Gaming the System: Are Ponzi Schemers Receiving Proper Criminal Sentences?

Author: Collin L. Ryan, Associate Member, University of Cincinnati Law Review

Ponzi schemes have existed for many years and their internal structure is well understood. Schemers solicit funds from individuals as “investments,” but keep the money themselves and pay “returns” to those investors from additional funds that are received from other new investors.[1] Consequently, the “returns” paid out attract more new investors to invest in the scheme, whose funds are then used to pay out more false “returns” to current investors, thus perpetuating the scheme. The fundamental component of this scheme is the pay out of fake returns. Without these payouts, the scheme would not attract new investors and would not grow and continue to profit the schemer.

Should the sheer act of paying out false “returns” to investors—an essential element of the scheme itself—allow operators of a Ponzi scheme to receive shortened lengths of criminal sentences? While some circuits do not allow fraudulent returns to mitigate sentencing lengths, the Sixth Circuit Court of Appeals recently held that, for purposes of calculating the range of criminal sentencing, the money paid back to a Ponzi scheme’s investors as “returns” on their investments offsets the victims’ total loss from fraud, and thus automatically lessens the length of criminal sentencing.[2]

United States v. Snelling: Schemers Benefiting From Their Scheme

Jason Snelling faced criminal charges for his involvement in a Ponzi scheme that “defrauded investors by soliciting funds for two fictitious companies, CityFund and Dunhill.”[3] These two companies claimed to be investors of “overseas mutual funds” that promised their own investors “an annual return of 10-15%.”[4] Instead, Snelling and his partner were using the money to “buy vacation houses and boats, pay private-school tuition, and otherwise live extravagantly.”[5] In total, the scheme defrauded investors of nearly $9 million.[6]

Snelling signed a plea agreement admitting to the scheme-related charges of “conspiracy to commit mail and wire fraud, obstruction of justice, and tax evasion.”[7] The plea agreement also stated that “[d]epending upon the loss figure established at sentencing, different subsections of [the Sentencing Guidelines statute], corresponding to different offense-level enhancements, would apply.”[8] In other words, depending on how much total loss the Ponzi scheme caused investors, certain statutory sentencing guidelines would impose a longer or shorter criminal sentence.[9]

The resulting issue was determining how the total loss figure should properly be calculated.[10] Snelling argued that the total loss figure should include the money paid out to victims during the Ponzi scheme’s operation, thus reducing the total loss figure. The government, however, argued that money paid out does not reduce the total loss figure, and Mr. Snelling “should not get credit for payments to perpetuate the scheme made with other victims’ money.”[11] The government’s calculation “resulted in a sentencing range of 121-151 months, significantly higher than the range of 97-121 months claimed by [Snelling].”[12] The district court agreed with the government’s argument and sentenced Mr. Snelling to 131 months’ imprisonment, stating that “the loss should not be reduced, particularly because the monies did not represent profits . . . [and] any return of money was to induce further investment . . . .”[13]

On appeal, Snelling’s argument persuaded the Sixth Circuit to vacate the district court’s sentencing and remand for resentencing.[14] Snelling based his argument for reducing the total loss figure on two particular Application Notes of the Sentencing Guidelines.[15] The first note explicitly states that “money returned . . .by the defendant . . .to the victim before the offense was detected” will reduce the victim’s total loss.”[16] The second note specifically references Ponzi schemes, and states that when calculating the loss caused by the scheme, “[t]he gain to an individual investor in the scheme shall not be used to offset the loss of another.”[17] In other words, one individual’s gains from the scheme do not reduce another individual’s losses.

Based on the Application Notes, Snelling argued that “the language . . . implies that courts are expected to reduce loss figures by the sums returned to investor victims,” and that the reduction need only be limited “[to] the principal [amount] invested” by the individual investor.[18] The Sentencing Guidelines merely seek to ensure that “a single investor’s returns [are not] deducted beyond the amount originally invested.”[19] The Sixth Circuit agreed with Snelling’s interpretation and held that the “limit[ing] [of] deductions from loss figures to no more than the sums originally invested implies, quite strongly, that the loss figures are to be reduced in the first place.”[20]

“Garbage In, Garbage Out”

The Sixth Circuit correctly interpreted and applied the Sentencing Guidelines. Based on the plain statutory language, the amount of money paid out to victims during the course of the scheme must be deducted from the total loss figure, thus reducing the total length of sentencing. However, the ruling’s correct statutory interpretation does not mean that it is an example of good law or good public policy.

In Snelling, the Sixth Circuit admitted, “there is intuitive appeal to the government’s argument that [the defendant] should not be allowed to benefit from the payments he made ‘not to mitigate the losses suffered . . . but to create the means to convince new victim-investors to pay him even more money.’”[21] The Court continued, “We need not reflect, however, on whether it is unseemly for [the Defendant] to benefit from the money he paid out to investors in an effort to perpetuate his Ponzi scheme. Undoubtedly it is.”[22] Matters of unseemliness, however, do not dictate legal outcomes, and “[a]s appealing as the government’s argument may be, it does not comport with the text of the [Sentencing] Guidelines.”[23]

The Sentencing Guidelines have not always contained provisions relating to the reduction of loss figures via victim returns.[24] In 2001, the Sentencing Commission amended the Sentencing Guidelines and included the new provisions of “Credits Against Losses” and “Ponzi and Other Fraudulent Investment Schemes” used in Snelling.[25] One possible reason for the amendments was to give greater protection to the victims of fraud by incentivizing fraudulent actors to abandon their fraudulent activity and to “make amends” to the defrauded. In a situation where an individual loses money or property from another’s fraudulent activities, one of the main goals of the system is to make the victim whole. Reducing punishment severity for fraudulent actors who seek to undo the fraud by returning the victim’s losses prior to arrest promotes victim recovery. Otherwise, schemers wishing to right their fraudulent wrongs would have less incentive to return losses to victims, thus leaving the victims completely empty-handed.

In reality, the amendments indirectly give schemers a perverse incentive to continue to operate and grow their Ponzi scheme. When a schemer pays out returns to investors, new investors are lured to invest in the scheme. Thus, unlike the previously mentioned reasoning behind the amendments, there is no need to incentivize Ponzi scheme operators to return money or property to victims because this activity is already in the schemer’s interest in perpetuating the scheme. The more returns paid out, the more new investors the Ponzi scheme will attract. In an unfortuante turn of events, by reducing the schemer’s sentence, the Sentencing Guidelines are essentially awarding schemers with shortened criminal sentences based on the success of their fraudulent investment schemes.

As the old adage goes, “garbage in, garbage out.” Such is the case here when the plain statutory meaning of the Sentencing Guidelines demands one result, but common sense demands another. Admittedly, the Sixth Circuit applied the correct interpretation of the Guidelines. The circuit court did not possess the constitutional authority to rewrite the Sentencing Guidelines in a manner more appropriate to the given facts, or to adopt an interpretation that clearly conflicts with the Guidelines’ plain meaning. However, the Sentencing Guidelines do not promote sound policy in this respect and ought to be changed to bar the inclusion of funds paid out to Ponzi scheme investors. While inclusion of the amount of money paid back to victims is appropriate in many situations when calculating total loss, a Ponzi scheme is not one of them. Paying fraudulent returns back to investors is how Ponzi schemes successfully operate and grow. Permitting reduced sentences for an act committed in furtherance of the Ponzi scheme promotes the perpetuation of the criminal act, poisons the criminal system’s propriety, and perverts the interests of justice.

[1] See United States v. Snelling, 768 F.3d 509, 510 (6th Cir. 2014) (“[Defendants] operated a Ponzi scheme in which the ‘returns’ on earlier investors’ capital were simply a portion of new investors’ deposits. The remainder of the new deposits were diverted to [Defendants]”).

[2] Id. at 515 (“Accordingly, the district court was in error when it declined to reduce the loss figure by the value of the payments made by [the Defendant] to his investor victims in perpetuating his Ponzi scheme”); cf. United States v. Alfonso, 479 F.3d 570, 573 (8th Cir. 2006) (concluding that “the district court properly declined to offset victims’ gains on one investment against their losses on subsequent investments”); United States v. Munoz, 233 F.3d 1117, 1126 (9th Cir. 2000) (Holding that “the district court properly calculated the loss attributable to each defendant based on intended loss, without offsetting the calculation by amounts ultimately recovered by investors”).

[3] Snelling, 768 F.3d at 510.

[4] Id.

[5] Id.

[6] Id. at 511.

[7] Id. at 510.

[8] Id. at 511.

[9] Id. (Noting that while the Defendant’s calculation “yielded a loss figure less than $7,000,000,” the Prosecution calculated a “total loss figure of over $7,000,000, which, in turn, yielded an offense-level” that resulted in a larger sentencing).

[10] Id.

[11] Id.

[12] Id.

[13] Id.

[14] Id. at 515.

[15] Id. at 512.

[16] Id. (citing U.S.S.G. § 2B1.1 Application Note 3(E)(i)).

[17] Id. at 513 (citing U.S.S.G § 2B1.1 Application Note 3(F)(iv)).

[18] Id. (emphasis omitted).

[19] Id..

[20] Id. (emphasis added).

[21] Id. at 514 (quotations in original).

[22] Id. (emphasis added).

[23] Id. at 515.

[24] Id. at 513 (“Unlike the current provision, [the previous edition] made no reference to a reduction of the loss value based on sums returned to victims”).

[25] Id.

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