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Docket No. 03-7897(l)
Citation: 385 F.3d 159Docket: 03-7956
Court: Court of Appeals for the Second Circuit; September 27, 2004; Federal Appellate Court
Plaintiffs First Capital Asset Management, Inc. (FCAM) and Willem Oost-Lievense appealed a final judgment from the U.S. District Court for the Southern District of New York, which dismissed their RICO conspiracy and substantive RICO claims, and declined to exercise supplemental jurisdiction over state-law claims. The District Court ruled that Plaintiffs failed to adequately plead a pattern of racketeering activity. In a cross-appeal, Defendants Satinwood, Inc., Sphinx Rock, N.V., and others contested certain determinations regarding the substantive RICO claims and the jurisdiction over some defendants. The Court of Appeals affirmed the District Court’s decision, agreeing that the failure to plead a racketeering pattern justifiably led to the dismissal of both the substantive RICO and conspiracy claims. The appellate court also found no abuse of discretion in the District Court's decision not to exercise supplemental jurisdiction over remaining claims. The case stems from a 1993 stock-purchase agreement where Sohrab Vahabzadeh agreed to pay FCAM $4.5 million for an interest in a new Delaware corporation, with Oost-Lievense set to become its CEO. Further factual details are summarized in prior District Court opinions. Sohrab, along with NACI and NAP, breached the Stock Purchase Agreement (SPA), resulting in FCAM losing $4.5 million and Oost-Lievense being terminated from his job. FCAM initiated a breach of contract lawsuit against them in Texas in December 1993, which was dismissed on the basis of forum non conveniens and later refiled in New York. The New York State Supreme Court granted FCAM summary judgment against NACI and NAP in February 1997, awarding $4.5 million plus interest, but ruled Sohrab was not personally liable. NACI and NAP were identified as shell companies lacking assets to satisfy the judgment. FCAM subsequently sought to enforce the judgment against Sohrab and Soleyman's Estate under alter ego theories. The state court initially dismissed this petition, but the Appellate Division reversed the dismissal against Sohrab. In June 2001, FCAM received a judgment against Sohrab for over $5 million. Oost-Lievense filed a lawsuit in federal court against Sohrab, NACI, and NAP regarding a breach of his employment agreement within the SPA, which led to a stipulated damages judgment in his favor without a trial. In July 1997, shortly before the Oost-Lievense trial, Sohrab filed for Chapter 7 bankruptcy. FCAM and Oost-Lievense contested his discharge, alleging bankruptcy fraud and fraudulent conveyance, leading to the bankruptcy court denying Sohrab's discharge in December 1999. In July 2000, Plaintiffs filed a complaint in the District Court with ten causes of action, including two under RICO against Sohrab, his family members, and their lawyer. The RICO claims were based on alleged actions that prevented the Plaintiffs from satisfying their judgments against Sohrab. Specific alleged RICO predicate acts included fraudulent conveyances related to a partnership in 1995, property transfers in 1997 prepared by the lawyer, a false bankruptcy petition filed by Sohrab, false statements made during a bankruptcy examination, and false declarations submitted to the bankruptcy court by the defendants in 1998. In March 1998, Afsar and Schlegelmilch provided false affidavits regarding Soleyman's citizenship to the bankruptcy court. On June 25, 1998, Sohrab submitted a false affidavit claiming he searched for a complete trust agreement. In September 1998, Ahmed, AFIWA (under Ahmed's direction), Afsar, and Schlegelmilch engaged in mail fraud by falsely asserting they had no documents pertinent to Soleyman's Estate. Sohrab also gave false testimony about his inheritance during his bankruptcy trial in October 1999. From September 1997 to December 1999, Afsar accessed Sohrab's overseas accounts, transferring approximately $5,000 monthly into her accounts and then to Sohrab's domestic accounts. Ahmed and Schlegelmilch also transferred funds to Sohrab and covered his legal fees, with a notable payment of either $15,000 or $25,000 in September 1999. The Moving Defendants—Satinwood, Sphinx Rock, Ahmed, Savco, and Soleyman's Estate—moved to dismiss the Complaint based on failure to state a claim, lack of specificity in pleading fraud, and lack of standing and jurisdiction. The Failly Defendants (Brickellbush, Inc., Manou Failly, and Youssef Vahabzadeh) also sought dismissal due to jurisdictional issues and insufficient fraud pleading. On July 19, 2001, the District Court determined that the Plaintiffs did not sufficiently establish a pattern of racketeering activity. The court analyzed the alleged predicate acts chronologically, finding that the August 1995 transfer of partnership interests by Sohrab was not adequately supported by facts to infer fraud in contemplation of bankruptcy. Additionally, allegations regarding violations of 18 U.S.C. 152(7) by Ahmed, Afsar, and Schlegelmilch for receiving assets from Sohrab were deemed vague and unconvincing. Plaintiffs failed to specify when assets were transferred from Sohrab, lacking details about when the debtor's money was received, which is critical for establishing the predicate act. The court observed that Soleyman's other children received substantial gifts annually, undermining claims of fraudulent intent regarding the 1998 and 1999 transfers. Consequently, the court found that Plaintiffs did not plead the predicate acts for these years with sufficient specificity. After dismissing the alleged extreme predicate acts, the court assessed the remaining acts for a pattern of open-ended continuity and determined Plaintiffs did not show that these acts were a regular operational method of the alleged enterprise or implied ongoing criminal activity. The court then examined closed-ended continuity, noting that the actions of Schlegelmilch and Afsar were confined to a single scheme aimed at evading Sohrab's bankruptcy creditors, characterized by limited duration, variety, and number. The court emphasized that after eliminating inadequately pleaded acts, the remaining actions occurred within a two-year timeframe, which, under circuit law, does not establish a pattern. Lastly, regarding Sohrab's alleged predicate acts, the court found that they were part of a singular scheme involving false statements to the Bankruptcy Court and inheritance transfers. Citing precedent that warns against fragmenting a singular act into multiple acts to invoke RICO, the court concluded that Plaintiffs did not provide sufficient facts to establish a pattern. The District Court dismissed the substantive RICO claims in the Complaint, concluding that the alleged acts did not constitute a pattern of racketeering activity. Consequently, the court determined that the failure of the substantive RICO claims eliminated the basis for a RICO conspiracy claim. Additionally, the court declined to exercise supplemental jurisdiction over the state-law claims due to the absence of RICO-based federal jurisdiction, resulting in the dismissal of the Complaint against all defendants. In August 2001, the court permitted the Plaintiffs to amend their Complaint, which they did in September 2001, asserting eight claims for relief. These included four New York law fraudulent conveyance claims, a substantive RICO claim against Sohrab and Afsar, a RICO conspiracy claim against Sohrab, Ahmed, and Afsar, a reverse corporate veil piercing and alter ego liability claim against AFIWA, and a successor liability claim against Savco. By the time of the amended filing, some original parties were no longer involved, and the remaining defendants, excluding Sohrab, sought dismissal of the Amended Complaint for failure to state a claim and lack of standing or personal jurisdiction. On July 29, 2002, the District Court issued a detailed memorandum opinion addressing these motions. It first assessed the Plaintiffs' standing for a civil RICO claim, categorizing their alleged injuries into "Lost Debt" injuries—stemming from their inability to collect judgments against Sohrab and related parties—and "Legal Fees" injuries incurred in contesting Sohrab's bankruptcy discharge. The court found that while Plaintiffs had pursued various lawsuits against alleged transferees of Sohrab's assets, they failed to demonstrate that their debt collection efforts had been hindered by the defendants' alleged actions. Consequently, the court ruled that the Plaintiffs lacked standing to pursue RICO claims related to Lost Debt injuries. The court identified several predicate acts committed by Sohrab that were relevant to the Plaintiffs' claims for legal fees associated with his bankruptcy petition. These acts included filing a false bankruptcy petition, transferring assets unlawfully, executing a separation agreement without consideration, and making false statements during creditor meetings and examinations. The court determined there was a genuine issue of fact regarding whether these acts caused the Plaintiffs to incur legal fees, thus granting them standing to pursue a RICO claim against Sohrab. Regarding Afsar, the court noted allegations of her involvement in predicate acts, including receiving unlawfully transferred assets from Sohrab, making false statements in communications with the bankruptcy court, and submitting misleading affidavits through her attorney. The acts were categorized into 'Adversary Proceeding Predicate Acts' and 'Transfer Predicate Acts.' However, the court found that the Plaintiffs failed to demonstrate any injury from the Adversary Proceeding Predicate Acts, as the legal fees were fixed and incurred after the acts occurred, indicating that her actions could not have influenced the fees charged in the Adversary Proceeding. The court determined that the Transfer Predicate Acts were not adequately detailed in the initial Complaint or the Amended Complaint, particularly regarding the timing and method of asset transfers from Sohrab to Afsar. These deficiencies were critical because Afsar’s receipt of assets from Sohrab was central to the alleged predicate act. Consequently, the court ruled the Plaintiffs lacked standing to pursue substantive RICO claims for Legal Fees against Afsar. However, the Plaintiffs were found to have standing to assert a RICO conspiracy claim against Afsar, Sohrab, and Ahmed, based on the possibility that the predicate acts by Sohrab were part of a conspiracy to conceal assets during bankruptcy. The court then assessed personal jurisdiction over Afsar, Ahmed, and AFIWA, concluding it could not exercise jurisdiction for the RICO claims but could for state-law fraudulent conveyance claims against Ahmed and the Estate of Soleyman. The court also chose not to engage with the Moving Defendants' arguments regarding dismissal for failure to state a claim, as those claims were moot following the dismissal of the RICO claims. In FCAM II, the District Court dismissed all claims against Afsar for lack of standing and personal jurisdiction, all claims against AFIWA for lack of personal jurisdiction, and the RICO conspiracy claim against Ahmed for similar reasons. In FCAM III, both parties filed motions for reconsideration, with Plaintiffs challenging previous dismissals and Defendants advocating for the dismissal of the Amended Complaint based on procedural grounds. The District Court, upon reconsideration, upheld its prior decisions and ruled all RICO claims insufficient, reaffirming that Plaintiffs lacked standing for their alleged Lost Debt injury. The District Court evaluated the sufficiency of the Plaintiffs' allegations regarding alleged fraudulent transfers by Sohrab in 1995, specifically the Tiburon and Timberland transfers. Plaintiffs attempted to address deficiencies in their Complaint by including new facts in the Amended Complaint, including a tape-recorded conversation revealing Sohrab's potential bankruptcy, his consideration of bankruptcy when transferring $360,000 to Soleyman, and Sohrab's admission of selling interests due to First Capital's lawsuit for less than fair value. Despite these additions, the court found the allegations of scienter to be conclusory and lacking a coherent factual basis, which did not meet the requirements of Rule 9(b). Consequently, the court excluded the Tiburon and Timberland transfers from its evaluation of Sohrab's racketeering activity. The court then assessed the patterns of RICO conduct alleged against Sohrab and Afsar. Although it acknowledged the Plaintiffs had demonstrated a pattern involving about ten predicate acts over two years, it determined that the events suggested sporadic rather than continuous criminal activity, particularly around the time of Sohrab's bankruptcy petition. As a result, the court concluded that the alleged activities did not constitute the long-term criminal conduct targeted by RICO, leading to the dismissal of the Plaintiffs' substantive RICO claims for lack of continuity. The court also dismissed the RICO conspiracy claims, finding no actionable violation of RICO. Consequently, the Amended Complaint was dismissed in its entirety against all defendants, with a judgment entered on September 17, 2002, which was not finalized until August 1, 2003. This led to a timely appeal and cross-appeal. In reviewing the dismissal, the Court applies a de novo standard, accepting the Amended Complaint's factual allegations as true and drawing inferences in favor of the Plaintiffs. Substantive RICO and RICO Conspiracy Claims outline the legal framework for RICO violations, specifying that it is unlawful for individuals associated with an enterprise to participate in its affairs through racketeering activities as per 18 U.S.C. § 1962(c). An 'enterprise' can be any legal entity or a group of individuals associated for a common purpose, as defined in 18 U.S.C. § 1961(4). The Supreme Court clarified that a RICO enterprise must demonstrate an ongoing organization and functionality as a unit. It is essential that the enterprise is distinct from the racketeering activities and the person conducting those activities, as emphasized in several court rulings. While the enterprise can simply be a discrete economic association, a nexus between the enterprise and the racketeering activity is required. The individuals involved must share a common purpose and collaborate towards fraudulent goals. In the Amended Complaint, the plaintiffs allege three association-in-fact enterprises: the 'Soleyman Entities Enterprise,' which includes Soleyman, his estate, the Bankruptcy Estate, and various corporate entities; the 'Vahabzadeh Family Enterprise,' comprising similar individuals and entities; and the 'Bankruptcy Estate Enterprise,' which is detailed further in the document. The Amended Complaint does not adequately differentiate between the Soleyman Entities Enterprise and the Vahabzadeh Family Enterprise, showing significant overlap among their members, including individuals and entities like Soleyman, Soleyman's Estate, and others. The only differences lie in additional entities linked to Soleyman and individuals associated with the Vahabzadeh Family. The Complaint treats the two as a single entity, referred to as the 'Vahabzadeh Enterprise.' The alleged illegal purpose of this enterprise was to conceal Sohrab's assets from creditors and the bankruptcy court. However, the Complaint lacks details regarding any distinct fraudulent conduct separate from the alleged racketeering acts, failing to demonstrate that the enterprise functioned as an ongoing unit with a clear hierarchy or purpose. Furthermore, there is no evidence linking the Vahabzadeh Enterprise to the alleged RICO predicates, nor have the Plaintiffs clarified each participant's role in any fraudulent activities. The attempts to plead the enterprise's existence are insufficient, leading to the conclusion that it does not qualify as a RICO enterprise. In contrast, the Bankruptcy Estate Enterprise comprises Sohrab, Vahabzadeh Co. Inc., the Bankruptcy Estate, and specific attorneys, with a legitimate purpose of liquidating Sohrab's assets. However, it is alleged that Sohrab manipulated this estate to defraud creditors. The question remains whether a bankruptcy estate can be classified as a RICO enterprise, marking a novel issue in this Circuit. The Eighth Circuit has recognized that a bankruptcy estate can qualify as a RICO enterprise, as established in Handeen v. Lemaire, 112 F.3d 1339 (1997). Although the court assumes, for the sake of argument, that the Plaintiffs have sufficiently alleged the existence of a Bankruptcy Estate Enterprise, they have not adequately demonstrated that Defendants conducted or participated in the enterprise's affairs through a pattern of racketeering activity, as required under RICO (18 U.S.C. § 1962(c)). The Supreme Court's interpretation in Reves v. Ernst & Young clarifies that defendants must have some role in directing the enterprise's affairs to be liable under RICO. The "operation or management" test, articulated in cases like Azrielli v. Cohen Law Offices, establishes that liability under RICO necessitates participation in the enterprise's operation or management. This standard is typically not stringent for plaintiffs at the pleading stage. However, the court emphasizes that defendants must have played a role in directing the enterprise's affairs. Additionally, the level of control a debtor has under Chapter 7 versus Chapter 13 may impact the RICO analysis, with Chapter 7 debtors still retaining significant control over their estate's affairs. The court references prior cases to underline that navigating the bankruptcy process and creating fraudulent debts to undermine the estate could constitute racketeering activity. Sohrab's actions in preparing false filings, concealing income from the bankruptcy trustee, and manipulating the bankruptcy estate demonstrate his involvement in the affairs of a Chapter 13 bankruptcy estate enterprise. The distinction between Chapter 7 and Chapter 13 is insignificant in this context, as Sohrab's conduct included transferring interests in companies, misrepresenting information in a bankruptcy petition, committing perjury at various proceedings, and facilitating pre-petition asset transfers to family members. Afsar is also implicated in the bankruptcy estate's affairs through her actions, including wire transfers to Sohrab sourced from his inheritance, receiving assets intended to undermine the Bankruptcy Code, and submitting false statements and affidavits to the court. Although Afsar is an outsider, her participation in the enterprise's operation makes her liable under RICO principles. The allegations suggest a collaboration between Afsar and Sohrab aimed at defrauding the bankruptcy court. A bankruptcy estate can be classified as a RICO enterprise, meaning that a debtor involved in bankruptcy fraud is participating in the enterprise's affairs. Assisting in such fraud also signifies participation in the enterprise's conduct. Under 18 U.S.C. § 2, anyone aiding or abetting a federal offense is punishable as a principal. Afsar's liability, based on a RICO conspiracy theory, is subject to a relaxed standard: a conspirator merely needs to intend to further a criminal endeavor, not to complete all elements of a substantive offense. The plaintiffs have minimally alleged that Afsar participated in the bankruptcy estate's affairs. To establish a RICO pattern, plaintiffs must demonstrate injury due to the defendants' conduct through a pattern of racketeering activity, which requires at least two predicate acts within ten years that indicate ongoing criminal activity. The District Court found that the alleged acts did not meet the necessary specificity for the temporal extremes required to sustain continuity for a RICO claim. Allegations of bankruptcy fraud must meet the heightened pleading standards of Federal Rule of Civil Procedure 9(b), which requires detailing fraudulent acts and providing strong inferences of fraudulent intent. In this case, the plaintiffs did not adequately assert that Sohrab's transfers of assets in 1995 were made "in contemplation of" bankruptcy, as required by 18 U.S.C. § 152(7). The transfers occurred nearly two years before the bankruptcy filing and the associated judgments, failing to support a strong inference of fraudulent intent. Conversely, transferring assets shortly before a bankruptcy petition indicates an attempt to evade legal obligations. A debtor is presumed to have engaged in a fraudulent scheme if their actions clearly lead to bankruptcy, as seen in several case precedents. However, the allegations against Sohrab regarding his conduct in 1995 do not sufficiently demonstrate intent to circumvent bankruptcy laws, as the Amended Complaint does not support a strong inference of fraudulent intent. Additionally, the claims about Sohrab's inheritance transfer to Afsar in 1997 lack the required specificity under Rule 9(b) of the Federal Rules of Civil Procedure. The complaint fails to detail how or when Sohrab received or concealed assets, and there is no evidence to support the claim that Afsar's financial transfers to Sohrab were intended to conceal assets rather than being ordinary gifts. Plaintiffs' attempt to excuse these deficiencies by citing exceptions to Rule 9(b) is misguided, as such exceptions still require a factual basis for allegations. Merely stating motive and opportunity is insufficient; the actual fraudulent actions must be detailed. The allegations' lack of rationality further undermines their credibility, particularly regarding the supposed secret arrangements among Sohrab's relatives. Consequently, the only adequately pled fraudulent acts attributed to Sohrab occurred between April 1997 and October 1999, including several transfers made just before his bankruptcy filing, submission of a false bankruptcy petition, perjury during creditor meetings and examinations, and providing false affidavits. Afsar is also implicated in alleged fraudulent actions during a similar timeframe. The predicate acts allegedly committed by Afsar occurred between March and September 1998 in relation to the Adversary Proceeding, involving mail fraud and misrepresentations to the bankruptcy court aimed at obstructing the plaintiffs' discovery efforts. The District Court concluded these acts did not constitute a pattern of racketeering activity. Under RICO, a plaintiff must demonstrate either an open-ended or closed-ended pattern of racketeering. Open-ended continuity requires a threat of ongoing criminal activity beyond the time of the predicate acts, while closed-ended continuity necessitates that the predicate acts span a substantial duration. Here, the alleged scheme to defraud Sohrab's creditors did not imply a threat of continued criminal activity, as the scheme was deemed inherently terminable once Sohrab fraudulently conveyed his assets prior to filing for bankruptcy in July 1997. Although Sohrab's bankruptcy case remains open and certain predicate acts continued post-filing, no predicate acts have occurred since December 1999, indicating the scheme's conclusion. Continued concealment of assets does not qualify as a predicate act. Ultimately, the alleged acts do not amount to or suggest a threat of ongoing criminal activity, leading to the conclusion that the Amended Complaint fails to allege an open-ended pattern of racketeering. Additionally, a closed-ended pattern requires predicate acts extending over a substantial period, with prior rulings indicating that such a pattern has not been found for spans shorter than two years. Closed-ended continuity in RICO claims involves assessing not only the duration of predicate acts but also other factors like the number and variety of acts, participants, victims, and separate schemes. Courts must be cautious to avoid artificially fragmenting singular acts into multiple ones to meet RICO criteria. A minimum of two years is typically needed for closed-ended continuity, but mere span of time is insufficient without additional context. In this case, Afsar's alleged predicate acts over seven months do not meet the continuity requirement, leading to the dismissal of Count Five against her. Sohrab's predicate acts began in April 1997 with fraudulent conveyances and continued until his last act of perjury in October 1999, which largely reiterated earlier misrepresentations. Although he engaged in multiple acts, the timeline reveals that they do not constitute a pattern of racketeering activity, as they primarily served a single scheme to defraud two creditors. Thus, Count Five was also properly dismissed against Sohrab. Furthermore, without a substantive RICO violation by either party, Count Six, alleging a RICO conspiracy, was rightly dismissed by the District Court. The prior claims were determined not to constitute actionable substantive violations of RICO, leading to the conclusion that the current claim fails to establish a conspiracy for such violations. The District Court opted not to exercise supplemental jurisdiction over the Plaintiffs' state-law claims after dismissing the RICO claims. This decision is reviewed under an abuse of discretion standard, considering factors such as judicial economy and fairness to litigants. Since the District Court dismissed the Amended Complaint prior to trial and significant discovery, coupled with the presence of foreign national litigants, the Court found no abuse of discretion in declining supplemental jurisdiction. The remaining arguments from the parties were deemed meritless, and the judgment of the District Court was affirmed. The issues surrounding RICO and supplemental jurisdiction were sufficient to resolve the appeal without addressing other raised issues or the merits of the cross-appeal. On July 12, 2002, the District Court dismissed the case against Schlegelmilch and Iradj Vahabzadeh due to lack of prosecution. Plaintiffs claimed injuries arising from bankruptcy crimes and mail fraud, including loss of claims against Sohrab's inherited assets, incurred attorney fees related to objections against Sohrab's fraudulent Chapter 7 petition, and inability to execute against assets Sohrab transferred to others. The Court later clarified that the claim for Lost Debt injuries was dismissed not solely for lack of standing, but because it was not ripe for review. For RICO claims, it is sufficient to demonstrate a minimal effect on interstate commerce; the plaintiffs alleged that the activities involved creditors across states and assets transferred among international accounts, satisfying this requirement. The Tenth Circuit supported this interpretation in an unpublished opinion, which, while not precedential, offered persuasive insights. However, the plaintiffs acknowledged that Ahmed did not manage either RICO enterprise and his liability as a conspirator depended entirely on Sohrab and Afsar's substantive RICO liability. Chapter 13 of the bankruptcy code allows individuals with regular income to propose debt adjustment plans without forfeiting assets, with the understanding that debtors represent the estate and should have flexibility in managing their cases. Chapter 7 mandates the appointment of a trustee responsible for managing the bankruptcy estate and liquidating the debtor's assets. The document expresses skepticism regarding the relevance of Swiss probate records to understanding the flow of Soleyman's assets, suggesting these records are not uniquely within the Defendants' knowledge. Comparisons are made to other cases, highlighting that in De Falco, escalating threats indicated a long-term fraudulent intent, while in Azrielli, defendants engaged in ongoing fraud for years. Proctor & Gamble Co. v. Big Apple Industries illustrates a scheme involving decadal predicate acts. The court previously found in Cosmos Forms Ltd. v. Guardian Life Ins. Co. that a series of acts over fifteen months could establish a RICO pattern, particularly where there was a clear threat of continued criminal activity. The court ultimately agrees with the District Court's conclusion that Counts Five and Six were inadequately pled, thus avoiding discussion on ripeness, standing, or personal jurisdiction.