A federal judge has decided Chicago law firm SmithAmundsen can end a lawsuit alleging its legal advice led to federal regulators investigating an investment firm accused of running a $40 million Ponzi scheme.
The underlying legal action originated with Today’s Growth Consultant, which did business as The Income Store. According to a Jan. 19 opinion from U.S. District Judge Virginia Kendall, the Securities and Exchange Commission issued a subpoena to TCG on May 31, 2015, as part of a larger investigation into Smart Money Financial Group, requesting it produce documents related to its consulting performance agreements.
Those agreements involved investors providing upfront and recurring payments, while TCG would develop, maintain and host websites to generate revenue. But since those websites couldn’t deliver the promised revenue, per court records, TCG payed current investors with money from new clients. Kendall said the SEC investigation presented a dilemma: If one of the agreements met the legal definition of a security, the company should’ve filed an SEC registration statement.
Michael Polachek, TGC’s general counsel, retained SmithAmundsen as the firm’s primary securities counsel. The parties established that agreement in a June 2016 engagement letter in which TCG founder Kenneth Courtright said he would submit an agreement so the law firm could determine if it constituted a security while lawyers agreed to provide advice on subpoena compliance.
Early in this process, according to Kendall, SmithAmundsen attorney John Collen wrote an email reporting he advised Courtright the SEC investigation could expand to include TGC, as Smart Money “is a Ponzi Scheme … in the same basic business as TGC.”
Kendall said SmithAmundsen repeatedly asserted the consulting performance agreements were or would be deemed to be securities. Before TCG could act, the SEC brought an action against the company. A federal judge issued a temporary restraining order freezing TCG’s assets and appointing Melanie Damian as receiver. Damian sued SmithAmundsen, alleging legal malpractice and aiding and abetting the breach of fiduciary duty.
In her opinion, Kendall granted the law firm’s request to dismiss the complaint. She agreed with SmithAmundsen’s argument it didn’t owe a duty to TCG beyond the terms of the engagement letter.
SmithAmundsen, Kendall wrote, “did exactly that — they provided a legal opinion about whether the contracts were securities (they are) and how to respond to the subpoena. Yet, Damian wishes to impose a general duty to investigate TGC, uncover a complex Ponzi scheme, assist them in complying with the law and undertake any other measures necessary to avoid the (inevitable) SEC action. The words of the contract, however, simply cannot bear the obligations Damian seeks to impose, and she concedes as much.”
Damian insisted every attorney is obligated to inform clients about alternative legal solutions and that SmithAmundsen specifically rendered advice beyond the engagement letter, an implication of expanded duty. Kendall said Damian’s first argument represents “an understandable legal error” about state law, because while lawyers are required to tell clients about “available options for alternative legal solutions,” that clause is part of a larger list of what she branded “free-floating responsibilities” that don’t supersede a written contract establishing limits of representation.
Kendall further said Damian lacked evidence supporting the claim SmithAmundsen expanded the contractual relationship, though she allowed for the possibility Damian can bolster her claim with additional evidence through an amended complaint.
Regarding the allegation SmithAmundsen aided and abetted TCG in breaching fiduciary duty, Kendall said Damian didn’t sufficiently allege substantial assistance with the scheme. According to Damian’s complaint, Courtright founded his firm seven years before the SEC got involved. Even if a SmithAmundsen lawyer did suggest TCG was in legal jeopardy, the firm’s later advice only underscored that position.
SmithAmundsen “answered the question by largely finding the company failed to comply with the law,” Kendall wrote. “It is hard to surmise how a legally defensible (if not correct) and adverse conclusion could assist the company commit large-scale fraud.”
Damian has until Feb. 10 to file an amended complaint.
Damian has been represented in the complaint by attorneys Thomas Culmo and Kenneth D. Murena, of Damian & Valori, of Miam.
SmithAmundsen has been represented by attorneys Joseph R. Marconi, Victor J. Pioli and Ramses Jalalpour, of Johnson & Bell, of Chicago.