​The Madoff Loss Game: Will Some Charity and Other Stakeholders Become Even Bigger Losers as a Result of One District Judge’s Analysis – Installment 20

December 21, 2009Articles White Collar Defense & Compliance Blog

This is the twentieth in a series of installments on this blog that are discussing some issues arising in the aftermath of the long global Ponzi scheme of Bernard L. Madoff (“Madoff”). Installments 3 through 8, Installment 10 and Installments 14 through 19 of this series focused on the specific concerns of charities that were victims of Madoff and similar schemes. All potential stakeholders should consult professional advisors to have their positions evaluated.

On December 15, 2009, United States District Court Judge Paul S. Diamond for the Eastern District of Pennsylvania raised serious questions in the case of the Securities and Exchange Commission (“SEC”) et. al. v. Forte, regarding limitations on recoveries from those who received distributions in Ponzi schemes like that of Madoff. Specifically, Judge Diamond questioned the position of the SEC and the Commodity Futures Trading Commission (“CFTC”) that “clawback” from early investors in Ponzi schemes was limited to the illusory “profits” but not the principal that such investors had recovered. In analyzing the impact of the Pennsylvania Uniform Fraudulent Transfer Act (“PUFTA”) in a lengthy Memorandum Opinion, Judge Diamond observed,

The SEC and CFTC have apparently adopted a nationwide policy that there can be no recovery of principal from winning Ponzi scheme investors even when the investors should have seen “red flags” alerting them to the true nature of their “investments.” . . . Accordingly, it could well be more equitable and legally supportable for the SEC and the CFTC to support . . . as PUFTA provides, [to file] suit to recover the entire fraudulent transfer from all . . . net winners - both the profits and the principal.

The position of Judge Diamond may be starkly contrasted to statements made on October 27, 2009, by Irving Picard, the trustee in the Madoff liquidation proceeding. During the course of the questioning by reporters, the “clawback” issue was raised and the following response was given by Mr. Picard, as previously reported in Installment 18 of this series:

At the moment, as I indicated of the accounts that were active at the end of last December, there were 2,568 accounts that received more than was deposited. . . . That’s an area that we are looking at. . . . No final decisions have been made; it’s a matter that again, over a period of the next six to eight or nine months, we’re going to be taking a very close look and, quite frankly, those will be looked at virtually on an individual basis before we make some final decisions. . . if we determine that that’s a matter that we’re going to pursue, then we will pursue them for what we believe is the appropriate amount that we should be seeking from them.

It is noteworthy that Mr. Picard simply assumed that he would be limiting recovery efforts from “winners” to their excess distributions but not to the principal that these winners would have recovered in full. He did not address at all in his response whether he will pursue the widely-publicized “profits” from investing with Madoff that have been reported for some charities like Hadassah, as discussed in Installment 14 of this blog series. If Judge Diamond’s position were to be followed in the Madoff proceeding, the result could be to expose such charities to millions of dollars more in potential “clawback.”

Mr. Picard interestingly went even further in his statements regarding pursuit of “winners” than the SEC and CFTC. He has indicated that he will pick and choose among the winners, depending on currently unstated individual qualitative and quantitative standards that may have no firm legal basis.

It is clear that the Madoff case will continue to create controversy and new law as it unfolds.

[To be continued in Installment 21]