Lerner v. Fleet Bank, N.A.

Citation318 F.3d 113
Decision Date22 January 2003
Docket NumberDocket No. 01-7755.
PartiesIsaac LERNER, Eli Lerner, Ballyward Investment Company, Ltd., Jaime Sohacheski, Gaston Limited, Hotel Investors, Inc, Perky Limited, Abraham Rappaport, Esther Rappaport, Moshe Cohn, Establissement Somer, Joseph Kohn, Chancery Enterprises, Ltd, Rosdev Developments, Inc., Michael Rosenberg, Bruce Bayroff, Joshua Goldstein, Land Tech at Manalpan LLC., Theodore Brodie, Meyer Rosenbaum, Mr Associates LLC., Ilana Blumkin, As Trustee, Emdee Tours, Inc., Alexander Hansenfeld, Inc., Profit Sharing Retirement Plan, Pinchos Rubinson, Akiva Leiman, Estate of Boruch Rubinson, Chaim Lekowitz, Rachel Lekowitz, Naftali Lipshutz, Sarah Lipshutz, Mendel Lipshutz, Feigy Lipshutz, Reisel Bergstein, Michael Konig, Esther Wertenteil, Mark Wertenteil, Morris Friedman, Sarah Friedman, Aaron Wertenteil, Teena Wertenteil, the Regal Trade, S.A., Vavel Corp., Chadwick Funding Co. L.P., Allen Sausen, Leonard Sausen d/b/a Atassco, Keren Hachesed of Monsey, Inc., Geneva Properties, L.L.C., Mt. Pleasant Partners, Herscel Kulefsky, Albert David Pearls & Gems, Inc., Defined Benefit Pension Plan, Chai Properties Corp, Arthur Kurtz, Cresfield Associates, Inc., Weinreb Management, Howard Mermelstein, Plaintiffs-Appellants, v. FLEET BANK, N.A., Sterling National Bank and Trust Company of New York and Republic National Bank of New York, Defendants-Appellees.
CourtUnited States Courts of Appeals. United States Court of Appeals (2nd Circuit)

G. Robert Blakey, Notre Dame Law School (James B. Zane, Edward S. Rudofsky, Arlene H. Schechter, on the brief), Notre Dame, IN, for Plaintiffs-Appellants.

Richard F. Ziegler, Cleary, Gottlieb, Steen & Hamilton (David M. Meisels, of counsel), New York, NY, for Defendant-Appellee Fleet Bank, N.A.

Celia G. Barenholtz, Kronish Lieb Weiner & Hellman LLP (Chaya Weinberg-Brodt, of counsel), New York, NY, for Defendant-Appellee Republic National Bank of New York.

Allen C. Wasserman, Owen & Davis PC, New York, NY, for Defendant-Appellee Sterling National Bank and Trust Company of New York.

Before: STRAUB and SOTOMAYOR, Circuit Judges, and GOLDBERG,* Judge.

SOTOMAYOR, Circuit Judge.

The creative pleading in the instant cases serves as a reminder why the Racketeer Influenced and Corrupt Organization Act's ("RICO") treble damages provisions are not available to remedy every possible injury that can, with some ingenuity, be attributed to a defendant's injurious conduct. Plaintiffs appeal from a judgment of the United States District Court for the Eastern District of New York (Block, J.) dismissing two companion actions, Lerner v. Fleet Bank, N.A., No. 98 CV 7778 ("Lerner"), and Bayroff v. Fleet Bank, N.A. No. 98 CV 7779 ("Bayroff"), for lack of subject matter jurisdiction. See Lerner v. Fleet Bank, N.A., 146 F.Supp.2d 224, 226 (E.D.N.Y.2001). Plaintiffs, investors who were defrauded of millions of dollars held in escrow accounts by an unscrupulous attorney, allege that the banks in which those funds were deposited are liable for their losses. Plaintiffs principally allege that the defendant banks fraudulently concealed the attorney's criminal behavior from state disciplinary authorities and thereby prevented the attorney from being disbarred. Had the attorney been disbarred, plaintiffs claim, they would have refused to make further investments with him and their losses would have been averted. The district court concluded that plaintiffs lacked standing to pursue their civil RICO claims under 18 U.S.C. § 1962 and declined to exercise supplemental jurisdiction over plaintiffs' state-law claims See id. at 232.

We hold that lack of RICO standing does not divest the district court of jurisdiction over the action, because RICO standing, unlike other standing doctrines is sufficiently intertwined with the merits of the RICO claim that such a rule would turn the underlying merits questions into jurisdictional issues. Thus, we affirm the district court's dismissal of plaintiffs' civil RICO claims because the alleged pattern of racketeering activity was not the proximate cause of plaintiffs' injuries; however, we do so not under Fed.R.Civ.P. 12(b)(1), for lack of jurisdiction, as the district court did, but rather under Fed.R.Civ.P. 12(b)(6), for failure to state a claim. Dismissal of the state-law claims in Lerner was improper, however, because federal jurisdiction in that action was also premised on diversity. 28 U.S.C. § 1332(a)(1). Finally, we find that the district court may, in its discretion, exercise supplemental jurisdiction over the state-law claims in Bayroff because RICO standing is not a jurisdictional prerequisite the absence of which would divest the district court of the original jurisdiction required to support supplemental jurisdiction. We remand the state-law claims in Bayroff for the district court to determine whether exercising supplemental jurisdiction over these claims is appropriate.


In reviewing the district court's dismissal under either Fed.R.Civ.P. 12(b)(6) or 12(b)(1), we accept the following factual allegations contained in plaintiffs' complaints as true and draw all reasonable inferences in favor of plaintiffs. See Conley v. Gibson, 355 U.S. 41, 45-46, 78 S.Ct. 99, 2 L.Ed.2d 80 (1957) (Fed.R.Civ.P. 12(b)(6)); McGinty v. State of New York, 193 F.3d 64, 68 (2d Cir.1999) (Fed.R.Civ.P. 12(b)(1)). Plaintiffs in these companion actions are victims of a fraudulent investment scheme engineered by then-attorney David Schick. Schick convinced investors that he had devised a no-risk scheme for generating a high return on their investments. Schick would bid on distressed mortgage pools at auctions by the Resolution Trust Company, the Federal Deposit Insurance Company ("FDIC"), and other banking institutions. Upon being awarded the bid, he would immediately try to re-sell the mortgage pool to another buyer for a quick profit. The acceptance of his bid was subject to a ninety-day due diligence period, so Schick assured his investors that if he was unable to find a buyer within the ninety-day time period, he would be able to rescind his original purchase without incurring any penalty. Schick's plan was apparently foolproof — except, he explained to the investors, in order to make this scheme work, Schick had to prove to the FDIC that he could complete the purchase. He would therefore be required to deposit substantial sums of cash as evidence of his good faith. This is where Schick's potential investors came in.

To convince wary investors that their money would be secure, Schick agreed to deposit the entrusted funds in escrow accounts covered by restrictive provisions. Lerner v. Fleet Bank, N.A., 146 F.Supp.2d 224, 225-27 (E.D.N.Y.2001). He also entered into escrow agreements with the investors that stated: "Escrow Agent are attorneys [sic] admitted to practice in the State of New York and shall act as fiduciary in accordance with the relevant provisions of the Judiciary Law and all other ethical or legal standards for attorneys admitted to practice in the State of New York and expressly agrees that the only person who shall be entitled to, or have any right or interest in the Escrow Deposit shall be the Depositor." Armed with these guarantees, and relying on the fact that Schick was an attorney in good standing with the New York bar, the investors turned their money over to Schick for deposit in the defendant banks. Ultimately, however, these escrow agreements provided little protection against Schick's unscrupulous conduct. Before the investors discovered his fraud, Schick had raided the accounts repeatedly and managed to steal approximately $82 million.1

Some of these defrauded investors pursued a federal RICO action against Fleet Bank, alleging that Fleet Bank had aided Schick in stealing their money by approving withdrawals that violated restrictive provisions on the accounts; failing to inform state banking authorities or investors of the fraud; misleading investors regarding their accounts; approving overdrafts on these accounts; and submitting to investors a fraudulent report overstating the balances of the main escrow accounts. Schmidt v. Fleet Bank, 16 F.Supp.2d 340, 344-45 (S.D.N.Y.1998). The district court dismissed these claims both for failure to plead an enterprise adequately and for failure to plead that Fleet had directed the affairs of an enterprise. Id. at 346-51.

Constrained by this prior dismissal, plaintiffs in the instant RICO actions proceed under a more creative theory of liability. During the three-year period in which Schick operated his scheme, Schick drew over 500 checks from investor accounts at times when there were insufficient funds to cover the checks.2 Defendants extended Schick approximately $125 million in overdrafts. After a time, they began to dishonor his checks. These dishonored checks lie at the heart of this action.

Under New York's Disciplinary Code, "[a] lawyer who is in possession of funds belonging to another person incident to the lawyer's practice of law, shall maintain such funds in a banking institution within the State of New York which agrees to provide dishonored check reports" to the Lawyer's Fund for Client Protection of the State of New York ("Lawyer's Fund"). 22 N.Y.C.R.R. § 1200.46(b)(1). Lawyers are required to designate accounts holding their clients' funds "as an `Attorney Special Account,' or `Attorney Trust Account' or `Attorney Escrow Account,' and shall obtain checks and deposit slips that bear such title." Id. § 1200.46(b)(2). While Schick deposited some of the investors' money into properly designated accounts, the majority of these accounts were either labeled "attorney at law" or had no special designation.

Plaintiffs nonetheless allege that at the time of the events in question, each of the defendant banks had entered into reporting agreements with the Lawyer's Fund, as provided for by 22 N.Y.C.R.R. § 1300....

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