New Hampshire Will Use Taxpayer Funds To Compensate Victims of $33 Million Ponzi Scheme

““Number one, the economy is going well…This situation is something that never should have happened. The fact that we had the revenue coming in as it has, it is the due diligence of the state to take care of this.”

• New Hampshire Senator Gary Daniels

Ten years after the man responsible for New Hampshire’s largest Ponzi scheme surrendered to serve a 15-year prison sentence, the New Hampshire state legislature has approved allocating $10 million of taxpayer dollars from the state’s budget to be used to compensate victims of that Ponzi scheme. Scott Farah, the former owner of Financial Resources Mortgage, Inc. (“FRM”), is currently serving the sentence that was handed down after he pleaded guilty to fleecing investors out of $33 million. His arrest, however, rocked the New Hampshire government and ultimately resulted in a report from the state’s top criminal prosecutor that pointed to a number of red flags that were not identified or were otherwise ignored by a number of state agencies responsible for regulating FRM. While this is at least the third attempt to find a solution to compensate victims for what some attribute to the state’s regulatory failings, this is the first time that taxpayer funds have been tapped to fund the anticipated compensation. The move is sure to be cheered by Farah’s victims, who have received little of their losses, but also raises questions as to whether states should use taxpayer funds to compensate victims of Ponzi schemes.

The Scheme

Farah operated FRM and advertised the company as a residential and commercial mortgage brokerage and lending business. Another company, C L and M, Inc. (“CLM”), was a purported commercial loan servicer that was owned by Donald Dodge and worked closely with FRM. Beginning in 2005, Farah and FRM raised money from investors who thought they were investing in loans that would be used to fund commercial real estate projects and other businesses. One of the main methods used to target prospective investors was the mailing of postcards to a list of private mortgage lenders that had been purchased from a commercial database company, with the postcards touting the promised high-interest annual returns ranging from 12% to 20%. Investors were not told that a number of the loans structured by Farah and FRM were defaulted on by the borrowers; instead, CLM - the servicer - would continue to pay out the promised interest out of commingled bank accounts containing investor funds. Investor funds were also used for a number of other unauthorized purposes, including paying returns to existing investors, paying personal expenses, and even donating money to a church owned and founded by Farah’s father.

Farah and Dodge were indicted in 2010. Farah pleaded guilty and received a 15-year sentence (which was higher than the 10-year sentence requested by prosecutors), while Dodge was sentenced to a six-year term. Notably, Farah was days away from being released in mid-2020 after successfully obtaining approval for an early release as part of the government’s home confinement push to alleviate prison overcrowding in the middle of the COVID-19 pandemic. However, after victims intervened and brought this to the attention of the U.S. Attorney’s Office in New Hampshire (which claimed it was unaware of the notoriety of Farah’s crime), the decision was reversed days before Farah’s scheduled release. Farah is now scheduled to be released from prison in October 2023.

The Aftermath

In the wake of Farah’s arrest, questions quickly arose as to whether state regulators overseeing FRM’s industry should have acted sooner on alleged red flags that would have uncovered the fraud. In May 2010, the New Hampshire Department of Justice issued a report that set forth a laundry list of complaints and red flags in the ten-year period preceding FRM’s collapse and ultimately concluded that the state’s Securities Bureau, Banking Department, and Department of Justice suffered critical lapses that allowed FRM’s fraud to continue for years after it had been brought to regulators’ attention.

In one excerpt, the report detailed a complaint filed with the Securities Bureau in March 2000 by an attorney alleging that FRM had misled his client about the risk and viability of her investment. That attorney specifically referenced the possibility that FRM was operating a Ponzi scheme. The Securities Bureau then waited sixteen months to initiate an administrative proceeding, after which a hearing was held in July 2003. After an unsupervised Securities Bureau hearing officer presided over the hearing, and despite a statutory obligation to issue a ruling within a specific period of time, the hearing officer apparently declined to issue an order after determining that FRM investors would be better off if FRM voluntarily offered to redeem their investments rather than FRM being ordered to redeem all investments pursuant to a state statute. The report went on to detail a number of other violations, including a number of complaints filed with the regulators against FRM, yet no action was ultimately taken for years.

Efforts to Compensate Victims

A 2016 law was passed that created the FRM Victims’ Fund, a charitable trust that would solicit private donations to be used to compensate victims. However, the Fund largely remained dormant until the 2021 legislative session where state legislators - buoyed by a strong economy and state balance sheet - decided to amend the law creating the Fund to provide that a total of $10 million of taxpayer dollars would be allocated from the state’s budget to compensate Farah’s victims. The allocation would consist of $5 million for the fiscal year ending in June 2022 and an additional $5 million for the fiscal year ending in June 2023. The law further provided that an attorney or administrator would be hired to review victim applications and decide on payments to victims. Although the statute provides that the individual will be entitled to compensation, it does not specify whether that compensation will come out of the appropriated funds.

On August 13, 2021, New Hampshire posted a job opening for the FRM Claims Administrator and set an August 31, 2021 application deadline. The position link is available here.

Moral Hazard? Or Moral Obligation?

The New Hampshire legislature’s efforts, while not unprecedented, are extremely rare and raise complicated questions about whether taxpayer funds should be diverted from other pressing public needs to compensate investors of financial crimes. As one state legislator remarked:

“It is not a fiscally prudent use of taxpayer dollars when we are facing a tremendous homelessness problem, families in danger of losing their homes, and underfunded schools,” Rosenwald said. “The last thing we should be prioritizing right now is funding a handout to a small group of investors with the public’s hard-earned money.”

The move also raises the question of whether the state’s willingness to compensate victims of a Ponzi scheme might serve as a “moral hazard” whereby investors making risky bets will see the government’s willingness to step in as an incentive to continue making the risky bets.

On the other side of the equation, the proponents of the move argue that the move is a miniscule percentage of the state’s $13.5 billion budget and is the fulfilment of a promise the state made many years ago.

The New Hampshire DOJ’s Report is below:

SEC Says Florida Woman Referred To As "Mother Theresa" Ran $70 Million Ponzi Scheme Promising 120% Annual Returns

The Securities and Exchange Commission has filed an emergency enforcement action alleging that a Florida woman and her two companies used the promise of 120% annual returns to operate a massive Ponzi scheme that raised at least $70 million from over 2,000 investors. Johanna Garcia, MJ Capital Funding, LLC (“MJ Capital”) and MJ Taxes and More (“MJ Taxes”) were named as Defendants in a complaint filed in the Southern District of Florida alleging violations of federal securities laws. The Complaint indicates that Garcia and her companies managed to raise at least $70 million (and as much as $120 million) in just over a year, and that the companies went to great lengths to keep the scheme going - including filing a lawsuit against a third party that questioned their returns. In addition to seeking injunctive relief, disgorgement of ill-gotten gains, and civil monetary penalties, the Commission also obtained the appointment of a receiver to assume control over MJ Capital and MJ Taxes (the “MJ Companies”). It also appears that an FBI undercover agent was involved in the underlying investigation.

The Scheme

According to the Complaint, Garcia formed MJ Capital in June 2020 - months after the onset of the COVID-19 pandemic - and claimed that the company was in the business of funding merchant cash advances to businesses throughout the United States. According to MJ Capital, these merchant cash advances consisted of providing a loan to small business owners in exchange for the entitlement to receive a percentage of the business’s income over a specified period of time.

Initially, MJ Taxes allegedly solicited prospective investors to fund these merchant cash advances, promising monthly returns of 10% (which equated to annual returns of 120%) for six-month investments. MJ Capital soon became the primary vehicle to recruit investors, entering into agreements providing that investor funds would be used to fund the cash advances. An investor would not only sign a written agreement memorializing the investment terms, but would also be registered to enter into a non-disclosure agreement, a non-compete agreement, and a referral program agreement providing for a referral bonus for each person referred to MJ Capital.

The Complaint indicates that an undercover agent with the Federal Bureau of Investigation, posing as a prospective investor, visited the company’s Pompano Beach office in June 2021. The agent spoke with MJ Capital’s office manager who explained that any investment would be used to purchase future sales or profits of companies and promising the investor a 10% monthly return. The undercover agent later returned and made a $10,000 investment, receiving an initial 10% interest payment in July 2021.

But according to the Commission, Garcia and her companies only funded a few merchant cash advances and instead achieved the touted returns by running a massive Ponzi scheme. Between June 2020 and April 2021, the Commission alleges that the MJ Companies raised between $51 million and $67 million from investors, yet of that amount less than $3 million was used to fund merchant cash advances. Instead, more than $27 million of investor funds were paid to various entities, of which a substantial portion was used to compensate sales agents for soliciting investors. Another $20 million was used to pay the sky-high returns to existing investors - a hallmark of a Ponzi scheme. Garcia is also accused of diverting investor funds by making cash withdrawals. The pace of investments appears to have increased just before the action was brought, as the Complaint alleged that between $20 million and $62 million was raised just between May 1, 2021 and June 30, 2021.

The “Cover-Up”

In an odd twist, the Complaint details how an unidentified individual apparently registered a domain name similar to MJ Capital’s website that was used to publish allegations in April 2021 that MJ Capital was operating a Ponzi scheme. In addition to publishing a rebuttal on its own webpage, MJ Capital apparently viewed the existence of this domain name as “problematic” and filed a lawsuit against this unnamed individual alleging defamation and violations of the anti-cybersquatting consumer protection act. The lawsuit details an “extortion attempt” in which the purported website owner demanded $150,000 for the purchase of the domain name. MJ Capital, with the assistance of counsel, was in the process of seeking a default judgment against an individual it believed was the owner of the website at the time the Commission filed its enforcement action. Notably, it appears that Garcia herself recently filed a declaration (under penalty of perjury) in which she not only testifies that MJ Capital hired a company to “bury or lower Defendant’s website in search results for consumers searching for ‘MJ Capital Funds…,” but also that MJ Capital “funds millions of dollars in merchant capital loans on a monthly basis, with the amount of such funding having steadily increased every month since Plaintiff’s inception in 2020.” A copy of the Garcia declaration is available here. It remains unclear how the lawsuit will proceed given the allegations. The lawsuit is available below:

Complaint by jmaglich1 on Scribd

The ‘“Mother Teresa” of Her Community

MJ Capital’s website has a "blog” section where, in addition to articles touting the business and the concept of merchant cash advances, an article introduces the reader to “MJ Capital Funding’s CEO: Johanna Garcia.” The article indicates that Garcia - who “has always been known as a hardworking woman that has had her priorities in line” - owned a number of companies and was “often referred to as ‘Mother Teresa’ in her community.“ The article is below:

MJ Capital Funding CEO_ Spotlight on Johanna Garcia by jmaglich1 on Scribd

Based on the Commission’s allegations, the Court entered an Order appointing Corali Lopez-Castro as Receiver over the MJ Companies. As Receiver, Ms. Lopez-Castro is authorized to conduct an investigation into how the MJ Companies were operated, to identify and secure assets for the benefit of victims, and to fashion a claims process to return funds to defrauded victims.

A copy of the Commission’s Complaint is below:

Court Won't Dismiss Timber Ponzi Scheme Receiver's Suit Against Law Firm

A federal court has ruled that a national law firm must face a lawsuit brought by a court-appointed receiver over a collapsed timber Ponzi scheme that took in over $100 million from investors. Baker Donelson, which touts itself as the 74th largest law firm in the United States with nearly 700 attorneys, was one of the law firms that was linked to Henry Lamar Adams before he was arrested in 2018 on charges that his timber investment operation was nothing more than a massive Ponzi scheme that took in over $160 million from hundreds of investors. Alysson Mills, the Receiver for Adams’ company Madison Timber Properties (“Madison Timber”), has been tasked with recovering assets for the benefit of defrauded investors and to date has recovered approximately $20 million.

The Scheme

Adams touted Madison Timber to investors as a timber harvesting company that could provide annual returns ranging from 12% to 15% through the harvest of timber from plots of lands owned by third parties.  In many cases, investors were told that they had sole rights to timber harvested from specific plots of lands.  Investments were typically memorialized by a one-year promissory note that could be rolled over, a timber deed and cutting agreement, a security agreement, a tract summary with the purported timber value, and a title search certificate.  Adams ultimately raised over $160 million from 150 investors throughout the southeastern United States that would purportedly be used to purchase additional timber tracts.  

Many of these promises, however, were false. Adams never obtained the requisite harvesting rights to the land as he had claimed, and he also forged many of the investment documents provided to investors including the timber deed and cutting agreements as well as the tract summary showing the purported timber value.  In many cases, the same plots of land (to which he had no rights) were pledged to multiple parties.  Adams also misappropriated investor funds for unauthorized purposes, including for his own personal benefit and the development of unrelated construction projects in Oxford and Starkville, Mississippi.  New investor funds were also used to pay returns to existing investors - a classic hallmark of a Ponzi scheme. Adams was charged by civil and criminal authorities in May 2018, pleaded guilty, and was sentenced to a 20-year term in October 2018.

The Receiver’s Recovery Efforts

Following her appointment, Mills filed a number of actions against individuals and entities linked to Madison Timber. One of those lawsuits targeted law firms Baker Donelson and Butler Snow Mills as well as associated individuals and lawyers, alleging that the firms “lent their influence, their professional expertise, and even their clients to Adams…They made a fraudulent enterprise a fraternity.” After Butler Snow lost a motion to compel arbitration of the lawsuit in late 2019, the firm agreed to settle the Receiver’s claims for $9.5 million in early 2021.

The Receiver’s complaint described a seven-year relationship between Adams and two employees of Baker Donelson, Brent Alexander and Jon Seawright. Alexander served as a “Senior Public Policy Advisor” at the firm while Seawright was a shareholder and a member of the firm’s Board of Directors. According to the Receiver, Alexander and Seawright formed an investment fund in 2011 in which they pooled investor funds to invest with Adams. In turn, Adams agreed to share the returns with Alexander and Seawright. The fund was pitched to potential investors, including Baker Donelson clients, as an exclusive “friends and family” fund in which Alexander and Seawright were personally invested and had conducted extensive due diligence. The two men allegedly heavily leaned on Baker Donelson’s prestige and reputation in attracting investors, directing potential investors to view their biographies on the firm’s website and also using the firm’s offices and employees to carry out the fund’s operations. This included using the firm’s office to hold closings and make presentations as well as using the firm’s runners to pick up investor checks. Above all, investor funds were routed through the firm’s escrow accounts.

In reality, the Receiver alleged that neither Alexander nor Seawright had undertaken any significant investigation of the investments they were soliciting - even though the term sheets provided to investors specifically provided that the men’s fund would inspect the property and agreement with the specific timber mill. As the Receiver alleged:

Investors might fairly question what Alexander and Seawright did to investigate the investment. The reality is not much. In October 2017, Alexander bragged to a potential investor that “to our surprise, we have now financed the purchase of about $60 million in timber . . . It has worked so well that we simply send out an email on the 15th of each month and some hours later have collected the investment we need for the next round.”

In short, the Receiver alleged that Baker Donelson and the two men recklessly ignored numerous red flags.

Following Butler Snow’s settlement, the remaining defendants sought to dismiss the Receiver’s claims for civil conspiracy, aiding and abetting, recklessness and gross negligence, negligent retention, and vicarious liability.

In an order entered last week, U.S. District Judge Carlton W. Reeves denied Baker Donelson’s motion in its entirety while largely denying the motion filed by Seawright and Alexander. In the Order, the Judge found that the Receiver had adequately alleged the predicate to support her claims - including that the claim for civil conspiracy could stand given plausible allegations that Baker Donelson had “actual knowledge that Adams was running a Ponzi scheme.” The Order also denied the invocation of the in pari delicto defense, noting that the Receiver and the Receivership Estate were legally distinct from Adams and Madison Timber and thus entitled to assert claims that Adams and Madison Timber would be precluded from pursuing.

The case will now proceed to the discovery phase. A link to the Receiver’s website is here, and a copy of the Court’s Order is below:

SEC Accuses Florida Man Of Running $17 Million "Lead Generation" Ponzi Scheme

The Securities and Exchange Commission has filed an emergency enforcement action accusing a Florida man of running a Ponzi scheme that raised at least $17 million from over 100 investors who thought they were investing in an online lead generation business that promised annual returns ranging from 10%-60%. Jonathan P. Maroney, 50, Harbor City Capital Corp. (“Harbor City”) and a number of related entities were named in a complaint filed in the Middle District of Florida accusing them of violating federal securities laws. The Court granted the Commission’s emergency request for a temporary restraining order and an asset freeze and has scheduled a hearing for later this week.

According to the Commission’s complaint, Maroney and Harbor City began soliciting investors in mid-2015 promising monthly returns ranging from 1% to 5% in exchange for providing bridge funding that would be used to sustain Harbor City’s business of generating online customer lead campaigns for other businesses. The offering documents provided to investors promised that “the leads generated from the campaigns were to be sold at a substantial profit to Harbor City’s “pipeline” of business clients within the “$200 Billion internet advertising sector.”

Initially, in mid-2015, investors received promissory notes or agreements issued by Harbor City Ventures LLC (“HC Ventures”) that promised annual returns ranging from 24% to 60%. In late 2018, the investment vehicle shifted to several “special purpose vehicles” formed by Maroney that issued high yield secured bonds promising monthly returns ranging from 1% to 1.5%. Investors were solicited primarily through Harbor Capital’s website or through a Youtube channel that Maroney maintained, with the latter publishing videos touting the investment opportunity as “safe as a CD” and describing the bonds as “100% secured by a cash asset-backed instrument issued by a major top-tiered bank, which ensures return of principal.” Some investors also were attracted to the opportunity through Facebook advertisements. One of the Youtube videos published by Maroney is below:

In reality, the Commission alleges, Maroney and his entities only used a small portion of investor funds to actually fund the lead generation business. Indeed, the Complaint alleges that Harbor City “generated no significant revenues from its customer lead generation businesses or from any other venture” from January 2017 to February 2021. Instead, the majority of investor funds were allegedly diverted for unauthorized purposes including:

• $1.35 million to pay his credit card bills,

• $827,000 towards the purchase and maintenance of his waterfront home

• $808,000 towards housing and renovation-related expenses

• $90,000 to purchase a Mercedes Benz

• $265,000 in cash or ATM withdrawals

• $394,000 deposited into a joint bank account with his wife, Tonya Maroney, and

• $58,000 towards his wife’s credit cards

Maroney also allegedly invested approximately $1 million of investor funds into an unrelated shipping company and used over $6 million to make monthly interest payments to investors.

A copy of the Complaint is below:

Bernard Madoff Is Dead.

As U.S. District Judge Denny Chin prepared to sentence Bernard Madoff in a New York courtroom in June 2009, months after Madoff had been arrested and subsequently pleaded guilty to the largest Ponzi scheme in history, his defense counsel addressed the Court after a slew of moving statements from Madoff’s victims - each of which recounted the disastrous turn their lives had taken. Acknowledging those harrowing tales, Madoff’s counsel insisted that a 12-year sentence would be “just short…of a life sentence.” Although Judge Chin would reject this suggestion and go on to sentence Madoff to a 150-year term, Madoff died on April 14, 2021 - two months shy of the twelfth anniversary of his sentencing date.

Madoff masterminded the largest Ponzi scheme in history, defrauding tens of thousands of victims out of nearly $20 billion in principal losses in a fraud that spanned decades. He managed to keep the fraud undetected and thriving through both good and bad economic times, and one wonders if the fraud would have ever been discovered had it not been for the unprecedented turmoil spawned by the Great Recession that finally caused the scheme’s collapse in December 2008. However, the massive outflows of investor funds choked the scheme of its lifeblood - new investor funds - and Madoff was arrested with roughly 100 checks totaling over $100 million sitting on his desk waiting to be sent to preferred family and friends. He was arrested December 11, 2008, pleaded guilty on March 12, 2009, and received his 150-year sentence on June 29, 2009.

The scope, depravity, and damage associated with Madoff’s fraud were unprecedented. Although Madoff’s scheme carries the namesake of Charles Ponzi, the reality is that the nearly-$20 billion in investor losses in Madoff’s fraud was nearly 100 times larger than the estimated $200 million in Ponzi’s investor losses (in today’s dollars). The unraveling of Madoff’s fraud came at the tail end of the Great Recession, delivering a tragic blow to many victims who thought their generational wealth (and in many cases the wealth earmarked for future generations) were safe with “Bernie.” Many of those investors had a relationship with Madoff that spanned decades, trusting him implicitly and reassured no doubt by his prominent rise and stature in the financial industry. And tragically, many of those same investors ignored a cardinal investing rule by investing all, or nearly all, of their savings with Madoff.

Madoff’s death is, ironically and sadly, just the latest in a string of deaths that came in the wake of his fraud. At least three investors committed suicide in the wake of Madoff’s death. Madoff’s son, Mark Madoff, hanged himself two years after his father was arrested. Many other lives were irreversibly damaged.

Surprisingly, the largest Ponzi scheme in history may also one day have little to no actual investor losses. That’s because the team of court-appointed professionals tasked with recovering funds for Madoff’s victims has achieved extraordinary successes in their efforts. Irving Picard, who serves as the SIPA Trustee for the liquidation of Bernard L. Madoff Investment Securities LLC, has recovered over $14 billion to date - of which $13.5 billion has been distributed to victims. Based on how the distributions have been made and with the assistance provided by the Securities Industry Protection Corporation, many of Madoff’s investors have been paid back in full. The Department of Justice is also separately making distributions of over $3 billion to Madoff victims from funds forfeited to the U.S. government in association with Madoff’s scheme, representing the return of 80% of the losses of those recipients. Given recent favorable court rulings, it is expected that Mr. Picard and his team will continue to be busy adding to this pot for the foreseeable future.

Madoff’s legacy will, rightly, be forever marked by his unforgivable betrayal of thousands of investors, many of which were family and friends. And even with the realization that many investors may be (or already have been) made whole, his legacy remains cemented in those investors’ minds. As he made one last effort in late 2019 to ask Judge Chin to free him on compassionate release grounds, claiming he had Stage 5 kidney disease and was living in the prison’s hospice ward, his filing prompted the submission of over 500 victim letters to Judge Chin - of which 96% opposed the request. In denying Madoff’s motion, Judge Chin Judge Chin concluded:

“When I sentenced Mr. Madoff in 2009, it was fully my intent that he live out the rest of his life in prison. His lawyers asked then for a sentence of 12 to 15 to 20 years, specifically with the hope that Mr. Madoff would live to see “the light of day.” I was not persuaded; I did not believe that Mr. Madoff was deserving of that hope. Nothing has happened in the 11 years since to change my thinking. While Mr. Madoff’s present medical situation is most unfortunate, compassionate release is not warranted.”

Although over 500 new Ponzi schemes have been discovered since Madoff’s fraud was revealed, none have been remotely close in size to Madoff’s. With luck, that trend will continue.