U.S. v. Regan

• Decision Date: 28 June 1991
• Docket Number: Nos. 25,s. 25
• Citation: 937 F.2d 823
• Parties: -5215, 91-2 USTC P 50,351, Fed. Sec. L. Rep. P 96,062, RICO Bus.Disp.Guide 7794 UNITED STATES of America, Appellee, v. James Sutton REGAN, Jack Z. Rabinowitz, Steven Barry Smotrich, Charles M. Zarzecki, Paul A. Berkman, and Bruce Lee Newberg, Defendants-Appellants. to 30, Dockets 89-1591, 89-1592, 89-1600 to 89-1602 and 89-1614.
• Court: U.S. Court of Appeals — Second Circuit

Page 823

937 F.2d 823

68 A.F.T.R.2d 91-5215, 91-2 USTC P 50,351,

Fed. Sec. L. Rep. P 96,062,

RICO Bus.Disp.Guide 7794

UNITED STATES of America, Appellee, v. James Sutton REGAN, Jack Z. Rabinowitz, Steven Barry Smotrich, Charles M. Zarzecki, Paul A. Berkman and Bruce Lee Newberg, Defendants-Appellants.

Nos. 25 to 30, Dockets 89-1591, 89-1592, 89-1600 to 89-1602

and 89-1614.

United States Court of Appeals Second Circuit.

Argued Jan. 24, 1991.

Decided June 28, 1991.

Jerome Kurtz, Washington, D.C., Theodore V. Wells, Jr., Roseland, N.J. (Robert L. Krakower, Lowenstein, Sandler, Kohl, Fisher & Boylan, of counsel), for defendant-appellant Regan.

Gerald B. Lefcourt, New York City (Joshua L. Dratel, Frederick P. Hafetz, Susan R. Necheles, Jeremy Gutman, Goldman & Hafetz, of counsel), for defendant-appellant Newberg.

Lawrence S. Bader, New York City (Paul R. Grand, Morvillo, Abramowitz & Grand, P.C., of counsel), for defendant-appellant Zarzecki.

Robert Hill Schwartz (Richard A. Greenberg, Newman & Schwartz, New York City, of counsel), for defendant-appellant Rabinowitz.

Joseph A. Hayden, Jr. (Alan Silber, Paulette L. Pitt, Hayden, Perle & Silber, of counsel), Hoboken, N.J., for defendant-appellant Smotrich.

Jack Arseneault, Roseland, N.J., for defendant-appellant Berkman.

Jerome Kurtz, Washington, D.C., Abe F. Goldstein, Yale Law School, New Haven, Ct., and David Mills, Roseland, N.J., of counsel, for defendants-appellants.

Neil S. Cartusciello, Asst. U.S. Atty., New York City (Otto Obermaier, U.S. Atty. S.D.N.Y., Roger S. Hayes, Acting U.S. Atty., Miguel A. Estrada, Kerri Martin Bartlett, David E. Brodsky, Asst. U.S. Attys., and Peter G.A. Safirstein, Sp. Asst U.S. Atty., New York City of counsel), for appellee.

Before VAN GRAAFEILAND, MINER, and MAHONEY, Circuit Judges.

VAN GRAAFEILAND, Circuit Judge:

James S. Regan, Jack Z. Rabinowitz, Steven B. Smotrich, Charles M. Zarzecki, Paul A. Berkman, and Bruce L. Newberg appeal from judgments of the United States District Court for the Southern District of New York (Carter, J.) convicting them of tax fraud, securities fraud, mail and wire fraud, false partnership records and reports, conspiracy to commit all of the foregoing, and RICO. All of the appellants, save Newberg, were associated with Princeton Newport Partners, L.P. (PN), a limited partnership investment firm with offices in New Jersey and California. Appellant Regan was a managing partner and the firm's resident "tax authority". ¹ For convenience of discussion, we have divided the charges against appellants into two general groupings, one dealing with alleged tax fraud and the other dealing with alleged securities fraud.

THE TAX FRAUDS

A stockbroker who sells stock that he does not own must either buy or borrow it from someone else in order to make delivery on the settlement date. Because the two methods of procurement have different legal consequences, including the resultant tax treatment, it is important to know what method the broker used.

In 1978, Congress created a means for making this determination at least in part by enacting section 1058 of the Code, 26 U.S.C. Sec. 1058. See S.Rep. No. 762, 95th Cong., 2d Sess. 7, reprinted in 1978 U.S.Code Cong. & Admin.News 1286, 1292-93. Section 1058 provides in substance that no gain or loss shall be recognized if the procurement transaction is made pursuant to an agreement that (1) provides for the return of securities identical to those transferred; (2) requires that payments be made to the transferor in amounts equal to the interest, dividends, and other distributions paid on the transferred securities; (3) does not reduce the transferor's risk of loss or opportunity for gain on the transferred securities; and (4) meets such other requirements as may be prescribed by Treasury regulations.

In 1983, the Secretary of the Treasury proposed regulation 1.1058-1, which, although never promulgated, shed light upon the meaning of section 1058. Subdivision (e) of the proposed regulation provides in substance that, if a transfer of securities is intended to comply with section 1058 but fails to do so because the transfer agreement does not satisfy the above-described requirements of that section, gain or loss will be recognized on the transfer in accordance with 26 U.S.C. Sec. 1001.

From time to time in the period between 1984 and 1987, PN owned substantial quantities of stock that had depreciated in value and whose sale would provide PN with opportunities to take tax losses. Regan testified that, prompted by correspondence from his accountants, a report of the Tax Section of the Association of the Bar of the City of New York, and his own study of section 1058 and proposed regulation 1.1058-1, he concluded that PN could take those losses by means of sales and repurchase arrangements with other brokerage or investment houses so long as the arrangements between PN and the other houses did not satisfy the requirements of section 1058. Regan felt that this very lack of compliance would enable PN to take tax losses on the transactions. Based on this belief, PN entered into some fifty-nine transactions with other brokerage and investment houses, consisting of sales of stock by PN to those houses and agreements to resell to PN at fixed prices at later dates.

Appellants, following Regan's lead, believed that these transactions did not satisfy section 1058 requirements in that their terms were not reduced to writing, did not provide for termination upon short notice, and did not contain legally enforceable rights of repurchase. Moreover, the brokerage houses to whom the stock was sold had complete control of the stock in their possession while PN had none, thus depriving PN of the opportunity to avoid loss or capitalize on gain during that period. Also, the agreed-upon repurchase price might vary substantially from the then-existing market price.

The district court described this as a "sophistical" treatment of section 1058, 726 F.Supp. at 451, and rejected it out of hand. Stating that he didn't think he had "to give a contention that was contrary to what [he] regard[ed] as being the law" (Tr. at 4046), he held that appellants' contention concerning section 1058 had no substance and the section had "no applicability to defendants' case," 726 F.Supp. at 451. This was prejudicial error. The issue in the case was not whether appellants' construction of section 1058 was correct or even objectively reasonable but whether it was made in good faith. Cheek v. United States, --- U.S. ----, 111 S.Ct. 604, 611, 112 L.Ed.2d 617 (1991); United States v. Murdock, 290 U.S. 389, 395-98, 54 S.Ct. 223, 225-26, 78 L.Ed. 381 (1933); United States v. Pabisz, 936 F.2d 80, 83 (2d Cir.1991); see also United States v. Aitken, 755 F.2d 188, 189-93 (1st Cir.1985).

Although appellants were not charged with violating section 1058, that section became pivotal in the case because appellants believed that it authorized them to do just what they did, i.e., take tax losses. If this belief was held in good faith, they could not be held criminally liable for proceeding on that basis. Appellants offered substantial evidence of their good faith reliance on their interpretation of section 1058, some of which the court received and some of which it rejected. For example, the Tax Section of the Association of the Bar of the City of New York appears to have interpreted section 1058 in somewhat the same manner as did Regan. The report of the Committee upon which Regan relied stated in substance that the distinguishing feature between a loan and a sale of securities was whether the risk of loss or opportunity for gain was retained by the person making the transfer. This, of course, was in accord with the generally accepted rule that "for Federal income tax purposes, the owner of property must possess meaningful burdens and benefits of ownership." See H.R.Rep. No. 432, 98th Cong., 2d Sess., pt. 2, at 1132, reprinted in 1984 U.S.Code Cong. & Admin.News 697, 806. Appellants also offered the testimony of two acknowledged tax experts to the effect that Regan's interpretation of section 1058 was not unreasonable, but the district court refused to permit these experts to testify.

Whether, as appellants contend, the district court erred in its evidentiary rulings concerning this evidence is a matter we need not decide. The issue of appellants' good faith reliance on section 1058 as appellants interpreted it was squarely raised and argued. The district court should have instructed the jury that, if it found the reliance was held in good faith, the defendants could not be held criminally liable for proceeding in accordance with that reliance. See United States v. Durham, 825 F.2d 716, 719 (2d Cir.1987); United States v. Pedroza, 750 F.2d 187, 204-05 (2d Cir.1984), cert. denied, 479 U.S. 842, 107 S.Ct. 151, 93 L.Ed.2d 92 (1986); United States v. Alfonso-Perez, 535 F.2d 1362, 1365 (2d Cir.1976).

The record is clear that appellants requested a charge specifically directed to their claim of good faith reliance on section 1058. Indeed, they even cited Durham, supra, to the district court as authority for their entitlement to such a charge. Quoting Pedroza, supra, we said in Durham that "the court's general instructions on specific intent were not 'adequate to inform the jury that if it believed the defendants' theory it was entitled to conclude that they did not have the requisite intent to be convicted of the offenses charged.' " 825 F.2d at 719. In the instant case, where appellants were charged with sixty-four counts covering the waterfront of tax fraud, securities fraud, mail and wire fraud, conspiracy, and RICO, a generalized charge on good faith was insufficient to instruct the jury concerning appellants' specific good faith defense based on section 1058. Appellants were entitled to have the trial court clearly instruct the jury, relative to appellants' theory of defense to the tax charges, that the...