Too bad so sad, Greedy Orlando Congressman (D) Alan Grayson loses millions in Ponzi scheme.
DemoRat Karma
U.S. Rep. Alan Grayson, known on Capitol Hill for aggressively
questioning key players in the nation�s financial crisis, has
suffered a �financial disaster� of his own, he confirmed to WKMG
Local 6.
Grayson, D-Orlando, fell victim to a billion-dollar Ponzi scheme
operated by Derivium Capital, a South Carolina firm that a
federal jury ruled in February defrauded Grayson of $34 million -
- an amount equal to more than half of Grayson�s 2008 net worth.
�It was very much like the Bernie Madoff situation,� said
Grayson, who�s had Madoff�s Ponzi scheme in his crosshairs from
his seat on the House Financial Services Committee.
In February, Grayson�s Washington office issued a press release
criticizing Madoff�s �penthouse arrest,� calling for the
swindler to be jailed while awaiting sentencing.
And in video played thousands of times on YouTube, Grayson on
Feb. 4 facetiously asked a financial expert who tried in vain to
warn regulators about Madoff�s scheme: �You referred to this
several times as a Ponzi scheme. Is that some newfangled thing?�
Of course, Grayson knew better: at the exact time he spoke on
Capitol Hill, his lawyers were in a South Carolina courtroom
arguing he was a victim of just such a scheme.
�What happened to the victims in Madoff is the same thing that
happened to me,� Grayson told Local 6 in an interview Monday. �I
lost millions of dollars.�
Scam's most frequent customer
Between 2000 and 2005, Grayson was the most frequent participant
in Derivium�s �90-percent stock-loan� program, transferring
about $29 million in stocks to Derivium and promptly receiving
90 percent of it � about $26 million � back in cash as �stock
loans,� according to his court filings.
In that sense, he lost only about $3 million out of pocket.
But Derivium had promised to pay Grayson profits on his stocks,
if they appreciated enough over the three-year loan period to
cover the amount of his �stock loans� plus interest. And Grayson
picked some lucrative stocks. His $34 million in damages is
based on the profits he should have received on stocks that rose
in value � had Derivium not run out of cash and filed for
bankruptcy.
(2 of 8)
In all, about 800 clients provided about $1 billion in stocks
they owned in various companies to Derivium Capital and its
associates. The firm claimed their clients did not have to pay
capital gains taxes on the transfers of stock.
But the Internal Revenue Service has another opinion, alleging
Derivium was an illegal tax evasion scheme used by some of its
wealthy clients to evade paying an estimated $235 million in
income taxes.
Grayson said he is not one of those clients accused of tax
evasion. �The difference is they broke the law and I didn�t,� he
said.
A review of public court documents by Local 6 found no evidence
Grayson is accused or suspected of any wrongdoing.
Unlike those Derivium clients who evaded capital gains taxes
through their stock loans, Grayson did not hold the vast
majority of his stocks long enough to accrue any significant
taxable capital gains, according to Grayson, court records and
interviews with sources familiar with the case.
�I took these loans in order to make money,� Grayson told Local
6. �My taxes were reported accurately year after year without
any question.� If anything, he said, �the scheme made my taxes
higher rather than lower,� because of losses he incurred.
Fraud, tax scheme�or both?
In February 2007, Grayson filed a fraud and racketeering lawsuit
against Derivium Capital and its associates in federal court in
South Carolina. After a nearly month-long trial, on Feb. 26,
2009, a jury returned a $270 million verdict in favor of
Grayson, several other former Derivium clients and a bankruptcy
trustee. Grayson�s damages were set at $34 million.
�The judge and the jury could not have reached a more favorable
conclusion from our point of view. They literally gave us every
single penny we asked for,� Grayson said.
The South Carolina jury found Grayson and the others were
victims of fraud and racketeering.
At the same time, across the country, the federal government was
calling Derivium a tax-fraud scheme.
In a lawsuit filed in San Francisco in September 2007 against
Derivium and its associates, the government claims Derivium
illegally helped some of its wealthy clients evade nearly $235
million in capital gains taxes.
(3 of 8)
In a February 2009 hearing, a U.S. Justice Department tax
attorney told a federal magistrate he believes all of the 270
Derivium clients audited so far by the IRS were found to have
used the loans as an abusive tax shelter. He did not identify in
court any of those audited, nor would he comment to Local 6
about the investigation.
But U.S. Magistrate Judge Joseph Spero said during that February
hearing, �Apparently, there�s no conclusion in any of those
audits that it was not an abusive tax shelter.�
Grayson said he was not one of those audited, adding the IRS
knows �very well what�s in my tax returns and they know if they
did audit me, they�d end up owing me money.�
The IRS is asking the court to rule Derivium and its associates
�interfered� with tax collections through their �tax-fraud
schemes.� It seeks an injunction barring them from organizing,
promoting or selling the stock loans and wants the judge to
force the defendants to turn over the identities of all their
clients. Trial is set to begin in October in San Francisco.
Collecting damages
Meanwhile, the judge in the South Carolina case is deciding
whether to allow February�s racketeering verdict to stand; if it
does, damages would be tripled to $810 million � the largest
judgment in South Carolina history, according to the attorney
for the bankruptcy trustee. And Grayson�s damages would reach
$102 million.
Collecting from the bankrupt firm and other defendants who claim
they have little or no assets could prove difficult.
But Grayson has set his eyes on some deep pockets.
His firm, Grayson Consulting, is suing Wachovia Securities,
claiming the brokerage �aided and abetted� Derivium�s scheme,
turning a �blind eye� to the fraud in order to collect $5
million in brokerage fees on the stock trades.
Grayson Consulting paid Derivium�s bankruptcy trustee $25,000
for the right to sue the brokerage and keep up to 90 percent of
any judgment it wins after paying its attorney�s costs and
expenses. Grayson Consulting is seeking damages �to punish and
set an example of� Wachovia, which has since been acquired by
Well Fargo.
(4 of 8)
As a member of the House Financial Services Committee, Grayson
wields some power over the financial institution his consulting
firm is suing for punitive damages. For example, he sponsored a
bill that in April passed the House limiting �unreasonable and
excessive� compensation to financial industry executives that
received federal bailout funds, including Wells Fargo.
But, Grayson noted to Local 6, no one has suggested there�s any
conflict of interest �because there is no conflict of interest �
I have not and will not do anything that singles out a specific
bank.�
How it worked
The �90-percent stock loan� program was marketed as a way for
clients to avoid or defer capital-gains taxes while limiting
their losses on their stocks to only 10 percent. And clients
were told they could retain much of the profits if the stock
increased substantially in value by the end of the loan�s term,
usually three years.
It worked like this: Clients turned over stock to Derivium and
almost immediately got back 90 percent of its value in cash as a
loan. That loan would accrue interest, usually at rates between
9.75 and 11.75 percent a year.
Instead of holding the stock as collateral for the loan, as they
claimed they would, Derivium or its associates simply sold it
and gave the clients 90 percent of it back as the cash loan.
If, at the end of the loan period, the shares were worth less
than what was owed on the loan, including interest, the client
could walk away from the loan, keep the 90 percent he received
in cash three years earlier and owe nothing � effectively
limiting his stock losses to 10 percent over the three years.
But if, the shares were worth more than the loan balance, the
client had three options: pay off the loan, plus interest, and
get back his stock at the by-then higher value; collect in cash
the difference between the new, higher value of the stock and
what was owed on the loan plus interest; or use the stock to
renew the loan for another term.
A fairy tale
Derivium claimed its founder, Charles Cathcart, had devised a
complex hedging formula involving financial derivates that would
provide enough profits to pay back the clients if their stocks
increased substantially in value.
(5 of 8)
The problems arose in 2005, when Derivium did not have enough
cash to pay the profits its clients earned at the end of the
three-year terms.
Grayson, a savvy trial lawyer and experienced investor with
undergraduate and law degrees from Harvard College, said he
believed the pitch.
Asked how he could fall for such a scam, Grayson answered: �The
jury said nobody could see this coming. Not just me � nobody �
If (Cathcart) had simply done what he said he was doing, then it
wouldn�t have been any problem � The problem was that he was
lying. It�s that simple.�
In May 2001 Grayson visited the firm�s South Carolina office to
investigate the operation. �The place where they were doing what
they called this �dynamic hedging� looked like the cockpit of a
spaceship,� Grayson recalled, adding, �It was very impressive.�
He now says he realizes it was all a �fairy tale.�
�It was theft, pure and simple,� Grayson said.
The money trail
In 92 separate transactions between November 2000 and March
2005, Grayson turned over stock worth $28.7 million to Derivium,
according to his lawsuit. Grayson got $25.8 million of it back
in cash.
He said he used the cash to make loans to and invest in Latin
American businesses.
�There are restrictions on what you can do with borrowed money
in the United States. I didn�t have that opportunity to take
that money and invest in the United States,� Grayson told Local
6. �That, of course, is my preference being an American � So I
had no choice but to invest it in foreign countries.�
But first, he said he transferred the cash from the stock loans
to the AMG Trust he established in the Cook Islands, a South
Pacific government associated with nearby New Zealand.
According to Grayson�s congressional financial disclosure
statement last year, his AMG Trust held between $25 million and
$50 million in assets, producing dividends and capital gains
income of between $1 million and $5 million last year, and more
than $5 million the previous year.
Offshore trusts like those in the Cook Islands often attract
wealthy people seeking to legally shield their assets from any
potential lawsuit judgments, according to experts on wealth
protection.
(6 of 8)
The Cook Islands is also among 34 jurisdictions listed by the
IRS as �probable locations of U.S. tax evasion.�
But Grayson said transferring the cash to the offshore trust had
nothing to do with lowering his taxes. �It didn�t affect my
income tax burden at all,� Grayson said. �Every penny of income
to that trust is reported on my personal tax return.�
As with any Ponzi scheme, Derivium�s success depended on
attracting cash from new clients so that older ones could be
paid off when they demanded any money back. And in 2002,
Grayson�s cash was �currently supporting our business almost
singlehandedly,� according to an email between Derivium
employees found in the court file. That year Grayson provided
Derivium with at least $3.26 million in stock.
But the IRS says this was a Ponzi scheme with a twist � it
helped some of its taxpayer-clients evade capital gains taxes,
potentially indefinitely.
IRS claims tax fraud
The IRS says the �loans� were actually stock sales and clients
should have paid capital gains taxes on any profits they accrued
from the time they bought the stock until they turned it over to
Derivium. The top capital gains tax rates from 2000 to 2008 were
between about 15 percent and 21 percent.
Grayson said in court records he �treated the stock loan
transactions as loans for the purposes of taxation,� just as
Derivium�s �outside accountant� advised their clients. That
accountant is among the defendants the IRS is accusing of
providing �false statements� to clients in violation of the tax
laws.
The IRS also claims Derivium did not send its clients IRS Form
1099s, which list capital gains and dividends, �making it less
likely that the customer would actually report any income or pay
any income tax.�
But Grayson said he did not hold the stocks long enough to
accrue any capital gains, because he transferred the stock to
Derivium within a week or so of purchasing it. In six early
transactions where he was paid a total profit of about $588,000,
Grayson said he did report that on his taxes as capital gains.
(7 of 8)
Grayson picks winners
Grayson said he used the Derivium stock loans to get cash to
invest in and lend to Latin American businesses. Derivium, he
said, offered him a chance to limit his losses on the stock to a
maximum of 10 percent, while maintaining the �upside� potential,
if the stock appreciated greatly during the course of the loan.
He said he had one goal: to make money.
And the record shows he does that very well.
The freshman Democrat, a multimillionaire former
telecommunications company president, last year reported a net
worth of between $30 million and $60 million, making him one the
wealthiest members of the U.S. House of Representatives,
according to financial disclosure statements.
But, he contends, he�d be $34 million richer, had Derivium not
gone under.
That�s how much he was owed on 33 �stock loan� transactions he
entered into between 2002 and 2005, based on the stocks� July
2007 values.
For example in the first quarter of 2003, Grayson gave Derivium
350,000 shares of Continental Airlines stock worth $2.15 million
at the time. In exchange, Grayson received 90 percent of it �
$1.93 million � in cash as a loan with an interest rate of 11.75
percent a year.
By July 2007, those shares of Continental stock had increased in
value from $2.15 million to $12.5 million. Even after paying
back the �loan� with interest � which after three years totaled
$2.7 million � Grayson stood to make a profit of $9.8 million,
if Derivium had not run out of money and filed for bankruptcy in
2005.
Some of the stocks Grayson picked increased 300, 500 and 600
percent during the three-year loan periods.
Unclean hands
The Derivium defendants Grayson sued in South Carolina tried to
delve into all 92 �stock loans� Grayson participated in dating
back to November 2000 � not just the 33 profitable ones that
Grayson relied on to set his damages at $34 million.
And, to determine how Grayson treated them in his taxes, they
asked the judge to order Grayson to produce his income tax
returns.
In a June 2008 hearing, an attorney for one of Derivium�s owners
said Grayson had taken some cash profits �and got that money
sent to the Cook Islands � and I want to see how this shows up
on his tax returns. Are all the gains shifted to (the AMG Trust)
and the Cook Islands where they do not have to file tax returns?�
(8 of 8)
The attorney also suggested Grayson could have claimed losses on
some trades to reduce his taxes, while concealing profits in the
Cook Islands to evade capital gains. �If he is playing fast and
short with the IRS, I think that�s relevant in this case,� the
attorney argued.
Grayson�s attorney, Alisa Roberts, told the judge there is
�absolutely no evidence or any basis upon which (the defendants)
might possibly conclude that Alan Grayson or the AMG Trust
committed tax fraud.� Even if there were, she said, any tax
evasion by Grayson would be irrelevant to the fraud and
racketeering counts facing Derivium.
The attorney for another Derivium owner disagreed, saying the
IRS had taken action against �lots of borrowers, tagging them
with multimillion-dollar tax deficiencies for not declaring it
as a sale � (Grayson) may have had some ulterior motives. And he
may have had unclean hands. And I think that�s relevant.�
But U.S. District Chief Judge David C. Norton denied access to
the tax returns, ruling they were not relevant in the South
Carolina case.
Also kept from the jury: the opinions of a defense expert who
implied in his deposition that Grayson used the funds in �an
illegal or improper manner,� according to court transcripts.
Grayson�s attorney argued successfully that such speculation did
not belong in evidence.
�In a trial,� Grayson told Local 6, �the other side will always
try to change the subject, to cast aspersions on you�try to
slime you, but good people can see through that. The jury was
good and they saw through that.�
Grayson did have to submit in 2008 to four days of depositions,
answering questions under oath about his investments and taxes.
But a court order consented to by all parties has allowed
transcripts of those depositions and other documents in the case
to remain confidential.
Unspoken voice
Grayson, still smarting from his Derivium dealings, vows to
remain an outspoken voice in Congress against those who took
advantage of taxpayers and others before and during the current
recession.
�You know, people are angry. They want to know what happened to
their money and if I can help to accomplish that then I think
people will feel I�ve done something important,� Grayson said.
Reminded he didn�t know what happened to his own money after he
turned his stock over to Derivium, Grayson responded, �Well, we
found out eventually.�
Asked if -- as a congressman who ran, in part, on his success as
a businessman -- he was embarrassed or hurt to be victimized, he
said, �No. people lied to me� When someone lies to you, it�s not
your fault.�
Robert Cohen
That's a helluva financial debacle story, and for what i know of it,
nuthin except the journalist's facile write-up, it may be
substantively true reality, and so thanks for a Sunday morning
masterpiece of an article, though it's an investigative reporter's
subjective assertions of course
He sits on a super-important Congressional legislative committee,
which is responsible for the pertaining financial laws, the
complicated regulations, the
closing of exploitative, bad faith loopholes, the inherent
contradictions & absurdities, the mis-interpretations & attempts at
understandings by people of normative morality, the fakey jakey
legalistic tricky dumbo mumbo jumbo jargon that a phi beta kappan
could actually semi
comprehend on a lucid day, and the guy personally loses ...how
much?......millions to a STINGish con operation that exploits human
foibles
of greed and beating the tax man, and getting away with such
legalistically
But the Congressman says he was 'told lies,' and thus lost half his
fortune
Tough-Shitski, Sir, because the very complexities you are ultimately
morally and legally RESPONSIBLE for clarifying for the public interest
were utilized to lure-snare ya & to eat half of ya alive, as you muist
know better than anybody else