D.C. Circuit Court of Appeals Considers Whether Stanford Fraud Victims are “Customers” under the Securities Investor Protection Act

Despite the famous R. Allen Stanford Ponzi scheme being unraveled in early 2009, the past two weeks have been important for the victims of the fraud who are still trying to recover their financial losses.  On October 7, the Supreme Court heard arguments on whether the Securities Litigation Uniform Standards Act precludes investors from bringing state law claims against third-party entities who allegedly participated in Stanford’s fraudulent scheme.  For further discussion on that topic, click here. 

Yesterday, the SEC argued in front of the D.C. Circuit Court of Appeals seeking to overturn a District Court’s ruling that barred the agency from ordering the Securities Investor Protection Corp. (“SIPC”) to compensate victims of the Stanford Ponzi scheme.  SIPC is a congressionally chartered corporation that oversees liquidation of failed brokerages and may also pay investors’ claims for missing money or securities through an industry-financed fund.    

Since the CD’s at the heart of the Ponzi scheme were marketed to investors by Houston-based Stanford Group Company (“SGC”) – a broker dealer registered with the SEC and SIPC – in 2009, the court appointed receiver of Stanford’s companies asked SIPC to evaluate whether the customers of SGC were entitled to SIPC’s protection.  SIPC declined to file an application for protective decree because it concluded that SGC did not perform a custody function for the customers who purchased CD’s from the Antigua-based Stanford International Bank (“SIB”) which was not a member of SIPC.  However, in 2011, the SEC issued a formal analysis disagreeing with SIPC’s position and filed an application in District Court ordering SIPC to meet its obligations. 

This is the first time the SEC has requested a court to force SIPC to extend its coverage.  During the proceedings in the District Court, the key issue was whether persons who purchased CD’s from SIB were considered customers of SGC within the meaning of the Securities Investor Protection Act.  SIPA defines “customer” as follows:

(A) IN GENERAL

The term ‘customer’ of a debtor means any person (including any person with whom the debtor deals as principal or agent) who has a claim on account of securities received, acquired, or held by the debtor in the ordinary course of its business as a broker or dealer from or for the securities accounts of such person for safekeeping, with a view to sale, to cover consummated sales, pursuant to purchases, as collateral, security, or for purposes of effecting transfer.

(B) INCLUDED PERSONS

The term `customer' includes—

(i) any person who has deposited cash with the debtor for the purpose of purchasing securities;…

SIPCs argued that although many of the victims purchased the foreign CD’s through SGC, the victims ultimately entrusted their money with SIB which was not a member of SIPC.  Furthermore, investors received disclosures explicitly telling them the Antiguan bank was not SIPC-protected or regulated by the U.S. 

The SEC, however, argued that the location of the Stanford bank is irrelevant because Stanford’s entire business organization was operating one massive fraud, and that no actual certificates of deposit truly existed.

The District Court found that since SGC never physically possessed the investors’ funds at the time of the purchases, the investors were not customers of SGC under the literal construction of the statute.  Click here to review the court’s opinion.   

During oral arguments in front of the D.C. Circuit, much of the hearing was consumed by discussion and debate over the legal definition of “customer” and whether the SEC can force SIPC to construe that term to include victims of a collapse that involves both member and non-member companies.  Just like the highest court last week, the Circuit judges gave no clear indication of how they will rule. 

A few former SEC commissioners filed a friend of the court brief urging the Circuit to uphold the lower court’s ruling because an “unwarranted expansion” of the term “customer” has the potential to substantially increase SIPC’s exposure and could threaten its ability to function as Congress intended.

In sum, the rulings of the Supreme Court and the D.C. Circuit Court of Appeals will both have a substantial impact on the victims’ chances to recover their losses.  

U.S. Supreme Court Debates Coverage of the Securities Litigation Uniform Standards Act

The U.S. Supreme Court recently debated whether investors in a consolidated class action suit were precluded by the Securities Litigation Uniform Standards Act (“SLUSA”) from bringing state law causes of action against law firms and other third party entities for their alleged roles in the $7 billion R. Allen Stanford Ponzi scheme. SLUSA bars plaintiffs from bringing state law claims based on misrepresentations made “in connection with the purchase or sale of a covered security.” 

The Ponzi scheme at the center of the allegations involved over 21,000 investors who bought certificates of deposit from R. Allen Stanford’s bank in Antigua. Stanford promised a risk-free investment with above-market rates of return and said the CDs were backed by portfolios of liquid securities.  However, there were no securities and the money went to fund a string of failed businesses, bribe regulators, and support Stanford’s lavish lifestyle. R. Allen Stanford was convicted and sentenced to 110 years in prison in March of 2012.  The receiver, who was court appointed in 2009 to recover money from Stanford’s failed companies to return to investors, recently began mailing checks ranging from $2.81 to $110,000 to hundreds of investors.  That amounts to approximately $55 million of the $6 billion lost from the scheme – less than a penny on the dollar.

The complaints filed by investors alleged that various third party entities made misrepresentations concerning the safety of the investments and that Stanford’s attorneys conspired with and aided and abetted Stanford in violating the securities laws by lying to the SEC and assisting Stanford to evade regulatory oversight.

The District Court examined whether a covered security was applicable in the case because although the CD was not a covered security, the marketable securities purportedly backing the CD’s were a covered security.  During this analysis, the District Court used the Eleventh Circuit’s approach, which asks “whether a group of plaintiffs premise their claim on either ‘fraud that induced [the plaintiffs] to invest with [the defendants] … or a fraudulent scheme that coincided and depended upon the purchase or sale of securities.’” The District Court determined that the belief that the CD’s were backed by marketable securities induced the investors to purchase the CD’s.  Therefore, the District Court dismissed the investors’ claims.

On appeal, the Fifth Circuit reversed the decision, rejecting the test applied in the Eleventh Circuit and adopted the Ninth Circuit test: “A misrepresentation is ‘in connection with’ the purchase or sale of a security if there is a relationship in which the fraud and the stock sale coincide or are more than tangentially related.”  The Fifth Circuit relied on public policy considerations that requires interpretation of the “in connection with” element in a manner not to preclude group claims simply because the issuer advertises that it owns covered securities in its portfolio. 

In order to resolve the circuit split on the interpretation of SLUSA’s “in connection with” requirement, the Supreme Court granted certiorari. The issues considered by the highest court were the following: (1) whether the Securities Litigation Uniform Standards Act (SLUSA) precludes a state-law class action alleging a scheme of fraud that involves misrepresentations about transactions in SLUSA-covered securities; and (2) whether SLUSA precludes class actions asserting that defendants aided and abetted SLUSA-covered securities fraud when the defendants themselves did not make misrepresentations about the purchase or sale of SLUSA-covered securities.

Plaintiffs hinge part of their argument on the fact certificates of deposits were specifically excluded from Congress’s definition of “covered security” and request the Court uphold the 5^th Circuit’s ruling.  The defendants claimed that the application of federal law should be broad and because Stanford made the promise to back the CD’s with securities, the SLUSA effectively blocks the state causes of action.

During oral arguments, the nine justices gave no clear indication on how they will rule.  However, Justice Scalia’s questions and comments suggested he felt the suits could go forward because he read the statutory language “in connection with the purchase or sale of a covered security.”  Justice Alito, on the other hand, read “in connection with” broadly.  Stay tuned for and update when the court releases its ruling.   

FINRA Releases Comprehensive Report on Conflicts of Interest

Last month FINRA issued a 44-page report on conflicts of interest within the financial services industry. The report focuses specifically on the conflict management practices of broker-dealer firms. During my experience representing both investors and FINRA members, or while serving as an expert witness, I have frequently identified a conflict of interest to as genesis of the legal claim. FINRA's report is an outstanding review of both the source of troublesome conflicts and current best practices within the industry.

FINRA's report does not pull any punches. It comes out of the gate with the following observation: “Conflicts of interest can arise in any relationship where a duty of care or trust exists between two or more parties, and as a result, are widespread across the financial service industry...[M]any broker-dealer firms have made progress in improving their conflicts management practices, but...firms should do more to manage and mitigate conflicts of interest in their businesses.” (report link)

The report is broken out in to a review of “three critical areas.” FINRA evaluates and discusses: 1) firm-level frameworks, 2) new financial products, and 3) registered rep. compensation. FINRA defines firm-level frameworks as “the combination of underlying ethics culture, organizational structures, policies, processes, and incentive structures.” I found the report's second section regarding the introduction and promotion of new financial products to be worthy of a “must read” classification for both the compliance and the executive sales side of any firm. The final section of the report lays out what FINRA believes to be six “effective practices” for mitigating conflicts of interest generated by rep. compensation arrangements.

Now that FINRA has spoken in great detail on the matter, firms should be very hesitant about going forward without implementing the practices suggested in the report. While FINRA specifically disavows the report as rule-making, firms will be caught flat-footed if they face an investor claim or regulatory action rooted in the absence of the suggested best practices.   

The Importance of Creating an Administrative Record in ERISA Claims

ERISA requires employees to exhaust all administrative remedies before pursuing claims in court.  This means that an employee must follow the claims procedures outlined in his or her Summary Plan Description.  Abiding by these requirements and taking this phase of the process seriously is crucial.   

Typically, a claim is filed with the plan administrator in accordance with the plan’s procedures.  The plan administrator then must provide adequate notice to the employee in writing, setting forth the specific reasons for such denial.  ERISA provides that every plan participant must be afforded a full and fair review of the decision denying the claim.  Any documentation, records, or other relevant information submitted by the claimant along with additional evidence, documentation and records used by the plan administrator constitutes the administrative record. 

Developing a sufficient administrative record is imperative because after an administrative appeal and once a claim is filed in court, various circumstances determine whether or not the court’s review of the administrator’s decision is limited to the evidence in the administrative record or if additional discovery is allowed. Certain language in a plan along with an employee’s location can determine his or her rights.    

The first step in determining whether discovery is allowed outside the administrative record is to decide the applicable standard of review.  As discussed in my prior article, the Supreme Court in Firestone Tire and Rubber Co. v. Bruch, decided that a de novo standard (allowing the court to substitute its own judgment) applies when reviewing a claim denial, unless the language of the plan gives the plan administrator discretion to interpret and apply the plan.  If a plan provides such discretion, the reviewing court applies an abuse of discretion standard and gives the benefit denial deferential treatment. 

Since the abuse of discretion standard assesses the reasonableness of the benefit decision based upon the facts known to the plan administrator at the time, consideration of evidence outside the record is extremely rare. 

However, when a de novo standard applies, the circuits have articulated a variety of rules concerning discovery outside the administrative record. 

• The Fifth and Sixth Circuits do not permit the introduction of extrinsic evidence reasoning that federal courts are not to function as substitute plan administrators.
• The Seventh and Eleventh Circuits allow the admission of all extrinsic evidence because de novo review requires an independent decision rather than an independent review. 
• The First and Second Circuits have limited discovery of extrinsic evidence to show procedural irregularities or conflict of interest
• The Fourth and Tenth Circuits apply a multi-factor approach.  Generally, review is limited to evidence in the administrative record except where the court finds that additional evidence is necessary for resolution of the claim.  These circuits have discussed a number of exceptional circumstances which may warrant a court to exercise its discretion, such as cases with concerns of impartiality or procedure, complex medical issues, or circumstances where the claimant would not have been able to present the evidence during the administrative process. 
• The Eighth and Ninth Circuits permit extrinsic evidence upon a showing of good cause.  “Good cause” is similar to the exceptional circumstances articulated by the Fourth and Tenth Circuits.  However, if the plan participant had multiple opportunities to submit evidence to the plan administrator but failed to do so, such evidence will be excluded at trial.   
• The Third Circuit looks to whether the administrative record was sufficiently developed and may allow the admission of additional evidence where there is a lack of an administrative record. 

Savvy employers will likely include language in the plan that gives the plan administrator discretion to interpret and apply the plan, thus limiting review of the benefit denial to the administrative record.  However, even if a plan does not contain discretionary language, de novo review does not guarantee the admission of extrinsic evidence.  In sum, creating an adequate administrative record is crucial for Plaintiffs. 

If you are a claimant needing assistance in handling a claim, contact the attorneys at Cosgrove Law Group, LLC.

ANOTHER WAY FOR A BROKER TO UNWITTINGLY LOSE HER CAREER

By now most brokers and compliance departments should be aware that a broker becomes statutorily disqualified from associating with a FINRA member firm if convicted of a felony. They should also know by now that it doesn't matter if that conviction has nothing to do with moral turpitude or finances, such as a felony driving while intoxicated conviction. But what many may not realize is that, based upon “guidance” from the SEC, FINRA considers a mere plea of guilty—which is not a conviction under state or federal law—to be a conviction for purposes of statutory disqualifications. So, for example, even if you qualify for a prosecutorial diversion program in which you are never convicted if you satisfy certain probating terms, FINRA is still going to conclude you were convicted if you pled guilty in order to qualify for that program.


The genesis of what some might consider an absurdity lies in the fact that the 1934 Exchange Act does not define the term “convicted” in Section 3(a)(39) when setting forth those events which trigger a disqualification. Now, most attorneys understand that each and every word in a statute need not be defined, particularly if amenable to common understanding. Ironically, the FINRA By-laws also use, but fail to define, the term. So back in 1992, the SEC instructed the NASD to look to the definition of “convicted” in the 1940 Advisor's Act (“The Lederer Letter”).


And herein lies the problem for the unwitting broker or criminal defense attorney that thinks one is only “convicted” when one is sentenced and a judgment of conviction is entered: The 1940 Act includes “a plea of guilty” in the definition of “convicted.” There are, however, situations in which it is arguably unclear as to whether a conviction exists under even this expansive definition because the court might refrain from making a finding of guilt pending a probationary period. The SEC concluded that in such situations a person is convicted until the probationary period is completed. That's right folks—you can actually become “un-convicted!”


The SEC addressed this critical semantic issue again in 2000 in a letter to the NYSE (“The Germino Letter”). In that situation, the SEC looked to California law regarding a first-time drug offender program. In that instance, the SEC concluded that the defendant was not convicted because, although he pled guilty, the court did not “make a finding of guilt or accept the plea of guilty.” Confused yet?


For the most recent review of the nuances and history at issue here, take a look at the National Adjudicatory Council's Opinion in SD Decision No. 04017. In that case the Council looked at the CWOF (convicted without a finding) procedure under Massachusetts law and concluded that the MC-400 application subject in that matter had not in fact been convicted, so the broker should not have been disqualified in the first place! Belated good news for her for sure.


In Puello v. Bureau of Citizenship and Immigration Services, 511 F.3d 324 (2^nd. Cir. 2007), the United States Court of Appeals for the Second Circuit evaluated the meaning of the term “conviction” in the Immigration and Nationality Act (“INS”). In doing so, it noted that “well-established principles of (statutory) construction dictate that statutory analysis necessarily begins with the 'plain meaning' of a law's text and, absent ambiguity, will generally end there.” Id. At 327. In 1996, Congress amended the INS to include a definition of conviction that included, in addition to a formal judgment of guilt, “a plea of guilty...or [admission] of sufficient facts to warrant a finding of guilt.” Id. At 328. The court went on to explain that a conviction occurs when the court adjudicates guilt and imposes a sentence. Id. At 329. “The statutory definition of “conviction” speaks of a judgment 'entered by a court' the common understanding of which involves the entry on the docket of the documents envisioned in Rule 32(K)(1) and not a guilty plea alone. Id. The critical point here is that, unlike the INS, the Exchange Act does not involve any ambiguity as to “conviction” and it does not include a definition of conviction that includes anything less than a formal adjudication of guilt. Moreover, the SEC's suggestion that one looks to the 1940 Act to gain insight as to what a different Congress intended by the term “conviction” to mean when it passed the Exchange Act six years earlier is simply absurd. And the Second Circuit certainly agrees with this author's opinion on FINRA's current interpretation of “conviction” for a statutory disqualification: “ Construing a guilty plea alone as a 'formal judgment of guilt' makes little sense in the context of the definition of 'conviction' as a whole.” Id. “Construing a guilty plea alone to constitute a 'conviction' would be a significant departure from normal criminal procedure.” Id. At 330. And best of all: “ the statutory definition appears to lead to the bizarre result that a withdrawn guilty plea would still be a conviction.” Id. And there is no ambiguity in the Exchange Act that justifies a statutory interpretation by the SEC that directs FINRA to give a “bizarre” interpretation to what a “conviction” is for the purposes of statutory disqualifications. To borrow the words of Judge Katzmann: “a statute should be interpreted in a way that avoids absurd results.” Id. In sum, if Congress wanted a mere guilty plea to somehow be a “conviction” for purposes of the Exchange Act, it demonstrated its ability to do so when it so amended the INS.


The problem this author has confronted recently is that FINRA may send your Member firm a notice requiring them to file a MC-400 application or U-5 you without fully analyzing the state law at issue or exactly whether or not the court made the requisite finding of guilt (as opposed to the defendant merely admitting facts sufficient to allow the entry of a finding of guilt). Moreover, a defendant might plead guilty to the underlying offense without pleading guilty and the court finding sufficient facts as to a separate statute that enhances the misdemeanor to a disqualifying felony.


So what is the lesson here? Consult with a securities attorney and make sure you are both aware of and have a very clear record of the procedure before the court when pleading guilty as part of a diversion program lest your effort to avoid a conviction and save your career prove futile in the eyes of FINRA. Food for thought.

Circuit Split. Which Standard of Review Applies to ERISA Top-Hat Plans?

The Employee Retirement Income Security Act (“ERISA”) regulates the operation of private sector employee benefit plans once a plan has been established by an employer. ERISA requires employers to implement certain safeguards for employee benefit plans by setting minimum standards for things such as for participation, vesting, benefit accrual, funding, and reporting.  In addition, ERISA establishes fiduciary responsibilities for plan administrators.  ERISA generally defines a fiduciary as anyone who exercises discretionary authority or control over a plan's management or assets, including anyone who provides investment advice to the plan.

Generally, when a plan participant has a claim for benefits, there are specific procedures that must be exhausted.  The claims and review process is usually spelled out in the Summary Plan Description.  If a claim for benefits is denied, ERISA requires that the reason for any denial of benefits is explained to the employee in writing and that employee must be given an opportunity for full and fair review of the decision through an internal appeals process. 

If benefits are again denied after the internal appeals process, the employee can then file a claim in court.  Generally, the reviewing court applies a de novo standard (allowing the court to substitute its own judgment) when reviewing a claim denial, unless the language of the plan gives the plan administrator discretion to interpret and apply the plan.  If a plan provides such discretion, the reviewing court applies an abuse of discretion standard and gives the benefit denial deferential treatment.  When announcing this standard of review, the Supreme Court in Firestone Tire and Rubber Co. v. Bruch reasoned that since the plan administrator is a fiduciary, his or her exercise of discretion should not be subject to control by the court. 

This standard of review poses significant problems for ERISA top-hat plans.  To be designated a top hat plan, ERISA requires that the plan be (1) unfunded and (2) maintained by an employer primarily for the purpose of providing deferred compensation for a select group of management or highly compensated employees.  Top hat plans are specifically exempt from ERISA’s provisions on participation, vesting, funding, and fiduciary responsibility but are subject to ERISA’s enforcement provisions.  Thus, top-hat plans are merely contractual agreements. 

Top-hat plans are unique in that plan participants must utilize ERISA’s enforcement provisions when challenging benefit denials, yet none of the substantive and fiduciary provisions apply to such plans.  Under ERISA (modeled after trust law) a plan administrator or fiduciary is required to make all decisions in the plan participant’s best interest.  However, since top-hat administrators are not fiduciaries, they are not required to make any decisions in the best interest of the top-hat plan participant.  Since an unfunded top-hat plan is essentially an unsecured promise to pay benefits at termination or later, an inherent conflict of interest is present when the role of the plan administrator and employer overlap.  Paying the benefits to the top-hat plan participants will always have a direct and immediate impact on the cost to the employer.

Furthermore, when a plan confers discretion upon the administrator in a top-hat plan, the trust principals relied on by the Supreme Court in Firestone are not present.  If following the holding in Firestone, the decision of a plan administrator with discretion to interpret and apply the plan, owing no fiduciary duties to the top-hat employees and where a conflict of interest is present, would still be subject to an abuse of discretion standard.  This hardly seems fair when top-hat employees are afforded no remedies under fiduciary duty claim and their plans are not required to be funded. This nearly renders the promises and obligations of the employer illusory.    

After the holding in Firestone, courts have grappled with whether or not to apply the abuse of discretion standard to top-hat plans because of their unique nature.  The Eight Circuit has concluded de novo review applies to top hat plans even when it give their administrators interpretive discretion because “a top hat administrator has no fiduciary responsibilities” under ERISA.  The Third Circuit has also declined to extend the holding in Firestone to top-hat plans because top-hat plans are unilateral contracts and the principals of federal common law should be applied. 

However, without a discussion distinguishing top-hat plans from ordinary ERISA plans, the Seventh and Second Circuits have held that the abuse of discretion standard articulated in Firestone applies to top-hat plans that provide the administrator with discretion.  The Ninth Circuit also held that abuse of discretion standard applies to top-hat plans with discretionary language reasoning that the application of a de novo standard does not materially change the outcome and applying a different standard to top-hat plans would create unnecessary confusion.  The Sixth Circuit sided with the Ninth Circuit’s reasoning that “the same conclusion would be reached under either standard,” although it was unclear whether it was applying that reasoning solely to the case at bar or more broadly.  The remaining Circuits have taken no position.    

Therefore, top-hat ERISA participants have a higher burden to overcome in “abuse of discretion” circuits than in “de novo” circuits.   

The Standard for Claims of Aiding and Abetting Securities Fraud

Section 20(e) of the Securities Exchange Act of 1934 allows the SEC, but not private litigants, to bring civil actions against aiders and abettors of securities fraud. The SEC may bring such an action against “any person that knowingly or recklessly provides substantial assistance to another person in violation of a provision of this chapter." 15 U.S.C. § 78t(e). Similarly, the Missouri Securities Act provides under Section 409.6-604 that the Commissioner may bring an enforcement action against a person who has materially aided, is materially aiding, or is about to materially aid an act, practice, or course of business constituting a violation of the Act.

There are no Missouri cases addressing the aiding and abetting liability under the Missouri Securities Act. However, “Missouri courts have often looked to cases decided by courts from other jurisdictions to aid in comprehending the definitional limitations of the [Missouri Securities] Act, particularly when the language of the federal and state securities statutes involved is nearly identical.” Moses v. Carnahan, 186 S.W.3d 889, 904 (Mo. App. W.D. 2006) (finding that the Missouri Securities Commissioner was justified in looking to federal cases interpreting the federal Securities Acts in construing the meaning of the term “offer” as contained in the Missouri Uniform Securities Act).

The only Eighth Circuit case to directly address aiding and abetting liability under § 20(e) of the Securities Exchange Act is S.E.C. v. Shanahan, 646 F.3d 536 (8th Cir. 2011). In that case, the court noted that to establish aiding and abetting liability , the SEC must prove (1) a primary violation of the securities laws; (2) “knowledge” of the primary violation on the part of the alleged aider and abettor; and (3) “substantial assistance” by the alleged aider and abettor in achieving the primary violation. Id. at 547 (citing K & S P'ship v. Cont'l Bank, N.A., 952 F.2d 971, 977 (8th Cir.1991), cert. denied, 505 U.S. 1205, 112 S.Ct. 2993, 120 L.Ed.2d 870 (1992)). The court also stated that “[n]egligence ... is never sufficient,” and “a bare inference that the defendant must have had knowledge” of the primary violator's transgressions is insufficient. Id. The Eighth Circuit found that the SEC failed to make its case against an outside director of a corporation because it failed to prove “knowledge” of the corporation's alleged primary violations.

In a footnote, the court noted that Section 20(e) had recently been amended to include liability for “any person that ... recklessly provides substantial assistance to another person in violation of a provision of this chapter." See Dodd–Frank Wall Street Reform and Consumer Protection Act, Pub.L. No. 111–203, § 929O, 124 Stat. 1376, 1862 (July 21, 2010), codified at 15 U.S.C. § 78t(e). However, this amendment was not applicable to the appeal before the court.

There have been no reported cases located which have addressed the "recklessly" providing substantial assistance element of an aiding and abetting claim. However, it is generally understood that reckless conduct means that the actor realized or should have realized there was a strong probability his conduct would cause the injury. It follows that "recklessly" providing substantial assistance would, at the least, amount to providing substantial assistance in situations where the actor should have realized a primary violation of the securities laws.  This of course lowers the bar for what the SEC must plead and prove in order to make a claim for aiding and abetting.

The SEC has also been aided by recent court decisions interpreting the "substantial assistance" element of an aiding and abetting claim. In S.E.C. v. Apuzzo, 689 F.3d 204 (2d Cir. 2012) cert. denied, 133 S. Ct. 2855 (U.S. 2013), the district court had found that the SEC had not adequately alleged substantial assistance.  Specifically, the court held that “the [C]omplaint contains factual allegations which taken as true support a conclusion that there was a ‘but for’ causal relationship between Apuzzo's conduct and the primary violation, but do not support a conclusion that Apuzzo's conduct proximately caused the primary violation.” Concluding that such proximate causation was required to satisfy the “substantial assistance” component of aider and abettor liability, the district court granted the motion to dismiss.

The Second Circuit found that in the context of an enforcement action by the government, where the goal is deterrence and not compensation, proximate cause is too stringent a standard to apply.  Instead, to satisfy the substantial assistance element, the SEC must allege and prove facts sufficient to show that a defendant “in some sort associate[d] himself with the venture, that he participate[d] in it as in something that he wishe[d] to bring about, [and] that he [sought] by his action to make it succeed.”  Id. at 206.  As such, the Second Circuit reversed the decision of the district court.

The Dodd-Frank amendment and the Apuzzo decision reflect enhancements to the SEC’s ability to bring aiding and abetting claims against individuals who assist in carrying out a fraudulent scheme.  Arguably a claim can now be brought even if an individual did not have actual knowledge of the primary violation and even if the individual's actions do not result in direct harm.