You Can't Cheat an Honest Man - James Walsh [126]
These activities are relatively difficult to prove in connection with an honest corporate debt. So, as noted previously, courts don’t often nullify deals with creditors.
On the other hand, the three standards—particularly the first and third—do fit many of scenarios offered to Ponzi investors.So, courts more often use the fraudulent transfer theory to force investors who took money out of a Ponzi scheme in its last year to give it back.
There are other legal complications. A court can find a transfer fraudulent but choose not to nullify it. And, even if a court does nullify a transfer, it can choose not to force any judgment against the transferees. The fraudulent transfer statutes provide carefully crafted remedies and limitations on remedies.
Not every transferee is liable; for example, subsequent good faith transferees often have no liability.
Many courts dealing with these issues cite the 1985 federal court decision Johnson v. Studholme as a standard of basic fairness. In the wake of a failed Ponzi scheme, the receiver for the defunct Ponzi entities filed lawsuits against all those investors who had received amounts in excess of their contributions.
The Johnson court ruled that the investors had given value for the profits they’d received and, thus, had not received fraudulent conveyances. The court held that the capital contributions made by the investors and the risk that they could lose all or part of their investments had been their contribution.
“Unjust Enrichment” and Other Notions of Fairness
Many state have laws which prohibit “unjust enrichment”—or some similar activity. For example: To prevail on a cause of action in Illinois based on a theory of unjust enrichment, a burned investor must prove that the Ponzi perp has unjustly retained a benefit to the investor’s detriment—and that the perp’s retention of the benefit violates the principles of justice, equity, and good conscience.
Because of their broad language, these laws can be a useful tool for going after people who’ve taken money out of Ponzi schemes. However, courts don’t allow broad language to turn fairness upside down.
In one Illinois case, the receiver sifting through the wreckage of a commodities investment Ponzi scheme filed a suit which argued that fairness required a redistribution of the effects of the scheme “by recovering from those who received more than their investments and paying those who participated in the fraudulent investment schemes.”
However, to decide the question of fairness, the court noted it had to keep in mind whom the parties represent. It wrote:
The Receiver does not assert the rights or claims of any investors. Rather, the plaintiff stands in the shoes of [the Ponzi perp] and the various receivership entities. So, when asserting his equity claim, the Receiver cannot personally raise those equitable considerations of the later investors that lost their money.
The companies which were the “receivership entities” had been established to perpetrate fraud. Thus, to the extent that the receiver sought recovery in equity on behalf of the companies, “it is difficult to imagine a less deserving entity.”
The defendants in the case were “innocent investors” who had accepted their payments as legitimate returns on their investments. The court noted that the receiver had made no allegation that the defendants committed fraud or participated in the Ponzi scheme. “The evidence therefore supports the proposition that the defendants received these conveyances in good faith,” the court concluded.
If the investors had cited the “unjust enrichment” language in a suit against the receiver, the court might have been more inclined to agree. The “Special Status” of Ponzi Schemes
Transfers made as part of Ponzi schemes have achieved a special status in fraudulent transfer law. Proof of a Ponzi scheme is sufficient to establish the perp’s intent to defraud creditors for purposes of actually fraudulent transfers. As one federal appeals court noted:
The fraud consists of funnelling proceeds received from new investors to