Mfg. Co., Inc.), Nos. 03-32063, 05-
3050, 2007 WL 274319, at *1 (Bankr. M.D. Ala. Jan. 25, 2007). Terry did not
involve a Ponzi scheme. Instead, the case involved shareholders of a bankrupt
company formerly run by two dishonest businessmen. Terry, 2007 WL 274319,
at *2. In response to the trustees attempt to recover certain dividends as
fraudulent conveyances under 11 U.S.C. 548 and Alabama state law, id. at *1,
the shareholders claimed that they had been defrauded by the company and its
principals and that the dividends they had received satisfied, in part, the restitution
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obligations owed to them. Id. at *5. The court dismissed the restitution argument,
citing, among other reasons, the lack of precedent for the recharacterization of
dividends as payments in satisfaction of a debt. Id. at *7. The court cautioned
that, [i]f that were the case, in almost every corporate bankruptcy involving fraud,
shareholders could advance their status and recharacterize their equity interests as
unsecured claims sharing equally in the assets with the holders of unsecured
claims. Id. This argument highlights why Terry is inapposite to the Ponzi
scheme at issue. The IMA dispute primarily involves the distribution of assets
among defrauded investors, not between creditors and equity holders.
Finally, the Trustees arguments about equitable distribution are out of place
in the context of a fraudulent transfer action. Unlike preference actions, which are
intended to promote equality of distribution, fraudulent transfer actions are
intended to ensure that the estate is not diminished. See United Energy, 944 F.2d
at 597 (the policy behind section 548 is to preserve the assets of the estate).
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CONCLUSION
For the foregoing reasons, the bankruptcy court correctly determined that
the investors gave value for purposes of the fraudulent transfer laws to the
extent that they received payments up to the amount of principal invested, and the
order of the bankruptcy court should therefore be affirmed.
Respectfully submitted,
DAVID M. BECKERGeneral Counsel
MARK D. CAHNDeputy General Counsel
JACOB H. STILLMANSolicitor
KATHARINE B. GRESHAM
Assistant General Counsel
/s/ Morgan Bradylyons
MORGAN BRADYLYONSAttorney
Securities and Exchange Commission100 F. Street, NEWashington, DC 20549(202) 551-7926 (Bradylyons)
July 8, 2010
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CERTIFICATE OF COMPLIANCE
I hereby certify that this brief complies with the type-volume limitations of
Fed. R. App. P. 29(d) because this brief contains 5340 words, excluding the
Certificate of Interested Persons and Corporate Disclosure Statement, Table of
Contents, Table of Citations, Certificate of Compliance, and Certificate of Service.
I also certify that this brief complies with the typeface requirements of Fed.
R. App. P. 32(a)(5) and the type style requirements of Fed. R. App. P. 32(a)(6)
because this brief has been prepared in a proportionally spaced typeface using
WordPerfect 11 in 14 point Times New Roman type.
/s/ Morgan Bradylyons MORGAN BRADYLYONSSecurities and Exchange Commission
July 8, 2010
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CERTIFICATE OF SERVICE
I hereby certify that on July 8, 2010, I caused seven paper copies and one
electronic copy of the Brief of the Securities and Exchange Commission, Amicus
Curiae, to be served via UPS overnight delivery on the Clerk of the Court of
Appeals for the Eleventh Circuit. I certify further that on that same date I caused
one paper copy of the brief to be served via UPS overnight delivery on the
following parties:
John W. Mills, Esq.Colin Bernardino, Esq.Kilpatrick Stockton1100 Peachtree St.Suite 2800
Atlanta, GA 30309
Mark S. Kaufman, Esq.Brian E. Bates, Esq.McKenna Long & Aldridge LLP303 Peachtree St. NE, Suite 5300Atlanta, GA 30308
Paul M Spizzirri, Esq.Spizzirri Law Offices1170 Peachtree St., Suite 1200Atlanta, GA 30309
Sharon M. Lewonski, Esq.Epstein, Becker & Green, P.C.945 East Paces Ferry Rd., Suite 2700Atlanta, Georgia 30326
Jonathan H Fain, Esq.Jonathan H. Fain and Assoc., PC66 Lenox PointeAtlanta, GA 30324
Robert J. Mottern, Esq.Investment Law Group of Gillett,Mottern & Walker1230 Peachtree St., Suite 2445
Atlanta, GA 30309
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Thomas M. Byrne, Esq.Angela R. Fox, Esq.Sutherland Asbill & Brennan LLP999 Peachtree St., NE
Atlanta, Georgia 30309-3996
Sblend A. Sblendorio, Esq.Catosha L. Woods, Esq.Hoge Fenton Jones & Appel, Inc.4309 Hacienda Dr., Suite 350
Pleasanton, CA 94588
Gregory T. Bailey, Esq.571 Culberson StreetAtlanta, GA 30310
Christopher D. Phillips, Esq.Lamberth, Cifelli, Stokes, Ellis &
Nason, P.A.
3343 Peachtree Rd. NE, Suite 550Atlanta, GA 30326
Kevin A. Stine, Esq.
Joshua Tropper, Esq.Baker, Donelson, Bearman,Caldwell & Berkowitz, P.C.1600 Monarch Plaza3414 Peachtree Rd. NEAtlanta, GA 30326
Timothy Mungovan
Jonathan SabloneLee HarringtonJoshua Barlow
Nixon Peabody LLP100 Summer St.Boston, MA 02110
Heather D. Brown, Esq.Mark A. Kelley, Esq.
Kitchens, Kelley, Gaynes, P.C.Eleven Piedmont Center - Suite 900
3495 Piedmont Road NEAtlanta, GA 30305
William R. Lester, Esq.Fryer, Shuster & Lester, P.C.
1050 Crown Pointe Pkwy., Suite 410Atlanta, GA 30338
James K. Knight, Jr., Esq.401 Atlanta St.
Marietta, GA 30060
/s/ Morgan Bradylyons
MORGAN BRADYLYONS
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