Opinion
INDEX NO. 515613/2018
06-11-2019
HAL SITT, MICHAEL ROTHSTEIN, MARTIN ROTHSTEIN, HELEN ROTHSTEIN, MICHELLE SARA ROTHSTEIN & REBECCA ROTHSTEIN, Plaintiffs, v. BROADCOART, A DIVISION OF MERRILL LYNCH, PIERCE, FENNER & SMITH INCORPORATED, BANK OF AMERICA, N.A., AND COWEN PRIME SERVICES LLC, AS SUCCESSOR IN INTEREST TO CONCEPT CAPITAL MARKETS LLC, Defendants
NYSCEF DOC. NO. 50 Decision and order PRESENT: HON. LEON RUCHELSMAN
The defendants have all moved and cross-moved pursuant to CPLR §3211 seeking to dismiss the complaint filed by the plaintiffs on the grounds it fails to state a cause of action. The plaintiffs have opposed the motion. Papers were submitted by the parties and arguments held. After reviewing all the arguments this court now makes the following determination.
The complaint alleges the plaintiffs invested millions of dollars with an individual named Ilan Preis. Specifically, the money they invested was deposited with a hedge fund controlled by Preis called Bright Lake fund. The defendant Cowen Prime Services LLC [hereinafter 'Cowen'] is the successor in interest to Concept Capital Markets which acted as the introducing broker for Bright Lake. On October 10, 2014 Concept Capital Markets, on behalf of Bright Lake opened an account with Merrill Lynch wherein Merrill agreed to act as the clearing broker. The plaintiffs herein sued Preis alleging they invested approximately $9.6 million in Bright Lake and that through fraudulent means Preis lost virtually all the money. The plaintiffs obtained a judgement against Preis in the amount of $9 million. The plaintiffs have now sued the defendants alleging they committed fraud, breach of fiduciary duty, negligence, breach of contract, fraudulent transfers under the debtor creditor law and violations of FINRA rules. The defendants have now moved seeking to dismiss the action.
Conclusions of Law
"[A] motion to dismiss made pursuant to CPLR §3211[a][7] will fail if, taking all facts alleged as true and according them every possible inference favorable to the plaintiff, the complaint states in some recognizable form any cause of action known to our law" (see, e.g. AG Capital Funding Partners, LP v. State St. Bank and Trust Co., 5 NY3d 582, 808 NYS2d 573 [2005], Leon v. Martinez, 84 NY2d 83, 614 NYS2d 972, [1994], Hayes v. Wilson, 25 AD3d 586, 807 NYS2d 567 [2d Dept., 2006], Marchionni v. Drexler, 22 AD3d 814, 803 NYS2d 196 [2d Dept., 2005]. Whether the complaint will later survive a motion for summary judgment, or whether the plaintiff will ultimately be able to prove its claims, of course, plays no part in the determination of a pre-discovery CPLR 3211 motion to dismiss (see, EBC I, Inc. v. Goldman Sachs & Co., 5 NY3d 11, 799 NYS2d 170 [2005]).
Concerning claims one and three, namely aiding and abetting fraud and knowledge of a breach of fiduciary duty, it is well settled that to state a claim for aiding and abetting fraud the plaintiff must allege the existence of an underlying fraud, knowledge of this fraud on the part of the aider and abettor and substantial assistance by the aider and abettor in achieving the fraud (see, Stanfield Offshore Leveraged Assets Ltd., v. Metropolitan Life Insurance Company, 64 AD3d 472, 883 NYS2d 486 [1st Dept., 2009]). Further, substantial assistance exists when "a defendant affirmatively assists, helps conceal, or by virtue of failing to act when required to do so enables the fraud to proceed" and where the actions of the aider/abettor proximately caused the harm on which the primary liability is predicated (id). Thus, the plaintiff must allege the defendant's substantial assistance proximately caused harm upon which the liability is based (Fraternity Fund Ltd., v. Beacon Hill Asset Management LLC, 479 F.Supp2d 349 [SDNY 2007]). The Amended Verified Complaint asserts the defendants provided substantial assistance to Preis and Bright Lake "by providing account custody and clearing services; extending Preis and Bright Lake millions of dollars in margin; authorizing and clearing trades by Preis and Bright Lake with Plaintiffs' funds in margin accounts; and providing Preis and Bright Lake with access to the Knight Direction Execution Management System (EMS) to execute his fraudulent trades..." (Id at ¶ 109). However, a clearing agent owes no fiduciary duty to the owner of securities that "pass through its hands" (Edwards & Hanly v. Wells Fargo Securities Clearance Corp., 602 F.2d 478 [2d Cir. 1979]). Thus, a clearing broker that provides normal and routine clearing services for a primary broker violating the law cannot be held responsible for aiding and abetting any fraud (Levitt v. J.P. Morgan Securities Inc., 9 F.Supp3d 259 [EDNY 2014]). There are instances where a clearing firm can be responsible for aiding and abetting fraud where "a clearing broker is alleged effectively to have shed its role as clearing broker and assumed direct control of the introducing firm's operations and its manipulative scheme" (see, Levitt v. J.P. Morgan Securities Inc.,710 F.3d 454 [2d Cir. 2013], In re Blech Securities Litigation, 961 F. Supp 569 [SDNY 1997]). However, the Amended Verified Complaint does not allege any such assumption of direct control.
The plaintiffs argue the defendants did far more than provide routine clearing services. Rather, plaintiffs argue the defendants "provided their platform to him [Preis] and continued to do so despite their actual knowledge of his fraudulent and reckless trading" (see, Plaintiff's Memorandum of Law in Opposition, page 18). However, as noted, to be liable for aiding and abetting a securities offense the plaintiff must allege "(1) the existence of a securities law violation by the primary (as opposed to the aiding and abetting) party; (2) 'knowledge' of this violation on the part of the aider and abettor; and (3) 'substantial assistance' by the aider and abettor in the achievement of the primary violation" (Bloor v. Carro, Spanbock, Londin, Rodman & Fass, 754 F.2d 57 [2d Cir. 1985]). The plaintiff has merely presented allegations of knowledge, namely an awareness of the fraud, if true. However, the Amended Verified Complaint does not establish any substantial assistance in any meaningful way. As explained, merely conducting routine trades cannot satisfy the substantial assistance requirement. To the extent the plaintiff is essentially arguing that knowledge without any other activity is sufficient to demonstrate substantial assistance to satisfy an allegation of aiding and abetting, such argument is unsupported. It is true that some commentators have argued such liability should apply since the defendants benefitted from Preis' misconduct in the form of commissions (see, Clearer Skies for Investors: Clearing Firm Liability Under the Uniform Securities Act, 39 San Diego Law Review 1327, Jeanette Filippone 2002, Bar Baron at the Gate: an Argument for Expanding the Liability of Securities Clearing Brokers for the Fraud of Introducing Brokers, 74 New York University law Review 1014, John Bellwoar 1999). However, those benefits do not amount to aiding and abetting Preis' misconduct as a matter of law (see, Cromer Finance Ltd., v. Berger, 137 F.Supp2d 452 [2001]).
Therefore, based on the foregoing, the motion seeking to dismiss counts one and three is hereby granted.
Other than counts six through nine the plaintiffs have not opposed the motion seeking to dismiss any of the remaining counts. Consequently, the motion seeking to dismiss counts two, four, five and ten are granted without opposition.
Concerning counts six through nine, they each allege a cause of action pursuant to Debtor Creditor Law §273, §274, §275 and §276.
It is well settled that pursuant to §273 of the Debtor Creditor Law every conveyance made by a party which then renders the party insolvent is fraudulent without regard to intent if the conveyance is made without fair consideration (Paragon v. Paragon, 164 AD3d 1460, 84 NYS3d 582 [2d Dept., 2018]). Further, such transfers are fraudulent if the transferor had unreasonable small capital to operate the business (Debtor Creditor Law §274) or intended or believed the transferor would incur debts beyond his or her ability to pay them when they matured (Debtor Creditor Law §275) or even if fair consideration was present the transfer was made with the intent to defraud (Debtor Creditor Law §276).
Thus, the statutes require a two pronged inquiry namely, whether the conveyance rendered the party insolvent and whether the conveyance was accompanied with fair consideration (Epstein v. Nieves, 258 AD2d 436, 682 NYS2d 917 [2d Dept., 1999]). Debtor Creditor Law §276 is subject to different analysis and will addressed presently. Preliminarily, it must be demonstrated that the plaintiffs were 'creditors' of the defendants. A creditor is "a person having any claim, whether matured or unmatured, liquidated or unliquidated, absolute, fixed or contingent" (see, Debtor and Creditor Law §270). Thus, "it has long been the rule that parties who fraudulently dissipate corporate assets when the corporation is either insolvent or in imminent danger of becoming so, as well as parties who receive such property without giving valuable consideration therefor, must restore it to the corporation for the benefit of creditors who have been defrauded" (see, Meyer, Connor & Co., v. United Founders' Corp., 238 AD 642, 265 NYS 289 [1st Dept., 1933]). These definitions aptly apply to Preis and indeed the plaintiffs could be considered creditors of Preis assuming the other requirements have been satisfied. However, there is scant evidence that the plaintiffs are creditors of the defendants. The plaintiffs acknowledge this dilemma and argue that "Preis then caused all of Bright Lake's funds (including the Plaintiffs' investments) to be transferred to accounts at Defendants (the "Transfers") from which they were squandered through fraudulent and reckless trading in the course of five to six months. Defendants were the recipient, or transferee, of the Transfers with the meaning of New York DCL §§271-278)" (see, Memorandum of Law in Opposition, page 7). However, those arguments do not support any fraudulent conveyance claims asserted by the plaintiffs. First, following the logic of those arguments any fraudulent conveyance claims could be asserted by Preis against the defendants, an absurd result. Moreover, to the extent the plaintiffs assert claims against the defendants they really stem from conduct committed by Preis. In Federal Deposit Insurance Corporation v. Porco, 75 NY2d 840, 552 NYS2d 910 [1990] the court held that a creditor has no cause of action against a party who merely assisted a debtor in transferring assets. It is true that in Porco the party did not benefit from the transfer in any way and in this case the defendants received commissions, such difference does not demand a contrary result. There is really little dispute Preis lost close to $9 million in fraudulent investing. There is further little dispute the defendants did not earn that amount in commissions but rather a far lesser amount. Thus, the transfer of accounts to the defendants cannot be equated with a transfer of all the funds, enabling a fraudulent conveyance claim, since no benefit accrued to the defendants thereby. To the extent the defendants received commissions there has been no allegation the defendants participated in the fraud. The plaintiffs assert there was no fair consideration since the defendants did not accept the funds in good faith pursuant to Debtor Creditor Law §272(a)). However, that assertion is not contained in the Amended Verified Complaint. The Amended Verified Complaint does not legally sustain any claim for fraudulent transfer against the defendants. Indeed, Paragraph 133 states that Preis, acting in concert with Defendants, caused many millions of dollars to be depleted from the Bright Lake Margin Accounts to satisfy margin calls relating to the fraudulent securities trading Pries was orchestrating through the Bright Lake Margin Account" (id). However, that paragraph does not contain any facts supporting any fraudulent conduct. Paragraph 135 states that "Defendants maintained legal dominion and control of the funds contained in the Bright Lake Margin Accounts, with broad discretion over the funds contained in the Bright Lake Margin Accounts" (id). While that may be true in a technical sense, the defendants did not have the authority to engage in any trades on its own and there is no allegation the defendants took any action other than at the direction of Preis. Thus, paragraph 137 states that "Defendants did not transfer fair and equivalent value in good faith in exchange for any of the Bright Lake transfers, because Defendants had actual or constructive knowledge of Preis' fraudulent scheme" (id). That allegation is merely conclusory and does explain any fraudulent transfer committed by the defendants at all. The Amended Verified Complaint does not explain the manner in which the defendants, as entities unrelated to Preis, committed any fraudulent transfer. The sole basis to impute fraudulent transfers upon the defendants is their alleged knowledge of Preis' misconduct. However, the Amended Verified Complaint does not contain any factual information supporting such knowledge. Therefore, there is no allegation the defendants acted in bad faith and thus no allegation they were engaged in any fraudulent transfers. Consequently, the motion seeking to dismiss counts six, seven and eight is granted.
Concerning count nine, and indeed the other counts as well, it is clear there is no debtor creditor relationship between the plaintiffs and defendants. The plaintiffs note that the nature of a fraudulent transfer claim is "to permit the creditors (Plaintiffs) of a debtor (Preis and Bright Lake) to avoid fraudulent transfer made by that debtor to third parties such as Defendants" (Memorandum in Opposition, page 8). Thus, clearly, any claim can only lie against Preis, not the defendants who are neither a debtor or creditor in relation to the plaintiffs. It is true, as the plaintiffs note in a footnote that Debtor Creditor Law §276 applies to present and future creditors, however, the defendants are not creditors of the plaintiffs in any manner, rather, they were merely authorized to make trades at the instruction of Preis. Consequently, the complaint does not establish any claims for fraudulent conveyance.
Therefore, based on the foregoing the motion seeking to dismiss the entire complaint is granted.
So ordered. DATED: June 11, 2019
Brooklyn N.Y.
ENTER:
/s/_________
Hon. Leon Ruchelsman
JSC