Chicago-based international law firm Seyfarth Shaw and financial services firm Northern Trust has beaten back a federal RICO lawsuit, for now, after a federal judge said the president of an underwriting company didn’t do enough to establish representatives of the companies, along with others, engaged in a pattern of racketeering when they allegedly misled him into running the tens of millions of dollars he received from the sale of his company stock through an abusive tax shelter scheme, which left him owing more than $10 million to the IRS.
On July 15, U.S. District Judge Robert Blakey dismissed, without prejudice, a complaint brought by Steven Menzies, founder and former president and chief executive officer of San Francisco-based Applied Underwriters Inc., who alleged Seyfarth Shaw, Northern Trust Co. and the Christiana Bank & Trust Company should be held liable for the actions of the attorneys, financial advisers and bankers who Menzies said violated the federal Racketeer Influenced and Corrupt Organizations Act when they deceived him into participating in the scheme that left him open to audit and large tax penalties.
In analyzing Menzies’ complaint, Blakey acknowledged the plaintiff had established sufficiently most of the facets needed to maintain a lawsuit, brought under RICO, beyond the dismissal stage.
Blakey said he believed Menzies’ lawsuit, for instance, had met the legal standards needed to press his case alleging the defendants had conspired to defraud him. But he said the lawsuit fell short in establishing the alleged scheme extended beyond a plot to target him and his assets.
“Although Defendants staged the complex tax plan over time, the totality of the circumstances alleged here still constitutes ‘one dishonest undertaking’ … ” Blakey wrote.
“The Complaint elsewhere makes references to unnamed ‘others’ and ‘participants,’ noting, for example, that Defendants disguised their abusive tax scheme as a legitimate tax plan to purportedly reduce ‘capital gains tax on a participant’s, such as Menzies, disposition of stock,’” Blakey wrote. “Yet, the Complaint never states when, why, how, or even if, such ‘other’ unnamed participants were actually defrauded, nor how they might have suffered any economic injury or might otherwise be connected at all to the alleged RICO violations.”
The decision comes as the latest step in the litigation, which Menzies launched in April 2015, over the guidance he purportedly received from representatives of the firms in the early 2000s.
In 2006, AUI, which specializes in underwriting workers compensation insurance, was sold to Berkshire Hathaway. As part of the transaction, Menzies sold $64 million worth of stock, but did not report all of the funds as taxable income on his federal tax return.
Menzies alleged he did so at the guidance of former lawyer Graham Taylor, who at the time worked at Seyfarth Shaw’s San Francisco office, and at the urging of representatives of Northern Trust. According to the complaint, they had led Menzies, beginning in 2003, to funnel tens of millions of dollars into trust funds, using a complex series of loans and associated transactions through Christiana Bank.
Menzies said the financiers assured him the transactions would allow him to reduce his tax burden when he later sold his company stock. Those assurances were reinforced in correspondence with Taylor, Menzies said.
While Menzies asserted he had been assured Taylor was acting independently, he alleged Taylor and the financial advisers were working together as part of a scheme to extract fees from Menzies in exchange for work to move Menzies’ money using an “abusive tax avoidance scheme” he said he now believes they knew was illegal from the start.
The IRS later audited Menzies’ tax returns, and ordered him to pay taxes on more than $44 million in capital gains. Menzies eventually settled with the IRS for $10.4 million in taxes, penalties and interest.
He then filed suit, demanding Seyfarth Shaw, Northern Trust and Christiana Bank, as well as Taylor, be held accountable for the scheme under the RICO law.
Blakey, however, said Menzies still has farther to go before being allowed to proceed with his lawsuit.
The judge, however, shot down an attempt by the defendants to argue Menzies’ lawsuit should not be allowed because the complaint conflicts with the federal Private Securities Litigation Reform Act. The defendants argued Menzies couldn’t sue them under RICO because his complaint involves misdeeds alleged as part of the sale of stock, which is exempted by the PSLRA.
Blakey, though, said such an approach would be a misreading of the PSLRA, which he said was not intended to preclude a lawsuit having to do with alleged tax fraud committed after the sale of securities.
Blakey lifted a stay on discovery in the case, offering Menzies the opportunity to gather information on potential additional victims of the scheme to establish a pattern of racketeering, beyond his own case, and other evidence he may need to amend his lawsuit.
A hearing is set for July 26 to discuss a timeline under which Menzies may amend his complaint, and whether the parties wish to appeal the judge’s ruling.
Menzies is represented in the action by attorneys with the firm of Harris Winick LLP, of Chicago.
Seyfarth Shaw is defended by the firm of Perkins Coie LLP, of Chicago; Northern Trust, by the firm of Neal Gerber & Eisenberg, of Chicago; and Christiana Bank, by Shook Hardy & Bacon LLP, of Chicago.