Two More Bernie Madoff Associates Arrested And Charged With Fraud

Bernie Madoff is in jail for 150 years for pulling off one of the most massive Ponzi schemes in history. One thing is certain: Bernie Madoff could not have acted alone to perpetrate his fraud. In recent weeks and months many of the people around Bernie Madoff have begun to fall.

In the latest episode, two of Bernie Madoff’s computer programmers were arrested on Friday in New York on charges of falsifying books and records and helping Madoff to pull off his fraudulent scheme. Jerome O’Hara, 46, and George Perez, 43, were charged with criminal conspiracy and accused of producing false documents and trading records for Bernard L. Madoff Investment Securities LLC. “O’Hara and Perez were accused of knowing that the special computer programs they developed contained fraudulent information used in U.S. and European regulatory reviews.”

The Securities and Exchange Commission also filed civil charges against O’Hara and Perez. The arrest of O’Hara and Perez brings to five (5) the number of people criminally charged in the Madoff Scandal. Hopefully, more arrests should be forthcoming.

Holding Accountants Accountable for Securities Fraud (and Silliness)

Bernie Madoff’s, accountant, David G. Friehling, admitted in federal court that he had permitted Madoff to conceal his securities fraud scheme from regulators for nearly 20 years by never actually auditing Madoff’s operation. Friehling merely accepted “whatever figures he was given and plug[ged] them into independent audit” reports. For Friehling’s candid disclosure in federal court he faces a potential statutory maximum prison term of 114 years for nine criminal charges. The criminal charges include: (1) one count of securities fraud, (2) one count of aiding or abetting investment-adviser fraud, (3) four counts of making false filings to the Securities & Exchange Commission and (4) three counts of obstructing administration of the federal tax laws.

The Bernie Madoff fraud is one of the largest Ponzi schemes in history, with thousands of victims and approximately $50 billion in estimated losses. However, Friehling insisted that he had no knowledge about Madoff’s Ponzi scheme. “He had simply trusted Mr. Madoff.” Friehling also contends that he himself also invested $500, 000 with Madoff, and he had not idea that Madoff was engaged in a fraud. Besides the three tax charges, Friehling pleaded guilty to one count each of securities fraud and investment adviser fraud and four counts of making false filings to the Securities and Exchange Commission.

Additionally, Assistant U.S. Attorney Lisa Baroni stated that from 1991 through 2008 Friehling prepared false tax returns for Madoff and “other” Madoff family members, but declined to say who those others are. The false tax returns included individual income tax returns and returns for estates and trusts.

Earlier this year, Madoff admitted to operating the Ponzi scheme under the legitimacy of his Wall Street brokerage business. Frank DiPascali Jr., Madoff’s principle assistant, pleaded guilty to creating the fictitious paper trail of office records and customer accounts that helped deceive investors for almost 20 years. Yet, Friehling who “audited” Madoff’s brokerage firm operations, one of the biggest wholesale market-makers on Wall Street, and prepared Madoff’s personal taxes had not idea that there was fraud afoot. Hmmmmm? This really all sounds rather silly.

Friehling, a certified public accountant, created false and fraudulent certified financial statements from 1991 to 2008. Friehling knew that he failed to conduct independent audits of Madoff’s brokerage operations for almost 20 years. Friehling also knew that he failed to follow generally accepted accounting principles by merely accepting the information given to him by Madoff at "face value" without confirming the information. Friehling further knew that Madoff investors were relying on his “independent certified audits” in the mix of information that investors rely upon in deciding whether to invest in a particular investment. Friehling’s “independent certified audits” were material information that investors, federal regulators and taxing authorities relied upon for the truth and accuracy. Friehling futher stated that “in what is surely the biggest mistake of my life, I placed my trust in Bernard Madoff." In response to Mr. Friehling, I do not think that he made a mistake, I think he engaged in a crime for almost 20 years.

The Supreme Court, in TSC Industries, Inc. v. Northway, Inc., 426 U.S. 438, (1976), articulated a legal standard for materiality. The Supreme Court held that the materiality element is met if there is "a substantial likelihood that the disclosure of the omitted fact would have been viewed by the reasonable investor as having significantly altered the `total mix' of information made available." Additionally, SEC Staff Accounting Bulletin 99 - Materiality ("SAB 99") states that the FASB's Financial Accounting Concepts No. 2 defines materiality as “the omission or misstatement of an item in a financial report is material if, in light of surrounding circumstances, the magnitude of the item is such that it is probable that the judgment of a reasonable person relying upon the report would have been changed or influenced by the inclusion or correction of the item.” When the Supreme Court’s materiality standard in TSC Industries, Inc. is juxtaposed against SAB 99, it is clear that Friehling’s failure to conduct any audit of Madoff’s investment firm and fraudulent filing of financial statement with the SEC for almost 20 years violated federal securities laws and is a crime. More importantly, it makes Friehling’s conduct given the legal and accounting standards under which he was required to conduct a full and complete audit of Madoff’s operations, almost silly. Silly in terms of the absolute absurdity of Friehling not even attempting to verify any of Madoff’s numbers given the enormity of Friehling’s duty under the federal securities regulation and accounting standards.

Therefore, it is not surprising that Friehling agreed to forfeit $3.18 million to the U.S. Attorney’s Office, as part of his criminal plea bargain and agreed to a partial settlement in the SEC's separate civil case. Friehling, further agreed to a permanent injunction restraining him or his accounting firm from violating securities laws. Friehling and his firm will be precluded from arguing that they didn't violate federal securities laws as alleged by the SEC for the purposes of determining disgorgement and any penalties. Friehling sentence is scheduled for late February 2010.

Bernie Madoff's Family Members Sued For $199 Million

Yesterday, Irving Picard, the court-appointed trustee in the Bernie Madoff bankruptcy case, filed a lawsuit to recover $199 million from four (4) members of Bernie Madoff’s family for investors defrauded in Bernie’s Ponzi scheme. Picard sued Peter Madoff, Bernie’s younger brother; Shana, Bernie’s niece, and Peter’s daughter; and Bernie’s two sons Mark and Andrew Madoff. Peter Madoff was the Chief Compliance Officer at Madoff Securities. Shana was the compliance director. Bernie’s sons Mark and Andrew were co-directors of trading at Madoff Securities. Picard alleges in his Complaint that these four (4) individuals were “completely derelict” in carrying out their duties at Madoff Securities. As a result of their dereliction of duty, they failed to detect and stop Bernie Madoff’s fraudulent Ponzi scheme.

The gist of Picard’s Complaint is that these four (4) members of Bernie Madoff’s family lavished themselves in luxury and financed business ventures from ill-gotten profits stemming from Bernie’s Ponzi scheme. In essence, the Madoff family members used Madoff Securities was a personal piggy bank. Recall, I wrote about a similar lawsuit that Picard filed several weeks ago against Ruth Madoff to recover $44 million. Undoubtedly, the net is beginning to surround and ensnare Bernie Madoff’s family and inner-circle. We will have to see how all of this plays itself out. I’ll keep you posted.

Inspector General Issues Madoff Report: SEC Criticized For Investigatory Failure

Recently, the Office of Inspector General (“OIG”) issued a Report of Investigation into the Securities and Exchange Commission (“SEC”) failure to investigate and uncover Bernard Madoff’s Ponzi scheme. The Report finds that no SEC personal had any financial or other inappropriate relationship that hindered their investigatory duties. However, the Report openly criticizes the SEC for failing to adequately investigate six (6) separate substantive complaints that should have raised red flags concerning Madoff’s operation. Additionally, the OIG’s Report indicates that the SEC further ignored two (2) published articles that should have called Madoff’s operations into question.

The Report notes:

“The OIG investigation did find, however, that the SEC received more than ample information in the form of detailed and substantive complaints over the years to warrant a thorough and comprehensive examination and/or investigation of Bernard Madoff and BMIS for operating a Ponzi scheme, and that despite three examinations and two investigations being conducted, a thorough and competent investigation or examination was never performed. The OIG found that between June 1992 and December 2008 when Madoff confessed, the SEC received six…substantive complaints that raised significant red flags concerning Madoff’s hedge fund operations and should have led to questions about whether Madoff was actually engaged in trading. Finally, the SEC was also aware of two articles regarding Madoff’s investment operations that appeared in reputable publications in 2001 and questioned Madoff’s unusually consistent returns.”

In face of all the red flags, the SEC clearly failed in its role as securities industry watchdog. The Madoff Report is interesting reading, and well worth the time and effort. At the end of the day, the OIG's Report chronicles how the SEC botched the investigation of Madoff, and postponed his day of atonement some sixteen (16) years.

Hopefully, the SEC has learned some valuable, albeit embarrassing lessons, that it won’t soon repeat. The lesson learned: Regulators don’t fall asleep on your watch the general public is relying upon you to do your job. To err is human. We all make mistakes. However, this has been one of the costliest mistakes resulting from a failure of oversight that we will hopefully see for some time to come.

The Wages of Sin: Ruth Madoff and Bernie's Money Trail

Last week I posted a piece on the Corporate Justice Blog about affinity fraud and the Bernie Madoff scandal. Well, the drama surrounding Bernie Madoff does not cease. A couple of days ago, Ruth Madoff, the wife of Bernie Madoff, was a major item in the news.

As it turns out, Irving Picard, theTrustee appointed to liquidate Bernie's business assets filed suit against Ruth Madoff to recapture and recoup upwards of $45 billion transferred to Ruth Madoff, or companies she controlled, for her own personal benefit. In his Bankruptcy Court filing, Mr. Picard detailed 111 alleged fraudulent transactions and conveyances to Ruth Madoff.

As part of his 150 year sentence, Bernie Madoff forfeited most of his personal assets. The government did not contest Ruth Madoff's claim to $2.5 million. Ruth Madoff continues to enjoy substantial advantage and a relatively lavish lifestyle compared to the individuals and charities that were defrauded by Bernie Madoff, her husband.

The sins of the father are often the sins of the son/daugther. Are the sins of the husband the sins of the wife? This remains to be seen. Will Ruth Madoff have to atone for Bernie's sins? We shall see. Will we ever sort out the Bernie Madoff money trail? We'll find out. I'll keep you posted.

AFFINITY FRAUD: INVESTOR BEWARE!!!

Affinity Fraud: A Major Problem that the General Public Knows Little About

With the large downtick in the economy, there has been a noticeable uptick in fraudulent activity. INVESTOR BEWARE!!! Recently, Securities and Exchange Commission (“SEC”) Commissioner Luis Aguilar delivered a speech in Atlanta on May 28, 2009, at the Third Annual Fraud and Forensic Accounting Education Conference where he talked about fraud at home and abroad. Commissioner Aguilar spent time in his speech talking about affinity fraud and Bernie Madoff’s Ponzi Scheme. When you utter the words “affinity fraud” to most members of the general public you undoubtedly draw a blank and a puzzled expression. What is affinity fraud? Well, affinity fraud is the name given to a fraudulent scheme that targets members of a specific demographic. Victims of affinity fraud are often targeted because of their race, ethnicity, age, class, gender, national origin, religion, immigrant status, social, cultural, or professional affiliations. Affinity fraud organizers portray themselves as members of the targeted group or as individuals who can relate to members of the group in order to garner the group member’s trust and money.

Peeling back the layers, Ponzi and Pyramid schemes often exhibit elements of affinity fraud in that a particular demographic is targeted and victimized. A Ponzi scheme is a fraudulent investing scam promising high rates of return with little risk to the investor. The Ponzi scheme generates returns for old investors by acquiring new investors. Eventually, Ponzi schemes collapse when new investors can no longer be acquired. A Pyramid scheme is an illegal investment scam based on a hierarchical setup. “New recruits make up the base of the pyramid and provide funding, or so-called returns, given to the earlier investors/recruits above them.”

The dialogue in an affinity fraud scheme is often basic. “You can trust me because I’m African-American just like you,” the scam artist will often say. The affinity label or demographic identification can go on and on and on. “I’m a Baptist like you.” “I’m a member of your fraternity.” “You know you can trust me because I’m elderly like yourself.” I think you get the picture. The scam artist will conclude by saying “because we share the same experience and background invest your money with me, I’ll get you a fabulous return.”

Affinity fraud has become such a large problem that recently the SEC publicized the problem in a publication designed to educate the public. Affinity fraud is on the radar screen of state regulators, securities and corporate commissions, and attorneys general. Indeed, affinity fraud schemes have been uncovered in Canada, Australia, and New Zealand and throughout the world.

Bernie Madoff and Affinity Fraud

In recent months, unless you have been living under a rock, or lived on a deserted island as a result of a plane crash, we have all heard the name Bernard “Bernie” Madoff at least mentioned and discussed. One thing is certain: Bernie Madoff will live in infamy!!! Usually, in legal circles we lament the leniency of white collar crime sentences. In June, Bernie Madoff was sentenced to 150 years in prison. This month, Madoff was moved to a federal prison in North Carolina, to serve his sentence for his part in a $50 billion Ponzi scheme. This represented an extremely harsh and unprecedented sentence for a white collar crime. United States District Court Judge Denny Chin had no remorse for the 71 year-old Madoff, and balked at the 12 year sentence suggested by Madoff’s lawyers based on his age. Perhaps this time for a white collar criminal, the time fit the crime.

Madoff’s “client” or “victim” list ran over 160 pages in length and included over 13,500 names. The Madoff scandal amounts to “…a $50 billion Ponzi scheme that preyed heavily on fellow Jews and ultimately drained the fortunes of numerous Jewish charities and institutions.” One important factor lost in the Madoff scandal is how he used his religious affiliation and background to target other Jews who trusted him. In some ways, Madoff exploited his religion to extend his fraudulent scheme.

Examples of Recent Affinity Fraud Schemes Investigated by the SEC

A selected group of recent affinity fraud schemes uncovered by the SEC include the following:

Ponzi scheme solicited elderly members of Jehovah’s Witnesses congregations
The SEC complaint alleges that the defendants operated a Ponzi scheme and used investor funds to pay lavish personal expenses. The defendants raised over $16 million from more than 190 investors nationwide. Many of the victims were elderly members of Jehovah’s Witnesses congregations and were promised returns of up to 75 percent.

Ponzi scheme targeted African-Americans and Christians
Defendants perpetrated an affinity fraud, raising at least $16.5 million from mostly African-Americans and Christians by falsely representing they would receive returns through investments in, among other things, real estate, small businesses, and "markets of the world."

"Church Funding Project" costs faithful investors over $3 Million
This nationwide scheme primarily targeted African-American churches and raised at least $3 million from over 1000 investing churches located throughout the United States. Believing they would receive large sums of money from the investments, many of the church victims committed to building projects, acquired new debt, spent building funds, and contracted with builders.

125 members of various Christian churches lose $7.4 million
The fraudsters allegedly sold members non-existent "prime bank" trading programs by using a sales pitch heavily laden with Biblical references and by enlisting members of the church communities to unwittingly spread the word about the bogus investment.

Practical Advice on How to Avoid Affinity Fraud

Often, regulators and governmental authorities move in too late to protect the general public from affinity fraud. The Madoff scandal is a prime example of the late and ineffectual policing of affinity fraud schemes on the part of governmental actors. Ironically, the SEC thought it was important to educate the public about affinity fraud; but ignored or failed to investigate concrete allegations against Madoff that had been brought to the SEC’s attention months and years before the Madoff scandal became public knowledge. The government can’t always help you avoid affinity fraud. YOU MUST PROTECT YOURSELF FROM AFFINITY FRAUD. Here are some tips and suggestions to follow:

· Make sure that the seller/promoter and investment are registered and licensed in your state. Call your state securities regulator.

· Seek the advice of a neutral professional, not affiliated with the investment or group, who you trust to evaluate the risks and merits of the investment. This could be an attorney, accountant, or financial planner you trust.

· Investigate all statements and representations, even those coming from friends or loved ones; after all they may have been duped themselves. Do your own due diligence.

· Be extremely cautious of investments that are “no-risk” offer or “spectacular” and “guaranteed” profits and returns. VIRUTALLY ALL INVESTMENTS INVOLVE RISK. If it is too good to be true, it probably is too good to be true.

· Get it in writing! If an investment is not described in writing this should raise a major red flag. If someone tells you to keep an investment confidential, be cautious. Obtain a prospectus or other written information on the investment.

· Scam artists are tech-savvy. Watch out for unsolicited emails from people you don’t know that introduce you to an investment opportunity.

· Take your time to investigate. Don’t feel pressured to rush into an investment before you have had time to think about it. “Once in a lifetime” opportunities may ruin your financial life and well-being.