Seizure of Rothstein Ponzi Assets Highlights Tension Between Forfeiture Statutes and Bankruptcy Code

Seizure of Rothstein Ponzi Assets Highlights Tension Between Forfeiture Statutes and Bankruptcy Code

On December 1, 2009, the United States government charged Scott Rothstein with money laundering and mail and wire fraud pertaining to his operation of a $1 billion Ponzi scheme. In connection with these charges, the government filed a Bill of Particulars identifying certain properties subject to criminal forfeiture upon conviction. These properties included bank accounts titled in the name of Rothstein’s law firm (Rothstein Rosenfeldt Adler, P.A.) (“RRA”), real estate, vehicles, jewelry and various business interests purchased by Rothstein with funds obtained from RRA, all of which were forfeited to the United States government. Significantly, at the time the government filed its Bill of Particulars, RRA was in bankruptcy; creditors had filed an involuntary Chapter 11 petition against the firm on November 10, 2009 and the petition was granted on November 25, 2009.

On June 9, 2010, Rothstein was sentenced and forfeiture was imposed as part of the sentence. The bankruptcy Trustee appealed the forfeiture with respect to, among other things, the RRA bank accounts. Consistent with criminal forfeiture statutes, an ancillary forfeiture hearing was held before the United States District Court for the Southern District of Florida. At the hearing, the Trustee proved by a preponderance of the evidence that he had a superior interest to Mr. Rothstein in several RRA bank accounts totaling approximately $1.9 million, including two operating accounts, a payroll account, a merchant account and several interest on trust accounts (“IOTA”). The District Court also ruled adversely to the Trustee with respect to several other IOTAs totaling approximately $500,000. The government filed a motion for reconsideration and the District Court reversed its earlier ruling in favor of the Trustee with respect to two of the law firm’s IOTAs.

Not surprisingly, the Trustee appealed the District Court’s ruling to the United States Court of Appeals for the Eleventh Circuit. The Court of Appeals recently heard oral argument. It was, reportedly, a hot bench. The Trustee asserted that the forfeiture resulted in the erroneous taking of property that did not belong to Rothstein but instead belonged to RRA which, before its bankruptcy, had been an active law firm with 70 lawyers and allegedly “significant independent existence beyond Mr. Rothstein.” More fundamentally, the Trustee asserted that “the government supplanted the congressionally mandated and time-tested system of equitable distribution of an insolvent estate . . . with criminal statutes that were never intended to address the disposition of any property other than those assets owned by the criminal defendant.” The government countered that “these are proceeds of Rothstein’s criminal offenses,” and “the fact that he deposited them into someone else’s account is of no consequence.”

In 1986, Congress extended criminal forfeiture to money laundering crimes and, over the years, has amended forfeiture statutes to include a panoply of financial crimes including fraud, false statements and mail and wire fraud. Under Section 982 of Title 18 of the United States Code, a defendant must be convicted of a substantive underlying crime for the government to seize his property. Moreover, section 853(a) of Title 21 of the United States Code provides that the defendant shall forfeit:

(1) any property constituting, or derived from, any proceeds the person obtained, directly or indirectly, as the result of such violation; (2) any of the person’s property used, or intended to be used, in any manner or part, to commit, or to facilitate the commission of, such violation; and (3) in the case of a person convicted of engaging in a continuing criminal enterprise [] any property described in paragraph (1) or (2), any of his interest in, claims against, and property or contractual rights affording a source of control over, the continuing criminal enterprise.

Generally speaking, all of the proceeds of a crime and the property used or involved in the commission of a crime may be subject to forfeiture. However, the government must prove that the defendant has an interest in the forfeited property. As noted in the Trustee’s brief, “[c]riminal forfeiture is an in personam proceeding. The purpose of criminal forfeiture is to punish the criminal defendant by requiring him to relinquish any ill-gotten gains or any of his property used to commit the offense.” The issue raised by the Trustee in the Rothstein case is the extent to which a forfeiture action can reach property in which a third party may have an interest – such as RRA’s bank accounts.

For property to be subject to criminal forfeiture, there must be some nexus between the property and the crime. Pursuant to the relation back doctrine under section 853(c) of the Code, “[a]ll right, title, and interest in property” with a nexus to the criminal action vests in the government at the time the crime is committed or at the time the property is used to commit the crime. These theories provide the government with significant power to seek criminal forfeiture.

Given the extent of this power, how does a third party, such as a bankruptcy trustee, challenge a criminal forfeiture? The criminal forfeiture statute provides two defenses that a third party may claim in asserting its interest in forfeited property, which interest must be asserted within 30 days of the final publication of notice of the forfeiture. Under section 853(n) of the Code, a court is required to amend a forfeiture order if the petitioner proves by a preponderance of the evidence that:

(A) the petitioner has a legal right, title, or interest in the property [which] renders the order of forfeiture invalid . . .; or (B) the petitioner is a bona fide purchaser for value of the right, title, or interest in the property and was at the time of purchase reasonably without cause to believe that the property was subject to forfeiture… .

These defenses highlight the Trustee’s main argument – “that a criminal defendant must have some interest in the property to be forfeited . . . before a criminal forfeiture can take place” and that a petitioner necessarily should prevail if he can show that the criminal defendant never had any interest in the forfeited property. In asserting that Rothstein had no interest in the RRA bank account, the Trustee relied upon evidence that over $5 million of non-Ponzi scheme funds had been deposited in the forfeited RRA accounts, “totaling more than the amount of funds on deposit in the aggregate at the time the accounts were seized.”

Whatever the Eleventh Circuit rules, the tension between forfeiture law and the bankruptcy code will remain, as few cases address ancillary proceedings between the government and third parties. Cases that traverse both bodies of law necessarily affect competing rights: on the one hand, the right of the government to seek criminal forfeiture of a defendant’s property to provide restitution to victims and, on the other, the rights of a bankruptcy trustee to gather the assets of a debtor to which the debtor has legal or equitable title for the benefit of all creditors. Trustees and other third parties should be mindful that title to forfeitable assets vests in the government as soon as the crime is committed. This disposition to the government will not be disturbed absent a statutory defense, which must be asserted in an ancillary proceeding within 30 days of the final forfeiture notice. As a consequence, it likely is best for any bankruptcy trustee to seek an agreement with the government as to how seized assets will be disposed. As for the Rothstein case, victims and creditors alike continue to wait for their distributions pending ultimate resolution of the case.

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