Shochat v. Weisz

• Decision Date: 23 June 1992
• Docket Number: No. CV 87-6935 (ADS).,CV 87-6935 (ADS).
• Citation: 797 F. Supp. 1097
• Parties: Sam SHOCHAT, Phoebe Shochat, Isidore Shochat and Rose Shochat, Plaintiffs, v. Stanley WEISZ, Defendant.
• Court: U.S. District Court — Eastern District of New York

797 F. Supp. 1097

Sam SHOCHAT, Phoebe Shochat, Isidore Shochat and Rose Shochat, Plaintiffs, v. Stanley WEISZ, Defendant.

No. CV 87-6935 (ADS).

United States District Court, E.D. New York.

June 23, 1992.

Haas, Greenstein, Sims, Cohen & Gerstein, New York City (Robert I. Cantor, Lisa A. Wellman, of counsel), for plaintiffs.

Michael Dennis, Saul Weinstein, Garden City, N.Y., for defendant.

MEMORANDUM AND ORDER

SPATT, District Judge.

This is a securities fraud action to recover damages by investors against their accountant as a result of certain investments in tax shelters.

THE COMPLAINT

The complaint contains two causes of action. The first cause is based on alleged "affirmative misrepresentations and intentional omissions to plaintiffs concerning the advisability of their acquiring the ... securities and concerning his (defendant's) actively representing plaintiffs in order to obtain a settlement with the Internal Revenue Service favorable to plaintiffs" (Complaint ¶ 62). The plaintiffs allege that the stated "affirmative misrepresentation and intentional omissions ... constitute violations of the Securities and Exchange Act of 1934 and Rule 10b-5 of the Rules of the Securities Exchange Commission."

Perusing the complaint, the Court notes the plaintiffs' allegation that they are "inexpert and unsophisticated investors ... relying totally on defendant's advice with respect to making investments in tax shelters" (Complaint ¶ 7). The complaint alleges the following affirmative misrepresentations or omissions, with regard to five different tax shelter investments, namely, Wind Energy, Darby Coal, Sharon Biomedical, MF Computer and Lithographs:

1. As to Wind Energy:

In the category of "affirmative misrepresentation," the plaintiffs claim that the defendant held out one Louis Ladimir to be the Chairman, sole director and officer of Wind Energy, which created the false image of an active research and development business; that there was a reasonable expectation that Wind Energy would generate economic benefits other than just tax write-offs.

As to "omissions," the plaintiffs contend that the defendant failed to disclose the fact that Ladimir's signature on a contract to perform research and development was a forgery; that Wind Energy lacked the criteria necessary to qualify as a legitimate tax shelter; that deductions taken on the investors' federal tax returns had no reasonable chance of being allowed by the Internal Revenue Service ("IRS") (see Complaint ¶¶ 20, 21, 22). The latter two allegations form a common thread involving all the tax shelters.

2. As to Darby Coal:

That the defendant failed to advise the investors that the Darby Coal offering plan was devoid of any business plan or opinion on which an investor could base an informed decision; that the Darby Coal investment patently lacked the criteria then necessary to qualify as a tax shelter and that deductions taken by its investors "had absolutely no reasonable chance of being allowed by the Internal Revenue Service"; that the defendant was aware that the offering constituted a securities law violation of Rule 10b-5 (see Complaint ¶¶ 29, 34).

3. As to Sharon Biomedical:

That the defendant represented that investment in Sharon Biomedical would allow the plaintiffs to "legitimately take certain deductions on their federal income tax returns"; that the defendant failed to disclose that Sharon Biomedical patently lacked the criteria then necessary to qualify as a legitimate tax shelter and that deductions had "absolutely no reasonable chance of being allowed" by the IRS; that the defendant was aware that the offering constituted a securities law violation of Rule 10b-5 (see Complaint ¶¶ 35, 36, 41).

4. As to MF Computer:

That the defendant affirmatively represented that investment in MF Computer would allow plaintiffs to "legitimately" take deductions on their federal income tax returns; that defendant failed to advise the plaintiffs that MF Computer lacked the criteria then necessary to qualify as a legitimate tax shelter and that deductions taken had "absolutely" no reasonable chance of being allowed by the IRS; that the defendant was aware the offering constituted a securities law violation of Rule 10b-5 (see Complaint ¶¶ 42, 43, 48).

5. As to Lithographs:

That the defendant affirmatively represented to plaintiffs Sam and Phoebe Shochat that he could create a tax shelter tailored to sell the works of a certain artist and allow investors to take "legitimate" deductions on their tax returns; that defendant failed to advise said plaintiffs that Lithographs "patently" lacked the criteria necessary to qualify as a "legitimate" tax shelter and that deductions taken had "absolutely" no chance of being allowed by the IRS (see Complaint ¶¶ 49, 52).

The second cause of action repeated the same allegations in the nature of a New York State common law fraud cause of action.

SECURITIES FRAUD — THE STATUTE AND RULE — CLAIMS UNDER SECTION 10(b) AND RULE 10b-5.

Section 10(b) of the Securities Exchange Act of 1934, codified at 15 U.S.C. § 78j(b), provides as follows:

"It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce or of the mails, or of any facility of any national securities exchange —

* * * * * *

(b) To use or employ, in connection with the purchase or sale of any security registered on a national securities exchange or any security not so registered, any manipulative or deceptive device or contrivance in contravention of such rules and regulations as the Commission may prescribe as necessary or appropriate in the public interest or for the protection of investors."

Rule 10b-5, promulgated by the Securities and Exchange Commission in 1948 pursuant to section 10(b) (reprinted in 7 C.F.R. § 240.10b-5 1990), provides as follows:

"It shall be unlawful for any person, directly or indirectly, by the use of any means or instrumentality of interstate commerce, or of the mails or of any facility of any national securities exchange,

(a) To employ any device, scheme, or artifice to defraud,

(b) To make any untrue statement of a material fact or to omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or

(c) To engage in any act, practice, or course of business which operates or would operate as a fraud or deceit upon any person,

in connection with the purchase or sale of any security."

To establish a claim under section 10(b) or Rule 10b-5, the plaintiffs must prove the following essential elements:

"(1) damage to plaintiff, (2) caused by reliance on defendant's misrepresentations or omissions of material facts, or on a scheme by defendant to defraud, (3) made with scienter (i.e., an intent to deceive, manipulate or defraud, or possibly with reckless disregard), (4) in connection with the purchase or sale of securities, and (5) furthered by defendant's use of the mails or any facility of a national securities exchange" (Royal Am. Managers, Inc. v. IRC Holding Corp., 885 F.2d 1011, 1015 2d Cir.1989).

In sum, the plaintiffs must prove that "in connection with the purchase ... of securities, the defendant, acting with scienter, made a false material representation or omitted to disclose material information and that plaintiff's reliance on defendant's action caused him injury" (Bloor v. Carro, Spanbock, Londin, Rodman & Fass, 754 F.2d 57, 61 2d Cir.1985; see also Connecticut Nat'l Bank v. Fluor Corp., 808 F.2d 957, 961-62 2d Cir.1987; A. Burton White, M.D., P.C. v. Beer, 679 F.Supp. 207, 211-12 E.D.N.Y.1988).

THE TRIAL

This opinion and order includes the Court's findings of fact and conclusions of law as required by Fed.R.Civ.P. 52(a) (see also Colonial Exchange Ltd. Partnership v. Continental Casualty, 923 F.2d 257 2d Cir.1991).

During this discussion, the Court will make findings of fact which will be supplemented by additional findings later in the opinion.

SAMUEL SHOCHAT ("the plaintiff" or "SHOCHAT") is a successful businessman and the President of Woodbury Automotive Warehouse, Inc., an auto parts business serving the tri-state area. He is an eighty percent stockholder in Woodbury Automotive Warehouse, Inc., in addition to owning four other auto parts companies. In 1977 or 1978, some of the years at issue, the annual gross sales of his businesses was approximately ten million dollars. In 1974, with his business growing, the plaintiff retained the defendant STANLEY WEISZ ("the defendant" or "WEISZ") as the accountant for him and the plaintiff ISIDORE SHOCHAT, his father, as well as for their businesses.

The plaintiff, his father and the defendant usually met late in the year to discuss year-end business and personal taxes. In 1977, their fiscal year ended on September 30th. The subject of tax shelters was first discussed during the 1977 meeting. With regard to the personal income tax liability of the plaintiff and his father, the defendant said he sold tax shelters to some of his clients. The defendant mentioned Darby Coal as a good investment because oil was difficult to obtain at that time and coal was "reinvented." Shochat testified that the defendant told them that Darby Coal was a "good shelter to defer taxes — he recommended it and we bought it."

At the time of the 1977 meeting, the plaintiff and his father asked the defendant a number of questions because they were concerned "if it was legal and approved by the IRS." They were assured by the defendant that Darby was "viable" and that "he wouldn't put us in anything not approved by the IRS." The plaintiff testified that he saw no literature at that time.

In November 1977, the parties had another meeting and the plaintiffs asked additional questions, at which time "he Weisz satisfied us." Shochat gave the defendant his checkbook and the defendant wrote out a check for $16,500 and Shochat signed it. At that...