Stone v. Kirk
| Decision Date | 01 November 1993 |
| Docket Number | No. 91-5833,91-5833 |
| Citation | 8 F.3d 1079 |
| Parties | , Fed. Sec. L. Rep. P 97,808, RICO Bus.Disp.Guide 8409, 39 Fed. R. Evid. Serv. 1076 David STONE and Colleen Stone, Plaintiffs-Appellees, v. John Wilson KIRK and J.W.K. Land and Cattle Company, Inc., Defendants-Appellants. |
| Court | U.S. Court of Appeals — Sixth Circuit |
Joel C. Morgan, J. Randall Reinhardt (argued and briefed), Reinhardt, Morgan & Arnold, Lexington, KY, for plaintiffs-appellees.
Lawrence R. Webster, Pikeville, KY, Felix J. Gora (argued), Ralph F. Mitchell (briefed), Rendigs, Fry, Kiely & Dennis, Cincinnati, OH, for defendants-appellants.
Before: MARTIN, MILBURN and NELSON, Circuit Judges.
This is a securities fraud case that arises out of sales of tax shelters designed to give investors the benefit of large investment tax credits. The credits were ultimately disallowed by the Internal Revenue Service, which found the tax shelters to be fraudulent and abusive.
The individual defendant, a certified public accountant who received hidden commissions on sales he made to groups of accounting clients and others, went bankrupt after the filing of the lawsuit. An adversary proceeding on the dischargeability of his asserted debt to the plaintiffs, who were client-investors, was consolidated for trial with the securities fraud case.
The jury returned a verdict in favor of the plaintiffs, finding them entitled to compensatory and punitive damages and finding the debt nondischargeable in bankruptcy. The compensatory damages were trebled under the Racketeer Influenced and Corrupt Organizations Act ("RICO").
The defendants contend on appeal that (1) judgment should have been entered in their favor because the tax shelters did not come within the statutory definition of a "security;" (2) the question of dischargeability was for the court to decide, not the jury; (3) judgment should have been entered for the defendants on grounds of insufficiency of the evidence with respect both to the fraud claim and the RICO claim; (4) the trial court committed reversible error in letting a certified public accountant from Kentucky testify as an expert on professional standards in West Virginia; (5) the award of compensatory damages was excessive; and (6) the court erred in awarding punitive damages.
We conclude that the tax shelters were investment contracts, a type of investment expressly included within the statutory definition of securities; that there was sufficient evidence to support the jury's finding of liability under the securities laws, but not to support the award of treble damages under RICO; that no significant error was committed as to the expert witness' testimony; and that any error in submitting the issue of dischargeability to the jury was harmless, given the collateral effect of the judgment for the plaintiffs on the securities fraud issue.
We further conclude that the jury applied an erroneous measure of damages in its calculation of the amount recoverable under the securities laws, and we conclude that punitive damages should not have been awarded here. We shall therefore affirm the judgment as to liability for securities fraud and as to dischargeability in bankruptcy, reverse the award of punitive damages and treble damages, and remand the case for a redetermination of actual damages.
Plaintiff David Stone, a mechanic with a high-school education, worked in a coal mining business conducted by Amber Coal Company. The company had offices in the eastern part of Kentucky, the state in which David Stone and his wife, plaintiff Colleen Stone, resided. 1
Amber Coal Company's principals gave Mr. Stone an equity interest in the company in exchange for his services as a mechanic. As part of the compensation package, Mr. Stone testified, defendant John Wilson Kirk, who was Amber's accountant, prepared the Stones' individual income tax returns. Mr. Kirk, who was not licensed in Kentucky, maintained an office in Williamson, West Virginia.
In 1980 or thereabouts, Mr. Stone testified, the profitability of Amber's coal business rose to a point where Stone began earning hundreds of thousands of dollars a year. The top federal income tax bracket at that time was 50 percent, and defendant Kirk recommended that the Stones buy tax shelters from him to reduce their heavy tax burden. Each tax shelter was organized as a joint venture among several investors. The investors pooled their funds and jointly empowered Mr. Kirk to conduct the affairs of the venture as their agent.
Mr. Kirk allegedly represented that the tax shelters were good investments from a business standpoint and that there was "[n]ot a thing wrong with [them]" as far as the Internal Revenue Service was concerned. Some of the conversations about the tax shelters took place at Amber Coal Company's office in Kentucky, some took place at Kirk's office in West Virginia, and one took place at the Stones' Kentucky home.
The business of each joint venture entailed the leasing of a "master recording" that could be used for the production of phonograph records, tapes and cassettes. The recordings, which featured the work of such well known country music singers as Mel Tillis, Jerry Lee Lewis and Tammy Wynette, were owned by Sagittarius Recording Company, a corporation based in Columbus, Ohio. 2 It has not been shown that defendant Kirk had any interest in or connection with Sagittarius other than as a sales representative operating on a commission basis.
Sagittarius acquired the master recordings at grossly inflated prices, making small cash payments up front and issuing long term promissory notes for the balance. The IRS subsequently determined that the notes were without recourse, notwithstanding that they were described by Sagittarius as recourse notes. Appraisals obtained by Sagittarius to support the fair market value claimed for the masters turned out to be fraudulent. Defendant Kirk had nothing to do with the purchase of the masters by Sagittarius, nor was he involved in obtaining the fraudulent appraisals.
Under the leasing programs offered by Sagittarius, investment tax credits based on the bogus purchase prices were supposed to be passed through to the lessee-investors. A district judge who handled another Sagittarius case found that "investors were lured into the scheme by promise of a ratio of tax write-off to lease payment of approximately eight to one...." Kolibash v. Sagittarius Recording Co., 626 F.Supp. 1173, 1178 n. 3 (S.D.Ohio 1986). Defendant Kirk, however, did not claim write-offs of that magnitude for the Stones.
Mr. Kirk first learned about the leasing programs from a Sagittarius vice-president who gave him an offering memorandum, or prospectus, and told him that the programs it described were good "exotic" tax shelters. (The prospectus emphasized that "THE LEASE PROGRAM DESCRIBED HEREIN INVOLVES A HIGH DEGREE OF RISK;" there is a conflict in the evidence as to whether Kirk disclosed this "high degree of risk" to the Stones.) Kirk's initial response, according to the testimony of his secretary, was to tell the Sagittarius man to get out of his office because "[t]here is no way that would work."
Discussions between Kirk and Sagittarius continued over a period of several months, notwithstanding Mr. Kirk's initial negative reaction, and in 1981 Kirk started selling leases of master recordings owned by Sagittarius. Although he testified, somewhat implausibly, that he began his sales efforts before he knew he would be getting commissions, he admitted that Sagittarius allowed him to keep at least 18 percent of what he took in.
There was evidence that Mr. Kirk invested some of his own money in the leasing programs so that "his clients and other people he tried to sell them to would feel more free buying them." Kirk committed himself to put $6,480 into the first joint venture for which Mr. Stone subscribed, for example. Mr. Kirk's former wife testified that Kirk kept in their home at Turkey Creek a white ledger book in which he maintained records of both his own investments and his receipts from other investors. She said that he told her "if the IRS ever came in, to be sure that they didn't get it."
Mr. Stone testified that Mr. Kirk represented that he "was going to get a small percentage of something for taking care of the book work"--Kirk's version was that he told his clients "everybody makes money on these deals"--but Kirk failed to disclose that Sagittarius was giving him a sizable percentage of the lease payments. Mr. and Mrs. Stone's understanding, they both testified, was that 100 percent of the lease payments were going to the company that owned the recordings.
There was abundant evidence that the "book work" mentioned in Mr. Stone's testimony was understood to be work performed by Mr. Kirk as agent for the joint ventures. Mr. Stone signed a total of three joint venture agreements, two in 1981 and one in 1982, each of which designated John Wilson Kirk as the venture's agent. The agreements empowered Mr. Kirk, acting on behalf of the joint venture, to sign leases with Sagittarius and to sign manufacturing/distribution contracts with companies which, it was contemplated, would make records and tapes from the masters and distribute the finished products. 3 Mr. Kirk undertook to file partnership tax returns for the joint ventures and to render periodic accountings to the venturers. The joint venture agreements set Mr. Kirk's compensation at five cents for each album or cassette sold, plus (in the case of two of the agreements) an annual "administration fee" of $50 or $100. Mr. Stone knew of these provisions in the joint venture agreements, and he testified that he did not know that Kirk was taking sales commissions in addition to the compensation authorized in the agreements.
Mr. Kirk signed a manufacturing/distribution agreement on behalf of at least one of the joint...
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