The fight over new limits on damages for financial fraud

Stock market scams, commodities fraud, and a rogues' gallery of white-collar criminals like Ivan Boesky have outraged the public in the 1980s. But consumer groups are concerned that Congress might be changing a law that individuals have used to sue for damages from financial fraud.

A bill drafted by Sen. Howard Metzenbaum (D) of Ohio, and an almost identical House version offered by Rep. Frederick Boucher (D) of Virginia, would remove an individual's or company's ability to sue for treble damages, or three times what was illegally taken from them. This change would be retroactive, affecting all but one of the cases currently pending. While the federal government would still be able to sue for treble damages, local governments, businesses, and ``non-natural persons'' - like mutual funds or pension funds - could no longer get more than actual damages.

Consumer groups are especially opposed to two amendments likely to be attached to Mr. Metzenbaum's draft at the Senate Judiciary Committee markup session next week. These provisions would eliminate the current exemption that allows ``small investors,'' and consumers involved in insider-trading cases, to sue for punitive damages.

The effect: Suits now being filed under the civil provisions of the Racketeer Influenced and Corrupt Organization Act (RICO) of 1970 would be cut by two-thirds.

Opponents of Metzenbaum's bill call it a ``special-interest bazaar.''

``Securities industry, accountants, and other special-interest groups simply didn't like getting sued under `civil RICO,' so they went to Congress to change the law,'' says Michael Waldman, legislative director at Public Citizen's Congress Watch, a Ralph Nader group.

Groups like the National Association of Attorneys General and the Chamber of Commerce are firmly opposed to any attempt to weaken the civil portions of RICO, though they have not specifically mentioned any of the congressional bills.

``Now is not the time to reduce the incentive for private parties to go after situations of hard-core fraud,'' says Lewis Engman, a private lawyer and former chairman of the Federal Trade Commission.

A tidal wave of large-scale criminal activity has swept American business, he says, and the only way to deal effectively with it is to impose a penalty much greater than the benefits reaped by such activity.

Not so, charges an array of industries and associations pulling for Metzenbaum's reforms. The Justice Department, for instance, has given its approval, pushing for removal of the ``small investor'' exception. It argues that civil RICO was never intended as a remedy for ``garden variety'' white-collar crime, but was meant to go after penetration of legitimate business by organized crime.

Business groups, especially securities and commodities firms, say the threat of treble damage awards leaves them open to tremendous liability. Disgruntled investors can sue their brokers and have them labeled ``racketeers,'' even where racketeering is clearly not involved, says Bruce Nicholson, a lobbyist at the American Bar Association.

Reformists stress, too, that the loose definition of civil RICO - a ``pattern'' of criminal activity being defined by the statute as ``at least two acts'' of racketeering behavior committed within two years of each other - has led to widespread abuse of the statutes.

``It was never designed to deal with the cases being brought today,'' says John Byrne, federal legislative counsel at the American Bankers Association.

``Businesses are suing businesses and blowing them out of the water,'' says John Pilcher, director of corporate finance at the National Association of Manufacturers.

The original intent of civil RICO is another source of disagreement. Robert Blakey, a law professor at the University of Notre Dame and a co-writer of the original statute, has stated that, especially in today's economic climate, civil RICO's treble damage award is indispensable.

In fact, when the Securities and Exchange Commission noticed that organized crime was penetrating the securities industry and stealing securities for mobster-related loan collateral, it asked Congress to add securities fraud to the list of criminal provisions of RICO. Congress did so, and also included it in the civil statutes of RICO.

``The SEC's idea was that by adding securities fraud to the list of criminal acts, you could deal with it more effectively,'' says Ted Barreaux, vice-president at the American Institute of Certified Public Accountants.

But he believes that by doing this, ``Congress inadvertently created a multiple damage remedy that the SEC did not ask for then, and does not want now.'' The SEC has made no comment on Metzenbaum's proposal.

Although Mr. Pilcher at the manufacturers association says that ``all the major business groups are willing to swallow their current plaintiff suits in order to get rid of the ones they're defending,'' companies now embroiled in expensive civil RICO suits are not so sure.

``We like the law the way it is,'' says Lester Levy, one of the lawyers who is handling a suit by several businesses against inside trader Ivan Boesky. ``If the only penalty for fraud is to take away someone's profits, it's worth the risk.''

The ability to win treble damages provides individuals, especially those with limited resources, with the means and incentive to go after fraudulent business operations, explains Pamela Gilbert, a staff lawyer at the Public Interest Research Group.

Ms. Gilbert notes that most civil RICO cases end up as settlements. ``The ability to get treble damages gives the consumer some leverage,'' she says. ``But without treble damages, they won't have any leverage, and consumers will end up in settlement agreements with less than their actual damages.''

Current laws are inadequate to deal with the amount of financial fraud going on, contends Philip Feigin, assistant securities commissioner in the state of Colorado. ``There are not enough cops on the beat to police either the commodities or the securities industries.''

Supporters of the Senate bill say this may very well be the case, but they argue that RICO is not the solution.

``We may need to beef up existing securities laws - we aren't denying that - but RICO is being turned to in ways that undermine that body of law,'' says Mr. Nicholson at the American Bar Association.