Trustee Picard on the Losing End of Clawback Lawsuits

Unless you’ve been living on a remote island since December, 2008 where communication with the outside world is difficult, and if so please pass along the details, Bernie Madoff was arrested on December 11, 2008 in the largest Ponzi scheme ever devised. In March 2009, Madoff pleaded guilty to 11 federal felonies and admitted to turning his wealth management  business into a massive Ponzi scheme that defrauded thousands of investors of about $65 billion. The irony is, if Madoff  hadn’t faced $7 billion in redemptions, the Ponzi scheme might not have been discovered. On June 29, 2009, he was sentenced to 150 years in prison, the maximum allowed.

Perhaps you saw Madoff’s wife and son on 60 Minutes a week ago. Talk about a woman in denial. She looked like she had just taken a dose of Propofol. It’s hard to feel sorry for members of the family who deny any knowledge of the fraud. “Burying your head in the sand" is not a defense to standing by as thousands of investors lose billions of dollars, many their life savings.

Irving Picard was appointed the trustee to unravel Madoff’s finances. The trustee has filed about 1,000 lawsuits worth some $100 billion against individuals and companies accused of profiting from Madoff's scheme including multibillion-dollar lawsuits against  mega financial firms JP Morgan, UBS nad HSBC. That's five times the $20 billion that Madoff is believed to have cheated from his clients while masquerading as an investment firm. Ironically among those sued was Madoff’s son Mark, who hung himself in his Manhattan apartment on the same day, the two-year anniversary of his father’s arrest. "Mark Madoff  had made it clear that he felt his family ... would be better off without 'this' hanging over them all, forever," a source told the NY Daily News.

The basis for the “clawback” lawsuit is that some investors profited handsomely from Madoff’s scheme gaining large returns while others lost everything. The suits aim to force those who profited by the “ill-gotten gains” to return these amounts for distribution to the losers.

For those of you sports fans out there, Picard also sued the owners of the New York Mets baseball team for the return of profits earned from their Madoff investments. Mets owners Fred Wilpon and Saul Katz and associated individuals and firms, received $300 million from the scheme according to the lawsuit. Wilpon and Katz have "categorically rejected" the charges.

Helen Chaitman of Becker & Poliakoff represents more than 300 investors who had accounts with Bernard Madoff. For more than two years she’s hammered away at one particular argument in federal bankruptcy court, in Congress, even on YouTube: Madoff bankruptcy trustee Irving Picard of Baker & Hostetler shouldn’t be allowed to demand the return of profits that Madoff investors pulled out of their accounts as long ago as 2002, six years before the Ponzi scheme imploded in December 2008. Two weeks ago, Chaitman finally found vindication, even though it wasn’t in any of her cases. Manhattan federal judge Jed Rakoff, ruling in Picard’s fraud case against the owners of the New York Mets, concluded that a section of the federal bankruptcy code precludes Picard from attempting to claw back money Madoff investors pulled out of the Ponzi scheme before 2006.

The decision is a boon to the Mets owners. The judge left standing only one of Picard’s fraud counts against the Mets, limiting the Madoff trustee’s potential recovery to no more than $386 million, rather than the nearly $1 billion in principal and profits Picard wanted. Moreover, for Picard to get his hands on any of the Mets owners’ principal, he will have to prove they were “willfully blind,” a prospect Judge Rakoff doesn’t seem to consider very likely. “This is something I’ve been saying from the beginning,” Chaitman said. “Anyone who didn’t withdraw their money in the last two years…is out completely.”

On November 2, a federal judge threw out most of a $19.9 billion lawsuit against JPMorgan Chase & Co and a $2 billion case against UBS AG. According to the ruling, Picard lost the right to demand $19 billion in damages from JPMorgan, for victims of Madoff's fraud. The decision by U.S. District Court Judge Colleen McMahon in Manhattan is one of the largest setbacks for the trustee, Irving Picard, who has spent nearly three years liquidating Bernard L Madoff Investment Securities LLC. On November 10, Picard asked for an expedited appeal of her ruling to finally determine his claims were viable. “Permitting an immediate appeal would provide much-needed finality for the trustee and the BLMIS estate as to the viability of these claims,” he said, asking her to enter a final judgment in the case, which will make it easier for him to appeal her ruling. BLMIS refers to Madoff’s firm.

Perhaps in the most unfair ruling on October 27, Madoff’s family would keep about $82 million of “other investors’ money” under a ruling that limited a bankruptcy trustee to claiming from the owners of the Mets only two years of withdrawals from the Ponzi scheme, according to a court filing.

Madoff’s family took out $141 million in the six years before Madoff’s firm went bankrupt in 2008, of which less than $59 million was taken in the two years before the bankruptcy, trustee Picard said in a filing. Many other investors are trying to hang onto “stolen” money that belongs to customers who took losses in the fraud, he said.

In a previous blog I pointed out that while it may seem clear that clawback suits are the right thing to do, there are ethical issues that should be considered. If the investors did not know the returns were based on fraudulent activities, should they be penalized? What if the investors used their returns to invest in the stock market and lost everything in the meltdown, should this be taken into consideration in deciding whether to file clawback suits against them and how much should be redistributed? What is the key ethical principle that should guide trustee Picard’s actions? It would seem to be fairness. That is, the losses should be spread proportionately to investors who lost all their money and those who received some returns. Fairness provides that equals should be treated equally; unequals, unequally. Of course, the devil is in the details.

Blog posted by Steven Mintz, aka Ethics Sage, on November 16, 2011