RGH Liquidating Trust v Deloitte & Touche LLP
Annotate this CaseDecided on September 27, 2006
Supreme Court, New York County
The RGH Liquidating Trust, on Behalf Of Reliance Group Holdings, Inc.; The General Unsecured Creditors Of Reliance Group Holdings, Inc.; Reliance Financial Services Corp. (n/k/a Reorganized RFS Corporation) and the General Unsecured Creditors of Reliance Financial Services Corp., Plaintiffs,
against
Deloitte & Touche LLP and Jan A. Lommele, Defendants.
600057/2006
Karla Moskowitz, J.
Plaintiff seeks damages resulting from defendants' allegedly improper performance of actuarial and accounting services. The four-count complaint asserts causes of action for fraud, breach of contract and fraudulent conveyance. Defendants now move to dismiss the complaint pursuant to CPLR 3014, 3016 (b) and 3211.
Facts
Plaintiff RGH Liquidating Trust brings this action on behalf of Reliance Group Holdings, Inc. (RGH) and Reliance Financial Services Corp. (RFS) and their respective general unsecured creditors. RFS owns Reliance Insurance Company (RIC). In turn, RGH, a publicly held company, owns RFS. RIC was RGH's main operating subsidiary, allegedly generating 90% of the income of RGH and RFS. Defendant Jan A. Lommele (Lommele) is an actuary and a principal of the defendant accounting firm, Deloitte & Touche LLP (Deloitte).
The complaint avers that, since 1996, Deloitte and Lommele served as RIC's actuary and that Deloitte served as accountant and auditor for RGH, RFS and RIC, providing annual audit opinions of these entities' financial statements. Defendants allegedly failed to use reasonable and acceptable methods to calculate appropriate loss reserves for RIC. Plaintiff claims that, in Statements of Actuarial Opinion, issued on February 25, 2000, for the year ended December 31, 1999, defendants falsely stated that RIC's loss reserves were adequate and in compliance with state law, when, in reality, the loss reserves were deficient by $500 million.
The defendants allegedly incorporated this misstatement into the audited financial statements of RIC's corporate parent companies, RFS and RGH. Plaintiff claims that Deloitte audited, and, on February 29, 2000, certified RGH and RFS's financial statements for the year ended December 31, 1999. According to the complaint, this audit failed to reveal the $500 million deficiency in loss reserves and instead presented a non-existent surplus of $500 million, [*2]thereby concealing RIC's true financial condition, overstating it by $1 billion. Deloitte also allegedly miscalculated RIC's risk-based capital. Plaintiff alleges that, as a result, RGH, RFS and RIC appeared financially sound, when RIC, as the principal source of income for RGH and RFS, had a $500 million deficiency in its loss reserves. These misstatements allegedly caused the companies to make improper distributions, incur additional liabilities and forestall necessary regulatory action.
The complaint alleges that, on June 12, 2001, RGH and RFS filed for Chapter 11 bankruptcy protection in the United Statues Bankruptcy Court for the Southern District of New York, in In re Reliance Group Holdings, Inc. (Case No. 01-13404) (Bankruptcy Proceeding). In the Bankruptcy Proceeding, RGH and RFS submitted an application for an order authorizing them to retain Deloitte as accountants and auditors in connection with the proceeding.
On July 23, 2001, Robert J. Bass (Bass), a partner of Deloitte, filed a supplemental declaration in connection with RGH and RFS's application. (Dell Aff., Ex. C). Bass's supplemental declaration disclosed that the Insurance Commissioner of the Commonwealth of Pennsylvania (ICCP), in her capacity as rehabilitator of RIC, objected to Deloitte's participation in the Bankruptcy Proceeding. (Id., ¶ 3). Bass also disclosed that the ICCP was investigating Deloitte's role as auditor to RGH and RIC and that the investigation could result in the ICCP asserting claims against Deloitte. (Id.).
By order dated July 31, 2001, the District Court approved RGH and RFS's application to retain Deloitte, based, in part, upon their representation that Deloitte "is a disinterested person' as that term is defined in Sections 101 (14) and 1107 (b) of the Bankruptcy Code ... ." (Dell Aff., Ex. D, at 1 and Ex. B, ¶ 26).
On October 15, 2002, the ICCP, as liquidator of RIC, commenced an action against Deloitte based upon the acts that are the subject of this action (ICCP Action). On November 6, 2002, Bass submitted a second supplemental declaration in the Bankruptcy Proceeding, disclosing the existence of the ICCP Action. In subsequent years, Deloitte continued to perform services for RGH and RFS in connection with the Bankruptcy Proceeding.
Plaintiff commenced this action on January 6, 2006.
Discussion
The first and second causes of action allege actuarial and accounting fraud, respectively. Defendants argue that these causes of action fail to allege the necessary element of reliance.
"In order to recover for fraud, plaintiffs must show a representation of material fact, the falsity of that representation, knowledge by the party who made the representation that it was false when made, justifiable reliance by the plaintiff, and resulting injury." (Pope v Saget, 29 AD3d 437, 441 [1st Dept 2006]). "To show reliance, [the plaintiff] must demonstrate that [it] was induced to act [or] refrain from acting to his detriment by virtue of the alleged misrepresentation or omission." (Shea v Hambros PLC, 244 AD2d 39, 46-47 [1st Dept 1998] [internal quotation marks and citation omitted]). In addition, CPLR 3016 (b) states that "[w]here a cause of action or defense is based upon misrepresentation, fraud, mistake, wilful default, breach of trust or undue influence, the circumstances constituting the wrong shall be stated in detail."
Here, the complaint alleges that, if Deloitte's audit opinions had questioned RGH, RFS and RIC's viability, "the opinion[s] would have alerted regulators, insurance rating agencies, RGH, RFS and their respective creditors and averted hundreds of millions of dollars in losses." [*3](Complaint, ¶ 7; see also Complaint, ¶¶ 122, 128 [stating that RGH, RFS and their respective creditors "justifiably relied on ... false and material representations by defendants"]). The complaint states that,
[i]nstead, individual creditors and bondholders relied to their detriment upon Deloitte's and Lommele's representations as independent auditors and actuaries that RGH and its subsidiaries were financially sound and, as a result, suffered millions of dollars in losses by holding on to investments and/or engaging in transactions that they otherwise would not have if they [had] been accurately advised of Reliance's true financial condition.
(Id., ¶ 7). The complaint claims that, as a result of defendants' allegedly fraudulent acts, "improper distributions were made, additional liabilities were incurred and sorely needed regulatory action was forestalled." (Id., ¶¶ 39, 115). According to plaintiff, Deloitte attended meetings of RGH, RFS and RIC's audit committees and allegedly lulled the companies into believing that Deloitte had conducted proper audits. (Id., ¶¶ 94, 96). Plaintiff also claims that RGH, RFS and their creditors relied upon Deloitte's miscalculation of RIC's risk-based capital. (Id., ¶¶ 97-115).
These allegations of reliance conclude that there was reliance upon defendants' representations without containing any specific allegations that RGH, RFS or RIC, or any of these entities' creditors took any action or did not act because of defendants' representations. Plaintiff's allegations lack any of the specificity required to plead fraud. Plaintiff fails to identify a single improper distribution, a single liability incurred or a single regulatory action not taken that should have been taken. These facts obviously are within plaintiff's knowledge, but it failed to plead them. Therefore, plaintiff fails to plead how these entities relied upon defendants' alleged misrepresentations. (Water St. Leasehold LLC v Deloitte & Touche LLP, 19 AD3d 183, 185 [1st Dept 2005] ["[p]laintiff must show ... that defendant's misrepresentation induced plaintiff to engage in the transaction in question" [citation and internal quotation marks omitted]).
Plaintiff cites DaPuzzo v Reznick Fedder & Silverman (14 AD3d 302 [1st Dept 2005]), where the complaint contained sufficient allegations for the Court to glean reliance without requiring the plaintiffs to "establish" reliance. (Id. [emphasis added]). Here, conversely, as discussed above, the court is unable to glean from the complaint any allegations that support a showing of reliance. Accordingly, DaPuzzo is distinguishable on its facts, and it does not alter the general rule, as the Court of Appeals has enunciated, that a court must dismiss a fraud claim where the plaintiffs fail to show that they "in fact relied on any misrepresentation by defendants to their detriment." (Vermeer Owners, Inc. v Guterman, 78 NY2d 1114, 1116 [1991]). For the foregoing reasons, defendants' motion to dismiss plaintiff's first and second causes of action for fraud is granted. Plaintiff has leave to replead its claims for fraud to include more specific allegations concerning how they relied on defendants' misrepresentations and the consequences of that reliance.
Defendants next seek dismissal of the fourth cause of action for fraudulent conveyance, that alleges that defendants "receive[d] substantial fees" from RGH and RFS while defendants knew, or should have known, that RGH, RFS and RIC were, or were about to become, insolvent. (Complaint, ¶¶ 116-117). The complaint alleges that there was a lack of fair consideration for the fees paid to defendants because of alleged deficiencies in the services defendants provided. [*4]Defendants argue that plaintiff fails to allege lack of fair consideration in support of this claim.
Section 273 of New York's Debtor & Creditor Law provides that, "[e]very conveyance made and every obligation incurred by a person who is or will be thereby rendered insolvent is fraudulent as to creditors without regard to his actual intent if the conveyance is made or the obligation is incurred without a fair consideration." Section 272 provides that:
Fair consideration is given for property, or obligation,
a. When in exchange for such property, or obligation, as a fair equivalent therefor, and in good faith, property is conveyed or an antecedent debt is satisfied, or
b. When such property, or obligation is received in good faith to secure a present advance or antecedent debt in amount not disproportionately small as compared with the value of the property, or obligation obtained.
Here, while plaintiff alleges that Deloitte's fees lacked fair consideration because of deficiencies in defendants' work, plaintiff acknowledges that Deloitte acted as RGH and RFS's auditor and performed the audit of their 1999 financial statements. (Complaint, ¶¶ 18, 61, 77, 125). Thus, the complaint alleges that defendants performed services (allegedly improperly) and that the plaintiff entities paid for those services. The complaint never alleges that defendants failed to perform an audit. Therefore, plaintiff fails to allege a lack of fair consideration.
In opposition, plaintiff cites United Parcel Service, Inc. v Jay Norris Corp. (102 Misc 2d 231, 233 [Sup Ct, Nassau County 1979]), where the trial court stated that, "the fact that a consideration appears in the sales agreement will not be sufficient to prevent the conveyance from being fraudulent if plaintiff can prove an actual intent to hinder, delay or defraud creditors." In United Parcel Service, Inc., the defendant-debtor owed money to the plaintiff-creditor, but was transferring its assets to a third-party transferee in order to dissipate the debtor's assets and frustrate plaintiff's enforcement of any judgment. In addition, former key management of the debtor began working for the transferee. The court determined that the debtor and the transferee failed "to produce any canceled checks showing that actual payment of the consideration set forth in the sale agreement was made ... ." (Id. at 233).
Here, conversely, as discussed above, the complaint concedes that defendants performed the services in question and that defendants received payment for that performance. Thus, the consideration existed not only in an agreement, as in United Parcel Service, Inc., but plaintiff admits that defendants performed for RGH, RFS and RIC's payments. Therefore, United Parcel Service, Inc. is distinguishable on its facts.
Plaintiff also cites Ede v Ede (193 AD2d 940, 941-42 [3d Dept 1993]), arguing that "fair consideration requires that the exchange not only be for equivalent value, but also that the conveyance be made in good faith." In Ede, the respondent judgment-debtor conveyed a deed to his brother for one dollar and indicated that no transfer tax was due. The respondent also faced a pending lawsuit by a bank. Two months after conveying the deed, the respondent admitted in an affidavit that the property was valued at between $40,000 and $50,000, "and that he transferred it to his brother for $1 for the purpose of keeping it out of the hands of [his] creditors, including [plaintiff], who then possessed a judgment against [him].'" (Id. at 941). The Court determined that the statements in this affidavit "can admit of no finding other than [respondent's] bad faith." (Id. at 942). [*5]
Here, plaintiff argues that "[i]t certainly can be said that Defendant did not act in good faith when it made fraudulent misrepresentations in connection with its audit in order to obtain compensation." (Plaintiff's Opp. Mem. of Law, at 15). However, neither the complaint, nor plaintiff's opposition papers, identify any allegation of defendants' bad faith, other than the conclusory allegation that defendants concealed RGH, RFS and RIC's true financial condition in order to continue to receive fees and continue their relationships with officers and directors of these entities. (Complaint, ¶ 116-17, 136-39). Therefore, Ede is distinguishable on its facts. For the foregoing reasons, the court grants defendants' motion to dismiss the fourth cause of action for fraudulent conveyance.
Defendants also argue that judicial estoppel bars RGH and RFS because RGH and RFS represented to the court in the Bankruptcy Proceeding that Deloitte was a "disinterested person." (Dell Aff., Ex. D, at 1 and Ex. B, ¶ 26). Plaintiff asserts the third cause of action for breach of contract against Deloitte only on RGH and RFS's behalf. RGH, RFS and their respective creditors assert the first, second and fourth causes of action.
"[T]he doctrine of judicial estoppel precludes a party who assumed a certain position in a prior legal proceeding and who secured a judgment in his or her favor from assuming a contrary position in another action simply because his or her interests have changed." (Gale P. Elston, P.C. v Dubois, 18 AD3d 301, 303 [1st Dept 2005] [citation and internal quotation marks omitted]). "[T]his rule has, properly, been applied as well to court rulings that are not denominated as judgments'." (D & L Holdings, LLC v RCG Goldman Co., LLC, 287 AD2d 65, 71 [1st Dept 2001]). In addition, successors in interest are bound by their predecessors' legal positions. (Secured Equities Investments, Inc. v McFarland, 300 AD2d 1137, 1138 [4th Dept 2002]). Judicial estoppel applies to the representations RGH and RFS made in the Bankruptcy Proceeding (All Terrain Prop., Inc. v Hoy, 265 AD2d 87, 93-94 [1st Dept 2000]), and, therefore, the court must examine the legal context in which RGH and RFS made those representations.
The bankruptcy trustee, "with the court's approval, may employ ... accountants ... that do not hold or represent an interest adverse to the estate, and that are disinterested persons, to represent or assist the trustee in carrying out the trustee's duties under this title." (11 USC § 327 [a]). The requirement that the professional be a disinterested person applies "at the time of retention and throughout the case." (In re Granite Partners, L.P., 219 BR 22, 32 [Bankr SDNY 1998]).
"The case law is clear that the burden of disclosure is upon the person making the statement to come forward with facts pertinent to eligibility and to make, candid and complete disclosure." (In re Huddleston, 120 BR 399, 400-01 [Bankr ED Tex 1990] [citation and internal quotation marks omitted]). "[A]s soon as counsel acquires even constructive knowledge reasonably suggesting an actual or potential conflict ..., a bankruptcy court ruling should be obtained." (Rome v Braunstein, 19 F3d 54, 59 [1st Cir 1994] [citations omitted]). "Disclosure is the pivotal' concept in Chapter 11 reorganization." (Kunica v St. Jean Financial, Inc., 233 BR 46, 54 [SDNY 1999]).
As discussed, in the Bankruptcy Proceeding, RGH and RFS applied for an order authorizing their retention of Deloitte as accountants and auditors in connection with the proceeding. Then Bass in his supplemental declaration disclosed the ICCP's potential claims against Deloitte as auditor to RGH and RIC; RGH and RFS did not withdraw their application to retain Deloitte. Nor did the unsecured creditors of RGH and RFS object. [*6]
By order dated July 31, 2001, the District Court granted RGH and RFS's application, based, in part, upon the debtors' representation that Deloitte "is a disinterested person' as that term is defined in Sections 101 (14) and 1107 (b) of the Bankruptcy Code" (Order). (Dell Aff., Ex. D, at 1 and Ex. B, ¶ 26). Neither RGH nor RFS changed their representation to the Bankruptcy Court that Deloitte was disinterested, even after Bass filed his second supplemental declaration in the Bankruptcy Proceeding disclosing the ICCP Action. Nor did RGH or RFS disclose the existence of potential claims against Deloitte. To the contrary, RGH and RFS continued to retain Deloitte as their accountant and auditor, receiving the benefit of the Bankruptcy Court's disposition vis-à-vis the Order and the services Deloitte provided.
Plaintiff argues that it objected to Deloitte's final fee application in the Bankruptcy Proceeding, citing to Judge Gonzalez's statements at the hearing concerning that objection. However, it was not until March 6, 2006 (two months after commencing this action) that plaintiff filed an objection based upon the complaint in this action. Plaintiff did not change its representation concerning Deloitte's disinterestedness or disclose potential claims against Deloitte until after plaintiff commenced this action.
On March 6, 2006, the Bankruptcy Court heard arguments on plaintiff's objection. The court acknowledged plaintiff's failure to inform the court that Deloitte was allegedly no longer disinterested, stating:
But, the thought's [sic] come to my mind, if Deloitte was retained on the basis of 327, issues are raised that go to the very seemingly go to the very heart of that retention. And you have an issue as to whether Deloitte was disinterested in the first place. So how does that - that issue seems to go over everybody's head? ... it's not brought to my attention. ... that complaint really says Deloitte may not have been disinterested.
(3/8/06 Tr., Gage Aff., Ex. C, at 19-20). Nothing plaintiff submitted overcomes defendants' showing that plaintiff failed to change its position concerning Deloitte's disinterestedness. Therefore, the RGH Liquidating Trust, as successor to RGH and RFS, is judicially estopped from pursuing this action against Deloitte.
Accordingly, that part of defendants' motion to dismiss claims brought on behalf of RGH and RFS is granted as barred by judicial estoppel. The third cause of action, that plaintiff asserts solely on behalf of RGH and RFS, is thus dismissed. The first, second and fourth causes of action, to the extent plaintiff asserts them on RGH and RFS's behalf, are also dismissed.
Accordingly, it is hereby
ORDERED that the motion to dismiss is granted and the complaint is dismissed; and it is further
ORDERED that plaintiff is granted leave to serve and file an amended complaint to plead plaintiff's reliance and the consequence of that reliance with more specificity within 20 days after service on plaintiff's attorney of a copy of this order with notice of entry. In the event that plaintiff fails to serve and file an amended complaint within that time, the Clerk is directed to enter judgment dismissing the action with prejudice.
Dated: September __, 2006
ENTER:
__________________
J.S.C.
[*7]
Some case metadata and case summaries were written with the help of AI, which can produce inaccuracies. You should read the full case before relying on it for legal research purposes.
This site is protected by reCAPTCHA and the Google Privacy Policy and Terms of Service apply.
