RICO — Operation and Management — Need to Show Degree of Cooperation Beyond Bounds of Normal Commercial Relationships — Test for Lower Level Participants: Fungible or Essential Role — Acting in Individual vs. Enterprise’s Interest
Nesbitt v. Regas, 2015 U.S. Dist. LEXIS 35552 (N.D. Ill. Mar. 20, 2015):
Plaintiff Diane Goldring Nesbitt ("Goldring") brings this action against eleven defendants, alleging that each played a role in a fraudulent scheme that resulted in substantial losses to Goldring. She asserts violations [*2] of the Racketeer Influenced and Corrupt Organizations ("RICO") Act Section 1962(c) against all defendants ("Count I"), RICO conspiracy claims against James Regas, Christian Nesbitt, Regas, Frezados & Dallas LLP, and Adams Valuation Corporation ("Count II"), as well as four state law counts relating to the alleged fraud. ***
For the reasons that follow, the motions by Allyson Regas (Dkt. 27) and Regas, Frezados & Dallas, LLP (Dkt. 32) are granted, and both Count I and Count II are dismissed against these movants without prejudice.
This case arises out of two bank failures caused by an unlawful insider loan scheme. In 2009, the Illinois Department of Financial and Professional Regulation closed Mutual Bank of Harvey ("Mutual Bank"), and the Federal Deposit Insurance Corporation ("FDIC") was appointed its receiver. Also in 2009, the Office of the Comptroller of the Currency ("OCC") restricted the operations of Western Springs Bank and Trust Co. ("WS Bank"), [*4] and entered into a consent decree. Eventually, in 2011, the FDIC shut down WS Bank, as well. Investigation of the records of both banks revealed extensive use of unlawful insider loans involving James Regas and his family members, who were insiders for both banks. James Regas was Chairman of WS Bank and Vice-Chairman of Mutual Bank, as well as outside general counsel for both banks.
The insider loans scheme involved Regas2 using his position within the banks to approve illegal insider loans while obscuring the creditworthiness of the borrowers, concealing his own interest in the loans, inflating the appraised values of the real property securing the loans, and siphoning off funds for his own use. In order to do so, Regas and his longtime business partner Christian Nesbitt arranged for the law firm of Regas, Frezados, and Dallas, LLP ("RFD") to create business entities nominally under the control or ownership of Regas's children or Nesbitt's wife, Plaintiff Diane Goldring.3 In reality, however, these entities were not legitimate business entities at all, and were instead sham entities under the control of Regas and Nesbitt. Nesbitt and Regas arranged for these entities to purchase real [*5] properties using funds loaned by the victim banks, using Regas's position as an insider at these banks. Nesbitt and Regas also arranged for Adams Valuation Corporation ("Adams Valuation") and its president Douglas Adams to systematically overvalue these real properties in its appraisals so that the sham entities could qualify for larger loans. Also, Nesbitt and Regas would arrange for Regas's son Dean Regas and Nesbitt's wife Goldring to unwittingly sign guarantees for these loans without knowing that the property values were inflated, that the loans did not go through proper underwriting procedures, or that the banks were unaware of Regas's self-dealing. Regas would ensure that the banks approved the loans without following proper underwriting procedures by using his influence, with fellow bank officers Allyson Regas and Jerry F. Miceli, to pressure bank employees into approving the loans without following proper procedures. RFD would then represent all parties (the victim banks, guaranty victims like Goldring and Dean Regas, and the sham entities) in performing the legal work relating to the purchase and financing of these overvalued properties. Nesbitt and Regas would then skim [*6] off funds from the sham entities for their own personal use.
2 There are four individual defendants named "Regas" in this case: James Regas, his brother Peter Regas, and his two daughters Suzanne and Allyson Regas. In addition, Goldring is suing the law firm of Regas, Frezados & Dallas LLP. Because James Regas is the alleged leader of the scheme, this Opinion will refer to James Regas as "Regas" and to his family members by their full names.
3 Goldring's full name is Diane Goldring Nesbitt, but because she refers to herself as "Goldring," so does the Court. "Nesbitt" in this Opinion refers to Christian Nesbitt.
Goldring alleges that this basic scheme was executed multiple times. In October 2001, Regas directed RFD to create Baybrook Bristol LLC for the purpose of holding title to 32 acres of land, which was used to secure a loan from either Mutual Bank or WS Bank. In October 2004, Regas formed Hanover Capital Group, Inc. to purchase and purportedly develop 110 acres of land using loans from WS Bank or Mutual Bank. In November 2004, Regas formed Jefferson Capital Group, Inc. to purchase and develop 925 Edgemere Court in Evanston, Illinois, which was used to secure $5.7 million in loans from [*7] Mutual Bank. Ultimately, the Edgemere property was sold with a loan deficiency of $3.2 million. In December 2004, Regas created 1104 Sheridan LLC with plans to devote $1 million to develop a property at 1104 Sheridan.4 In January 2005, Regas created SDAR LLC for development of multiple pieces of property in St. Francis, Wisconsin, and arranged for loans from Mutual Bank or WS Bank. In June 2005, Regas created 7500 Kenosha to purchase and develop property in Bristol, Wisconsin, and arranged for a $2.5 million loan from Mutual Bank. In May 2006, Regas formed 913 Forest-Evanston LLC, which purchased a $2.2 million property ("Forest Property") that was used to secure a $3.0 million purchase loan, which was later expanded to $3,425,500. Ultimately, the Forest Property was sold with a loan deficiency of $3.4 million. Also in May 2006, Regas formed Damen, Fullerton, Clybourn LLC to purchase and develop a property in Chicago. In September 2007, Regas formed 917 Edgemere LLC to purchase a property in Evanston, Illinois.
4 The complaint does not describe the municipality in which the 1104 Sheridan is located.
While executing this multi-year scheme, Regas and Nesbitt once arranged for Goldring to [*8] guarantee another loan under false pretenses and to personally lend $200,000 to her husband--which was falsely listed in bank records as a "correction offset," presumably to conceal the broader scheme. Eventually, the victim banks collapsed, and government investigators pieced together much of the information relating to the scheme. In June 2012, the federal government indicted Regas for his participation in the scheme. Regas pled guilty to lying to government agents and admitted that between 2004 and 2009 he repeatedly arranged for unlawful insider loans so that he could use bank funds for his own benefit while concealing the improper conflicts of interest.
After the banks collapsed, Goldring discovered that she was exposed to considerable guaranty liability on these loans, which she discovered were undersecured because of the inflated appraisal values on the collateral.5 As a result, Goldring suffered losses in the form of three seven-figure judgments (Goldring has to date paid $200,000 in settling two out of the three judgments), the $200,000 personal loan to Nesbitt, approximately $150,000 in legal fees and costs, and approximately $25,000 in other indebtedness caused by the scheme. [*9] Goldring filed this lawsuit, alleging a substantive civil RICO claim (Count I), RICO conspiracy claim (Count II), claim under Illinois Deceptive Business Practices Act (Count III), Fraudulent Inducement (Count IV), Fraud (Count V), and Aiding and Abetting a Fraud (Count VI). Defendants James Regas, Allyson Regas, and Suzanne Regas have each moved individually to dismiss the complaint.6 RFD, Peter Regas, Peter Frezados, and William Dallas ("the Law Firm Defendants") have moved jointly to dismiss the complaint, as have Adams Valuation and Douglas Adams ("the Appraiser Defendants").7
5 In his brief, Regas repeatedly belittles Goldring's claims as the product of domestic disputes she should have taken up with her (now former) husband, Nesbitt, and implying that because the insider loan scheme was not aimed at her, she cannot now sue defendants with whom she has never had any relationships, "legal or otherwise." He stops short, however, of asserting that she has no claim on that basis, however, and for at least two good reasons. First, because she was sued, and judgments were entered against her as a guarantor on a number of these undersecured loans, Goldring was (assuming her allegations to [*10] be true) indeed a direct victim of the fraud who relied on misrepresentations made in furtherance of the scheme. And second, even if that were not the case, "no showing of reliance is required to establish that a person has violated § 1962(c) by conducting the affairs of an enterprise through a pattern of racketeering activity consisting of acts of mail fraud." Bridge v. Phoenix Bond & Indem. Co., 553 U.S. 639, 649 (2008).
6 Suzanne Regas has also filed a motion to quash service on the basis that she was never properly served, but in the alternative has joined her codefendants' motions to dismiss.
7 Christian Nesbitt answered the complaint.
II. Elements of a § 1962(c) Claim
The Court now turns to the defendants' motions to dismiss. Goldring alleges that she is entitled to recover under RICO's civil cause of action because she has been injured by the defendants' RICO violations. Specifically, Goldring alleges that the defendants violated RICO Section 1962(c), which states:
(c) It shall be unlawful for any person employed by or associated with any enterprise engaged in, or the activities of which affect, interstate or foreign commerce, to conduct or participate, directly or indirectly, [*21] in the conduct of such enterprise's affairs through a pattern of racketeering activity or collection of unlawful debt.
18 U.S.C. § 1962(c). As the Supreme Court has explained, a § 1962(c) violation has four elements: "(1) conduct (2) of an enterprise (3) through a pattern (4) of racketeering activity." Sedima, S.P.R.L. v. Imrex Co., Inc., 473 U.S. 479, 496 (1985) (footnote omitted). Further, a plaintiff in a civil RICO action must show that she suffered an injury proximately caused by the substantive RICO violation. James Cape & Sons Co. v. PCC Const. Co., 453 F.3d 396, 403 (7th Cir. 2006) (citing Anza v. Ideal Steel Supply Corp., 547 U.S. 451, 457 (2006)).
A. "Conduct of an Enterprise"
The "conduct" and the "enterprise" elements of a § 1962(c) violation are closely related, and determining the "conduct" of the enterprise first requires the determination of what the alleged enterprise is and who its members are. Therefore, the Court first analyzes what the structure and identity of the enterprise and who its members are, and then analyzes the allegations against each defendant to determine whether they participated in the "conduct" of that enterprise.
1. The Enterprise
Enterprises can be formal associations with a clearly defined legal structure, such as a corporation, partnership, or other business entity, or enterprises can be informal associations of persons, sometimes referred to as "association-in-fact" enterprises. [*22] Goldring asserts that the defendants comprised an association in fact enterprise that "did not go by a specific name." Compl., Dkt. 1, at ¶ 64. She alleges that the racketeering enterprise "acted as a continuing and cohesive unit," the primary objective of which was to "illegally steal funds belonging to the Banks and to make other unwitting third parties--and not themselves--legally responsible in the event that any of the fraudulent loans . . . were not repaid." Id.
An association-in-fact enterprise must have an ascertainable structure with "three structural features: a purpose, relationships among those associated with the enterprise, and longevity sufficient to permit these associates to pursue the enterprise's purpose." Boyle v. United States, 556 U.S. 938, 946 (2009). The Supreme Court in Boyle rejected inferring additional structural requirements, such as a "hierarchical structure," "fixed roles" for its members, "name, regular meetings, dues, established rules and regulations, disciplinary procedures, or induction or initiation ceremonies." Id. at 948. In doing so, the Supreme Court abrogated a body of Seventh Circuit case law that required RICO enterprises to have a more discernable structure through hierarchical organization or leadership. [*23] See Jay E. Hayden Found. v. First Neighbor Bank, N.A., 610 F.3d 382, 388 (7th Cir. 2010) ("But the Supreme Court's recent decision in Boyle v. United States throws all in doubt.") (internal citation omitted). Thus, pleading the existence of an enterprise does not require allegations that plausibly establish anything more than the three structural features listed in Boyle.
None of the defendants seriously, or effectively, argues that the complaint's allegations are sufficient to satisfy Boyle's three structural requirements, so a brief review of the facts supporting each requirement necessary to plausibly allege the existence of an enterprise will suffice.13 Goldring alleges that the enterprise had a common purpose of enriching the defendants--especially Regas and Nesbitt--at the expense of WS Bank, Mutual Bank, Regas's son Dean Regas, and Goldring herself. Compl., Dkt. 1, at ¶¶ 1-2, 4-5. The complaint adequately alleges relationships between Regas and Nesbitt, who were longtime business partners and controlled multiple business entities together. Id. at ¶¶ 3, 6. Further, Regas had longstanding family and business relationships with Allyson Regas, Peter Regas, Suzanne Regas, the RFD firm and its partners, who in turn had family and business relationships with one another. [*24] Id. at ¶¶ 19-24, 28-29, 31. The complaint also alleges that the Adams defendants had relationships with each other and with Regas. Id. at ¶¶ 36-38, 40-41. The third Boyle requirement, longevity sufficient to achieve the enterprise's purpose, is met by the complaint's allegation of an eight-year scheme involving at least seven illegal loans and five sham business entities. See id. at ¶¶ 31(a), (c), (f), (g), 44-45, 52, 58, 60; Pl.'s Resp., Dkt. 42, at 8-9.
13 The Adams defendants briefly argue that the complaint does not establish "even the existence of a RICO enterprise under a common goal," but does not expand on this argument further, as the rest of the paragraph argues that Adams did not share in any profits of the purported scheme. Adams Br., Dkt. 30, at 7 (citing Baker v. IBP, Inc., 357 F.3d 685, 691 (7th Cir. 2004)). Profits are not a Boyle requirement, and the profit-sharing argument is analyzed separately below.
2. Conduct of the Enterprise's Affairs
Boyle may have confirmed that the definition of a RICO "enterprise" is expansive, but the Seventh Circuit has since clarified that Boyle did not do away with the requirement that a plaintiff prove that the defendant "person" be a distinct entity from the "enterprise" or that the defendant [*25] used the enterprise to further an illegal scheme. See United Food & Commercial Workers Unions & Emp'rs Midwest Health Benefits Fund v. Walgreen Co., 719 F.3d 849, 853-54 (7th Cir. 2013) ("Section 1962(c) requires a plaintiff to identify a 'person'--i.e., the defendant--that is distinct from the RICO enterprise. And that 'person' must have 'conducted or participated in the conduct of the "enterprise's affairs," not just [its] own affairs.'") (internal citations omitted); Jay E. Hayden Found., 610 F.3d at 389 ("Even so, the RICO offense is using an enterprise to engage in a pattern of racketeering activity."). A RICO complaint--especially one that alleges an association-in-fact enterprise where the distinctions between the alleged "enterprise" and the individual defendants may not be clear--must allege that the defendant acted on the enterprise's behalf, rather than merely serving the defendant's own, individual, interests. See, e.g., Walgreen Co., 719 F.3d at 854-855 (drug manufacturer and pharmacy did not conduct affairs of an enterprise where complaint failed to set forth how alleged drug-switching scheme advanced enterprise interests independent of the defendants' respective individual interests); Crichton v. Golden Rule Ins. Co., 576 F.3d 392, 400 (7th Cir. 2009) (holding that a marketing arrangement by which an insurance company targeted a membership organization's members for fraud would not suffice to suggest that either the insurance company or the membership [*26] organization acted on behalf of any shared enterprise); Richmond v. Nationwide Cassel L.P., 52 F.3d 640, 647 (7th Cir. 1995) (finding that defendants were not distinct from an association-in-fact enterprise when the complaint alleged only that the defendants defrauded the plaintiff directly, without the participation of other enterprise members).
To conduct, or participate in the conduct of, the affairs of an enterprise, a defendant must "participate in the operation or management of the enterprise itself." Reves v. Ernst & Young, 507 U.S. 170, 183 (1993). That does not mean, however, that § 1962's reach is limited to those who were calling the shots; the Reves Court also noted that an enterprise also may be operated "by lower-rung participants . . . who are under the direction of upper management." Id. at 184; see also MCM Partners, Inc. v. Andrews-Bartlett & Assocs., Inc., 62 F.3d 967, 978-79 (7th Cir. 1995) (reversing dismissal of § 1962(c) claim against low-level firms who carried out directions of other members of the enterprise). Operation and management of an enterprise does not, however, include an outsider acting as "merely a hireling," Bachman v. Bear, Stearns & Co., 178 F.3d 930, 933 (7th Cir. 1999).14 Under Reves, "a RICO enterprise may be operated at least by upper management, lower-rung participants in the enterprise who are under the direction of upper management, or others associated with the enterprise who exert control over it . . . .'" MCM Partners, 62 F.3d at 977 (internal quotation [*27] omitted).
14 Goldring argues that the holding in Bachman has been limited by the Seventh Circuit's later ruling in United States v. Sheneman, 538 Fed. App'x. 722 (7th Cir. 2013), which observed that a defendant who does not directly receive any disbursed funds from a wire fraud scheme may still be guilty of wire fraud when he intentionally participates in a scheme to enrich another co-schemer. Id. at 723--24. Goldring's reliance on Sheneman is misplaced for three independent reasons. First, the issue discussed in Sheneman was whether a person could be guilty of wire fraud without receiving any proceeds, not whether a participant who only receives its normal fees participated in the "operation or management" of a RICO enterprise. See id. Second, the language cited by Goldring is dicta and is not binding on this court. See id. at 723 (noting that the evidence at trial "showed that Sheneman did receive $360,000 directly from the property sales, plus more than $600,000 his [co-conspirator] gave him."). Finally, Sheneman was an order published in the Federal Appendix, not an opinion published in the Federal Reporter, so even the holding would not be binding on this court. See 7th Cir. R. 32.1 ("Orders, which are unsigned, are released in photocopied form, are not published in the Federal [*28] Reporter, and are not
treated as precedents.").
To meet this standard with respect to an association in fact enterprise, the complaint must therefore plead facts plausibly alleging that the defendants engaged in a degree of cooperation and coordination "that fell outside the bounds of the parties' normal commercial relationships." Walgreen Co., 719 F.3d at 856; see also In re Insurance Brokerage Antitrust Litig., 618 F.3d 300, 378 (3d Cir. 2010) (holding that members of an enterprise "participated in the operation or management of the enterprise itself" by "commit[ing] [violations] that they [could not] accomplish alone" in a coordinated bid rigging scheme) (quoting Reves, 507 U.S. at 183; Gregory P. Joseph, Civil RICO: A Definitive Guide 332 (3d ed. 2010)).
An important factor in assessing whether a defendant can be deemed to have participated in the enterprise's affairs, rather than its individual affairs, is whether the scheme's success depended on a particular defendant's knowing cooperation, or whether that particular defendant played a fungible role that could have been performed by outsiders. Compare Insurance Brokerage, 618 F.3d at 378 (finding each participant in bid-rigging to be acting on behalf of the enterprise because the scheme could not succeed without all bidders colluding), and MCM Partners, 62 F.3d at 979 (finding lower-rung participants to be "vital" to the scheme's [*29] success because "only they had the ability" to effectuate the scheme), with Reves, 507 U.S. at 186 (no "operation or management" for outside auditor hired to prepare financial reports), Walgreen Co., 719 F.3d at 856 (no "operation or management" of enterprise, despite both participants knowing of the other's role, when pharmacy could have accomplished its role in the scheme without the drug manufacturer's knowledge, and drug manufacturer could have accomplished its role in the scheme with any pharmacy chain), and Goren v. New Vision Int'l, Inc., 156 F.3d 721, 727-28 (7th Cir. 1998) (no "operation or management" for granting a license of one's own name and likeness to promote enterprise or distributing promotional materials for the enterprise).15
15 This line of demarcation does not fully explain the Seventh Circuit's reasoning in Jay E. Hayden Foundation v. First Neighbor Bank, 610 F.3d 382 (7th Cir. 2010). In that case, the Seventh Circuit held that there was no use of an enterprise by bank employees who helped conceal a long-running embezzlement scheme. See id. at 384--85, 389. That case can be distinguished on another basis because the predicate acts of racketeering were committed by a single conspirator acting on his own behalf, so the Seventh Circuit determined that the defendants, in covering up that leading conspirator's actions, "did not use the conspiracy (the enterprise); they were the conspiracy." [*30] Id. at 389.
Even gross departures from industry practice may not be enough to show more than an ordinary commercial relationship, if there is another business reason for the hired outsider's actions. See Walgreen Co., 719 F.3d at 854 ("[N]othing in the complaint reveals how . . . these communications or actions were undertaken on behalf of the enterprise as opposed to on behalf of [the alleged participants] in their individual capacities, to advance their individual self-interests."); D.M. Robinson Chiropractic, S.C. v. Encompass Ins. Co. of Am., No. 10 C 8159, 2013 WL 1286696, at *10 (N.D. Ill. Mar. 28, 2013) ("Though Plaintiffs make much of the fact that Mitchell was interested in retaining Allstate's business, a vendor's interest in retaining its business relationship is neither unusual nor suspicious.").
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