McMahan v. Deutsche Bank AG

• Decision Date: 05 April 2013
• Docket Number: No. 12 C 4356.,12 C 4356.
• Court: U.S. District Court — Northern District of Illinois
• Parties: John T. McMAHAN and Northwestern Nasal and Sinus Associates, S.C., Plaintiffs, v. DEUTSCHE BANK AG; Deutsche Bank Securities, Inc., Robert Goldstein, American Express Tax and Business Services, Inc. n/k/a McGladrey & Pullen, LLP, Defendants.

938 F.Supp.2d 795

John T. McMAHAN and Northwestern Nasal and Sinus Associates, S.C., Plaintiffs,

v.DEUTSCHE BANK AG; Deutsche Bank Securities, Inc., Robert Goldstein, American Express Tax and Business Services, Inc. n/k/a McGladrey & Pullen, LLP, Defendants.

No. 12 C 4356.

United States District Court,

N.D. Illinois,

Eastern Division.

April 5, 2013.

Sheldon J. Aberman, Cary J. Wintroub & Associates, Chicago, IL, for Plaintiffs.

Allan N. Taffet, Joshua C. Klein, Keith E. Blackman, Duval & Stachenfeld LLP, Lynne M. Fischman Uniman, Anju Uchima, Andrews Kurth LLP, New York, NY, J. Timothy Eaton, Jonathan B. Amarilio, Shefsky & Froelich, Ltd., Kirstin Beth Ives, Thomas F. Falkenberg, Williams Montgomery & John, Ltd., Chicago, IL, for Defendants.

MEMORANDUM OPINION AND ORDER

JAMES B. ZAGEL, District Judge.

Plaintiffs, John T. McMahan and Northwestern Nasal and Sinus Associates (“NNASA”), filed an eight-count complaint against Deutsche Bank AG (“DB”), Deutsche Bank Securities, Inc. (“DBSI”) (collectively, the “Deutsche Bank Defendants”), Robert Goldstein, and American Express Tax and Business Services (“AMEX”) (collectively, the “AMEX Defendants”). Plaintiffs' complaint seeks damages for civil conspiracy, fraud, negligent misrepresentation, violation of the Illinois Consumer Fraud and Deceptive Business Practices Act, breach of fiduciary duty, assisting in the breach of fiduciary duty, breach of contract, and professional malpractice. All counts arise out of Plaintiffs' participation in a now well-known tax shelter scheme that was created, promoted and executed by a network of banks, accounting firms and law firms across the country. The purported tax benefits of the scheme were ultimately disallowed by the IRS, resulting in substantial fines and back tax payments for those who participated. A few of the parties most responsible for the design and implementation of the scheme have been criminally prosecuted, and other individuals and entities involved have made substantial settlement payments to the United States government in order to avoid prosecution.

Defendants have moved to dismiss all counts. Despite the background of the tax-shelter scheme at issue in this case, my only task here is to assess the adequacy and timeliness of Plaintiffs' complaint. For these purposes, I accept the following facts from the Complaint as true.

I. FACTS ASSUMED IN THE COMPLAINT

In the early 1990s, McMahan and NNASA, a corporation owned by McMahan, retained Defendant Goldstein, a certified public accountant, to perform tax and accounting services. Goldstein annually advised McMahan to make certain investments for purposes of reducing his income tax liability. In 2001, Goldstein referred McMahan to the now-defunct law firm Jenkens & Gilchrist (“Jenkens”) to engage in a tax shelter strategy known as “Son of Bond and Option Sales Strategy” (hereinafter “Son of BOSS”). Goldstein and Erwin Mayer, a lawyer from Jenkens, met with McMahan in 2001 and explained to him that Son of BOSS was a legitimate investment strategy that would either generateprofits or capital losses that could be used to reduce his income tax liability. McMahan was told that Jenkens would prepare an independent legal opinion letter approving the Son of BOSS investment, which would protect Plaintiffs in the event of an IRS audit. McMahan was also told that Deutsche Bank would handle the underlying financial transactions, which involved the sale of foreign currency options. Relying on these assurances, McMahan decided that he and NNASA would participate in Son of BOSS.

Despite these representations, Defendants knew that Son of Boss was an illegitimate tax-saving strategy designed solely to avoid tax liability and reap large fees from investors. Unbeknownst to Plaintiffs, Son of BOSS had been designed and structured by Jenkens attorneys and Deutsche Bank employees in such a way that it was impossible to generate legitimate tax-deductible losses, and nearly impossible to generate profits. Based on a notice released by the IRS in 2000 (“Notice 2000–44”), Defendants knew that the IRS was investigating Son of BOSS under suspicion that it lacked economic substance, and would likely soon disallow all deductions claimed as capital losses stemming from the program.

Nevertheless, Jenkens, DB, Goldstein and American Express Tax and Business Services (“AMEX”), an accounting firm that employed Goldstein during the relevant time period, entered into an agreement whereby Goldstein and AMEX would represent to Plaintiffs that Son of BOSS was a legitimate tax-saving strategy, recommend that Plaintiffs participate in the underlying options, and prepare Plaintiffs tax returns to include losses from the Son of BOSS investment. In return, Goldstein and AMEX would receive a portion of the fees paid by investors to Jenkens for each Son of BOSS sale. Deutsche Bank agreed to participate in the scheme by executing the underlying currency transactions despite full knowledge that these transactions lacked economic substance and that Jenkens was falsely representing the tax-saving benefits of the strategy to investors. As a result of the above scheme, Plaintiffs filed a 2001 tax return that incorrectly determined Plaintiffs' true tax basis due to the illegitimate treatment of the Son of BOSS investment.

In December 2001, the IRS announced an amnesty program that allowed participants who voluntarily disclosed their participation in tax shelter strategies, such as Son of BOSS, to minimize liability for underpayment penalties without conceding liability for back taxes or interest. Defendants and the other co-conspirators concealed the amnesty program from Plaintiffs. In June 2003, the IRS formally invalidated a number of tax shelter strategies, including Son of BOSS, by issuing new regulations retroactive to October 1999. Defendants did not inform Plaintiffs of the IRS's action.

On October 26, 2010, the IRS issued a Notice of Final Partnership Administrative Adjustment (FPAA), in which Plaintiffs were advised that an increase in tax basis of $2,075,000 relating to the Son of BOSS investment was disallowed. As a result, Plaintiffs owed the IRS hundreds of thousands of dollars in additional taxes, penalties, and interest payments.

A 2005 U.S. Subcommittee Report found that tax shelters, like Son of BOSS, could not have been executed without the active and willing participation of major banks. Further, the report mentioned Deutsche Bank, among others, as having “provided billions of dollars in lending critical to transactions which the banks knew were tax motivated, involved little or no credit risk, and facilitated potentially abusive or illegal tax shelters.”

In March 2007, the United States Department of Justice entered into a non-prosecution cooperation agreement with Jenkens, in which Jenkens admitted to developing fraudulent tax shelters and issuing fraudulent opinion letters. Several Jenkens employees were convicted of tax fraud. Further, the firm settled a multimillion-dollar class action lawsuit arising from the improper use and marketing of fraudulent tax shelters.

II. STANDARD OF REVIEW

In addressing a motion to dismiss, the Court accepts the plaintiffs' allegations as true and draws reasonable inferences in their favor. Parish v. City of Elkhart, 614 F.3d 677, 679 (7th Cir.2010). Federal Rule of Civil Procedure 8(a)(2) requires the plaintiffs to provide “a short and plain statement” showing that they are entitled to relief. This statement must “give the defendant fair notice of what the plaintiff's claim is and the grounds upon which it rests.” Swierkiewicz v. Sorema N.A., 534 U.S. 506, 506, 122 S.Ct. 992, 152 L.Ed.2d 1 (2002). Though a complaint need not contain “detailed factual allegations, a formulaic recitation of the elements of a cause of action will not do.” Bell Atlantic Corp. v. Twombly, 550 U.S. 544, 555, 127 S.Ct. 1955, 167 L.Ed.2d 929 (2007). Rather, the plaintiffs must provide “enough facts to state a claim to relief that is plausible on its face.” Id. at 570, 127 S.Ct. 1955. A claim is facially plausible “when the plaintiff pleads factual content that allows the court to draw the reasonable inference that the defendant is liable for the misconduct alleged.” Ashcroft v. Iqbal, 556 U.S. 662, 678, 129 S.Ct. 1937, 173 L.Ed.2d 868 (2009).

III. ANALYSISA. Statute of Limitations

All Defendants have moved to dismiss on the grounds that Plaintiffs' claims are time-barred. The statute of limitations is an affirmative defense. “While complaints typically do not address affirmative defenses, the statute of limitations may be raised in a motion to dismiss if the allegations of the complaint itself set forth everything necessary to satisfy the affirmative defense.” Brooks v. Ross, 578 F.3d 574, 579 (7th Cir.2009) (citation omitted).

Four of Plaintiffs' causes of action are common law tort claims (civil conspiracy, fraud, negligent misrepresentation and assisting breach of fiduciary duty), subject to a five-year limitations period under Illinois law. See735 ILCS 5/13–205. The complaint also asserts a claim under the Illinois Consumer Fraud and Deceptive Business Practices Act (“ICFA”), which is subject to a three-year statute of limitations. See815 ILCS 505/10a(e).

On October 16, 2012, I stayed this case pending the Illinois Supreme Court's decision in Khan v. Grant Thornton, LLP, 365 Ill.Dec. 517, 978 N.E.2d 1020 (Ill.2012). At issue in Khan was the proper application of Illinois's “discovery rule,” which establishes the start of the period of limitations, to tort claims brought by investors who had suffered losses in a similar abusive tax shelter. The Khan court held that the limitations period did not begin to run against the investors' claims until they received a notice of deficiency from the IRS. Id. at 533, 978 N.E.2d 1020. It was not until the deficiency notice issued, the Court held, that the taxpayer is “on notice that he has suffered an injury and that the injury was...