The court-appointed trustee tasked with recovering assets for victims of Thomas Petters' $3.5 billion Ponzi scheme is taking aim at Petters' former bank, alleging that it ignored numerous red flags that should have alerted it to Petters' fraud, including over $35 billion in deposits. BMO Bank, the current owner of M&I Bank ("M&I"), was accused of multiple charges, including aiding and abetting fraud, aiding and abetting breach of fiduciary duty, and conspiring to commit fraud. Doug Kelley, the court-appointed bankruptcy trustee, is seeking unspecified damages in excess of $50,000.
The lawsuit centers on the "astronomical" sum of $35 billion in deposits that flowed into a Petters Companies Inc. account from 2003 until the fraud was uncovered in September 2008. Petters raised funds from investors by promising lucrative returns from the purchase and resale of consumer electronics to big-box retail stores. Despite the staggering amount of deposits made, Kelley alleges that none of the deposits originated from the retail stores that were supposedly the focal point of Petters' operation.
Additionally, nearly $70 million was siphoned off into various personal accounts controlled by Petters, including at least seventeen transfers exceeding $1 million. Despite M&I's apparent knowledge of the "frenzied activity" taking place in the account, Kelley argues that bank executives turned a blind eye to the possibility of wrongdoing to preserve the steady generation of fees from their business relationship with Petters.
Mixed Success In Similar Lawsuits
Lawsuits against financial institutions by those tasked to recover assets in the wake of failed Ponzi schemes have met with mixed success, in part due to the heightened legal standard required to succeed on claims such as aiding and abetting fraud and/or breach of fiduciary duty. Rather than a simple preponderance of the evidence, a bank must either have actual knowledge of the fraud, or knowledge and/or deliberate ignorance of certain "badges of fraud" that would put a reasonable person on notice. Additionally, some courts have found that bankruptcy trustees or equity receivers do not have "standing" to bring the suits.
For example, as part of his quest to recover assets for victims of Bernard Madoff's infamous Ponzi scheme, court-appointed trustee Irving Picard filed suit against several financial behemoths, including JP Morgan Chase and HSBC Bank, seeking not only the return of fraudulent transfers received from Madoff, but also billions of dollars in damages under various common law theories including aiding and abetting fraud and aiding and abetting breach of fiduciary duty that centered on the alleged ignorance of "myriad red flags and indicia of fraud."
After successfully winning the transfer of the suits from Bankruptcy Court (thought to be favorable to Picard) to a New York federal court, the financial defendants argued that Picard did not have legal "standing" to bring the claims. Standing, as defined by United States District Court Judge Jed S. Rakoff, requires a would-be litigant to demonstrate "the existence of a case or controversy and a personal stake in the outcome of the case."
Not only did Picard lack standing to bring claims on behalf of the bankruptcy estate against third-parties like HSBC, ruled Judge Rakoff, but under the doctrine of in pari delicto, Picard was barred from suing to recover for a wrong that the bankruptcy entities essentially took part in. Additionally, United States District Court Judge Colleen McMahon likened Picard's plight to that of a parking garage owner attempting to assert claims on behalf of a car that suffered damage while in traffic and before it entered the garage. Picard has since appealed those rulings.
However, a recent win by victims of Scott Rothstein's $12 billion Ponzi scheme against TD Bank has some questioning whether the tides have turned. In January 2012, a group of investors won a $65 million jury verdict against TD Bank in a Miami federal court after alleging that the bank and at least one of its executives had taken actions to further Rothstein's fraud in order to boost bank profits. Besides the favorable verdict, the case was also notable in that it featured a TD Bank executive asserting his fifth amendment rights on the witness stand and the post-trial discovery that critical documents had been altered and/or withheld by the bank. Following that verdict, TD Bank settled with another investor group led by the same attorney that had asserted similar claims.
While the prospect of holding a financial institution liable for investor losses from a massive Ponzi scheme such as Petters certainly is alluring, Mr. Kelley's likelihood of success is far from guaranteed. Much will depend on the discovery as to whether M&I executives truly suspected Petters of fraud. Additionally, internal risk documents such as Suspicious Activity Reports ("SAR's") a by-product of Patriot Act legislation requiring banks to report suspicious activity to the government, could also potentially be useful to gauge the bank's level of knowledge. One could also speculate that Petters himself could be a favorable witness for Kelley - should he choose to cooperate.