My last article, dated Jan. 25, visited the RICO pleadings requirement in light of the class action RICO lawsuit filed against Harvey Weinstein. The Weinstein RICO action is brought under the most popular section—Section 1962(c). In the article, I discussed the stringent requirements of pleading and proving civil RICO claims and outlined some of the obstacles for plaintiffs.
The complexity with RICO (the Racketeer Influenced and Corrupt Organizations Act), however, does not end there. Almost all RICO lawsuits filed are brought under Section 1962(c) (note: violation under Section 1962(d) relating to conspiracy to violate a substantive section is routinely asserted whenever there is a violation of a substantive section). But, what about Sections (a) and (b)? Why are these sections rarely used? Is it because these sections are generally inapplicable? While the specificity of Sections 1962(a) and (b) compared to the breadth of Section 1962(c) is a reason these sections are not commonly used, it is also because they are more difficult to understand, and often misunderstood. In effect, these sections have become virtually forgotten. While many lawyers have an understanding—ranging from basic to advance—of Section (c), far fewer understand (a) and (b).
Pleading and Proving a RICO Violation Under Section 1962(a)— Investment of Income
Section 1962(a) is primarily concerned with money laundering activity. This section makes it unlawful for “any person who has received any income derived … from a pattern of racketeering activity … to use or invest … any part of such income … in acquisition of an interest in … any enterprise ….” Here, the RICO enterprise is the “prize” of the racketeers whereas the RICO enterprise is the “instrument” of the racketeers under Section 1962(c).
Section 1962(a) prohibits investing any income derived from a pattern of racketeering activity to acquire any interest in an enterprise. The section prohibits a person from using “dirty money,” for instance, to buy a membership interest in a legitimate business. As stated above, money laundering is typically the most common goal of the racketeers under this section. By investing dirty money into a legitimate business and, in turn, using the business to write checks to themselves (or affiliates), the racketeers complete the money laundering cycle.
To have standing under this section, a plaintiff must plead and prove that he was injured from the “use” or “investment” of dirty money. Alleging that the plaintiff was injured from the racketeering activity is not sufficient. Although there is a circuit split about the type of injury necessary to confer standing under Section 1962(a), the majority view, which is followed by the U.S. Court of Appeals for the Third Circuit, holds that the investment (or use of dirty money) itself must proximately cause the plaintiff’s injury, as in Guy’s Mechanical Systems v. FIA Card Services, 339 Fed.App’x. 193, 195 (3d Cir. 2009). The Third Circuit has held that the same act cannot constitute both the predicate act through which dirty money was realized and the later investment of that money in a way that harms the plaintiff, as it would blur any distinction between Sections 1962(a) and 1962(c).
To establish Section 1962(a)’s standing requirement, plaintiffs often allege a “reinvestment” injury caused by reason of a violation of Section 1962(a). For example, plaintiffs will allege that the defendants, through an enterprise, acquired dirty money through a pattern of racketeering and then used and invested the dirty money back into the enterprise to keep it alive, so it continued to injure others, and eventually the plaintiff. Under the majority approach, it is usually insufficient to allege that the defendant only reinvested the proceeds of racketeering activity in its current business activities, thus allowing the alleged violations to continue. The relationship between the investment and injury cannot be that distant. This is understandable as, over the long term, businesses generally reinvest their profits, regardless of the source. As such, almost every racketeering act by a company will have some connection to the proceeds of an earlier act. Section 1962(c) is generally the proper avenue to redress injuries caused by the racketeering acts themselves.
So, how does one allege that he was injured from the “use” or “investment” of dirty money and successfully establish standing under section 1962(a)? A successful plaintiff could do this by connecting between a defendants’ investment of dirty money in its business and harm to the plaintiff. For example, in Ideal Steel, the Second Circuit held that the plaintiff had sufficiently alleged injury by reason of a defendants’ investment of the proceeds of racketeering activity in the ongoing business activities of the defendants under section 1962(a) where the defendant used the proceeds to open a new location in direct competition with the plaintiff. The plaintiff alleged the defendants unlawfully failed to charge cash customers sales tax and then submitted fraudulent state sales and income tax returns by wire and mail to the state that allowed them to evade millions of dollars in taxes. The plaintiff alleged that, separate from its claim under section 1962(c), this activity violated Section 1962(a) because the defendants used the proceeds they retained to open a new competing store near plaintiff where the defendants had not done business before to attract even more of plaintiff’s customers unfairly. The Second Circuit agreed with the plaintiff, finding it alleged more than a mere reinvestment injury where defendants did not merely reinvest in the same entity, but rather, created a new company.
Pleading and proving a RICO Violation Under Section 1962(b)—Interest/Control
Section 1962(b) is perhaps the most difficult RICO claim to explain and understand. The number of plaintiffs bringing a claim of RICO violation under 1962(b) is very few. From those, the number of plaintiffs surviving a motion to dismiss is even fewer. And, there is a good reason for that—it is extremely difficult to establish standing under Section 1962(b).
Section 1962(b) prohibits the acquisition of any interest in (or control of) an enterprise through a pattern of racketeering activity. The relevant language says, “it shall be unlawful for any person through a pattern of racketeering activity … to acquire … any interest in or control of any enterprise …” Under Section 1962(b), the RICO enterprise is the “victim” of the racketeers.
To successfully establish standing under Section 1962(b), a plaintiff must show an “acquisition injury,” as in Kehr Packages v. Fidelcor, 926 F.2d 1406 (3d Cir. 1991); Shearin v. E.F. Hutton Group, 885 F.2d 1162, 1168, n.2 (3d Cir. 1989). That is, a plaintiff must show that his injury was caused by reason of the defendant’s acquisition (or control) of an enterprise. Alleging that the injury was caused by the racketeering activity itself is not sufficient.
So how or when is Section 1962(b) used? Section 1962(b) is designed to prohibit criminals from infiltrating into a legitimate business through prohibited, predicate acts (e.g., extortion). I could think of many old gangster movies where a gangster is “offering” a local business person “protection” from a local thug in exchange for a “small protection fee” sometimes in the form of an ownership interest in the business (of course, the thug works for the gangster). As a result of the businessman’s accepting the “offer,” the gangster gains an interest in the business and uses it to control the business at the gangster’s pleasure. The gangster uses the business to benefit himself, resulting in the inevitable downfall of the business.
The late Judge Richard Posner discussed how to successfully plead a RICO violation under Section 1962(b). Reversing the district court’s decision to dismiss a RICO complaint, Judge Posner said the “complaint also alleges that the defendants acquired control of [the enterprise] by means of the fraud … this is a good allegation under section 1962(b),” as in Sutliff v. Donovan Companies, 727 F.2d 648, 653 (7th Cir. 1984). In that case, a plaintiff, who was suffering from mental illness, alleged that two individual defendants took advantage of her mental state, gained control of her oil wholesale business, and caused the business to sell oil to them below cost, which they resold at a profit but below the market price. While the defendants made money from profiting from the business, the business that sold its products below cost could not sustain the loss, and it collapsed. According to Judge Posner, the plaintiff had standing under Section 1962(b) because she was injured by the defendants’ acquisition of control of the business. Stated differently, the plaintiff had an acquisition injury, which is necessary under Section 1962(b).
Although Sections 1962(a) and (b) are rarely used (and even more rarely survive dispositive motions), they provide a powerful tool when used properly. The days of a gangster demanding a protection fee from local business owners might be over. That does not mean the criminals are gone. To the contrary, there are equally as many criminals (if not more) exist today as they did before. They are just more sophisticated today, using more sophisticated means of racketeering activity. When you remove the various means of cover-ups, however, you will find that many seemingly sophisticated schemes still involve basic fraudulent structures that meet the elements of the RICO statute. That means, with proper research and homework, you too can bring a successful RICO action under Sections 1962(a) and (b).
Edward T. Kang is the managing member of Kang, Haggerty & Fetbroyt. He devotes the majority of his practice to business litigation and other litigation involving business entities.
Reprinted with permission from the March 22nd edition of “The Legal Intelligencer”© 2018 ALM Media Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-257-3382 or email@example.com.