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PUCCI v. LITWIN

July 20, 1993

RALPH O. PUCCI, et al., Plaintiffs,
v.
GERALD H. LITWIN, et al., Defendants.


ALESIA


The opinion of the court was delivered by: JAMES H. ALESIA

Before the court is the motion to dismiss plaintiffs' Second Amended Complaint filed by defendants Litwin and Clapp & Eisenberg (the "Litwin defendants"). The court previously dismissed Counts I and II of the Second Amended Complaint sua sponte in its order dated April 23, 1993. The court dismissed nearly identical counts in the First Amended Complaint in a Memorandum Opinion and Order dated February 18, 1993. That opinion was vacated when plaintiffs sought, and the court granted, leave to amend their complaint to introduce new allegations regarding fraudulent coal mining investment schemes. Accordingly, the court will reiterate its reasons for dismissing Counts I and II here. *fn1" In addition, the court will address the merits of defendants' instant motion to dismiss the remaining counts of the Second Amended Complaint. *fn2"

 I. FACTS

 This action arises out of plaintiffs' investment in a real estate tax shelter. Plaintiffs purchased limited partnerships in Wilkes Barre Associates ("WBA"), which were purportedly investment opportunities designed to generate significant tax deductions for plaintiffs. Subsequently, however, the entire transaction became the subject of an Internal Revenue Service audit, which apparently resulted in the disallowance of many of plaintiffs' deductions. Plaintiffs initially filed this action December 29, 1988, claiming they were defrauded as a result of allegedly material misrepresentations and omissions defendants made in connection with the offer of WBA limited partnerships in September, 1981. Subsequently, plaintiffs amended their complaint to add allegations about other fraudulent schemes to defraud investors in connection with multiple sales of partnership and other interests related to coal mining.

 II. DISCUSSION

 A. Counts I and II of the Second Amended Complaint

 The court dismissed Counts I and II of the Second Amended Complaint sua sponte because those counts were nearly identical to Counts I and III of the First Amended Complaint, respectively, which the court had previously dismissed in its Memorandum Opinion and Order dated February 18, 1993. Since the court vacated that opinion, in which the court adopted Magistrate Judge Bobrick's Report and Recommendation, the court will reiterate its reasoning below.

 1. Count I: Section 10(b) and Rule 10b-5 Claim

 The Litwin defendants argued that Count I of the First Amended Complaint (also Count I of the Second Amended Complaint), alleging violations of Section 10(b) and Rule 10b-5, was time-barred according to the statute of limitations announced in Lampf, Pleva, Lipkind, Prupis & Petigrow v. Gilbertson, 501 U.S. , 111 S. Ct. 2773, 115 L. Ed. 2d 321 (June 20, 1991). Plaintiffs contended that Lampf, which the Supreme Court decided well after plaintiffs filed their complaint, could not be applied retroactively. Although plaintiffs subscribed to their limited partnership interests in Wilkes Barre in 1981, they filed their original complaint in 1988. See Second Amended Complaint, P 19-20. The plaintiffs alleged that they first learned of the fraudulent nature of the transaction in 1988, when the IRS challenged many of the plaintiffs' tax deductions. Id. at P 31. Since the law in this area has been in a state of flux, the court reviewed the Magistrate Judge's Report and Recommendation and plaintiffs' objections in light of recent changes to determine the appropriate statute of limitations.

 In Lampf, the Supreme Court held that litigation instituted pursuant to Section 10(b) and Rule 10b-5 must be commenced within one year after discovery of the facts constituting the violation. 111 S. Ct. at 2782. The court selected the language of Section 9(e) of the Securities Exchange Act of 1934, 15 U.S.C. § 78(i)(e) as the governing standard. See Lampf, 111 S. Ct. at 2782 n.9. In Lampf, however, the Court did not explicitly address whether the holding should be applied retroactively but did apply the newly announced limitations period to the parties in that case. Id. at 2782. Furthermore, in James B. Beam Distilling Co. v. Georgia, 115 L. Ed. 2d 481, 111 S. Ct. 2439 (June 20, 1991), decided the same day as Lampf, the Supreme Court decided that if a new rule has been applied to the parties before a federal court, that rule must apply to all cases then pending on direct review. Id. at 2448. See also Harper v. Virginia Department of Taxation, No. 91-794, 125 L. Ed. 2d 74, 61 U.S.L.W. 4664, 4665, 1993 U.S. LEXIS 4212, 113 S. Ct. 2510 (June 18, 1993). Thus, it would appear that Lampf should apply retroactively to the parties in the instant case.

 Congress, however, has limited the retroactivity of the Supreme Court's decision in Lampf by enacting a provision to amend the 1934 Act to do away with the combined effect of Lampf and James Beam with respect to cases commenced before June 19, 1991, the day before Lampf and James Beam were decided. *fn3" The new Section 27A provides:

 15 U.S.C. § 78aa-1(a). Thus, the limitation period provided by Illinois law on June 19, 1991 controls. According to McCool v. Strata Oil Co., 972 F.2d 1452, 1458 (7th Cir. 1992), the applicable Illinois law on June 19, 1991 is stated in Short v. Belleville Shoe Manufacturing Co., 908 F.2d 1385, 1389 (7th Cir. 1990), cert. denied, 115 L. Ed. 2d 1052, 111 S. Ct. 2887 (1991).

 In Short, the Seventh Circuit rejected the practice of borrowing the limitations period for Section 10(b) claims from state law and established a federal limitations period based on Section 13 of the Securities Act of 1933, 15 U.S.C. § 77m (1988). Short, 908 F.2d at 1392. According to the statute of limitations announced in Short, plaintiffs have one year from the date they discover or should have discovered a fraud to bring suit, but in no event may plaintiffs bring suit after three years from the sale of the securities. Id. at 1391. Since the instant case was filed prior to the decision in Short, however, the court had to decide whether Short applies retroactively to the parties in the instant case. Although the Seventh Circuit applied the new federal statute of limitations to the parties before it in Short, the court left "for the future all questions concerning retroactive application of this decision." Id. at 1389.

 James Beam would have provided a simple answer to the question of retroactive application of Short to the parties, but Congress pursuant to Section 27A instructed the court to use "principles of retroactivity" as they stood on June 19, 1991, the day before the court decided James B. Beam. See McCool, 972 F.2d at 1458. Therefore, the court applied the analysis set forth in Chevron Oil Co. v. Huson, 404 U.S. 97, 92 S. Ct. 349, 30 L. Ed. 2d 296 (1971), the controlling precedent on that date. Chevron required a case-by-case balancing of three factors to decide whether a new rule will be applied retroactively:

 
[1] The decision to be applied non-retroactively must establish a new principle of law, either by overruling clear past precedent on which litigants may have relied, or by deciding an issue of first impression whose resolution was not clearly foreshadowed. . . .
 
[2] [The court must] "weigh the merits and demerits in each case by looking to the prior history of the rule in question, its purpose and effect, and whether retrospective operation will further or retard its operation."
 
[3] [The court must weigh] the inequity imposed by retroactive application, for "where a decision of this Court could produce substantial inequitable results if applied retroactively, there is ample basis in our cases for avoiding the 'injustice or hardship' by a holding of nonretroactivity."

 Id. at 106-107 (citations omitted). Thus, the court applied the three part test set forth in Chevron to determine whether the limitations period in Short should apply retroactively to the parties in this case.

 First, the court considered whether the new limitations period announced in Short plainly overruled clear precedent. Short broke from a long-established precedent of borrowing the statute of limitations from the Illinois Blue Sky law. 815 ILCS 5/13(D) (1993) (previously cited as ILL. REV. STAT. ch. 121 1/2, P 137.13(D)). See Cortes v. Gratkowski, 795 F. Supp. 248, 251-52 (N.D. Ill. 1992). As the Seventh Circuit explained in Short,

 Short, 908 F.2d at 1387 (citations omitted). In Cortes, which was filed approximately two months prior to the decision in Short, the defendants argued that Short had been foreshadowed by Supreme Court and Seventh Circuit cases. Cortes, 795 F. Supp. at 252. The court rejected that argument, however, reasoning that the refusal of courts to change the law in cases immediately preceding Short did not foreshadow a change but rather strengthened the clear past precedent of applying the statute of limitations from the Illinois Blue Sky law to Section 10(b) cases. Id. Because the plaintiffs filed the instant case two years before Short, the plaintiffs here, like the plaintiffs in Cortes, could not be expected to have foreseen the change in the limitations period. Therefore, the court found that the first Chevron factor militates against retroactive application of Short.

 Second, the court considered whether the purpose and effect of the new rule would be furthered or retarded by retroactive application. Statutes of limitations serve two basic interests: "the remedial interest served by the cause of action, and the interest of uniformity and certainty. . . ." Reshal Associates, Inc. v. Long Grove Trading Co., 754 F. Supp. 1226, 1240 (N.D. Ill. 1990). "Where a judicial decision shortens the statute of limitations, retroactive application tends to further the second interest but hinder the first interest." Id. Placement of undue emphasis on the uniformity interest, however, would "swallow the rule" because new statutes of limitations would always be applied retroactively. Id. In the instant case, the court concluded that "retroactive application would further the purposes of the new limitations rule by removing the 'daunting' tasks of determining which state statute applies and whether federal or state tolling rules govern." See, e.g., In re VMS Securities Litigation, 752 F. Supp. 1373, 1388 (N.D. Ill. 1990). See also Short, 908 F.2d at 1388-89 (stating that the endeavor to find a uniform period of limitations has proved "daunting" in securities cases and lamenting the "untold hours" devoted by lawyers and courts to identifying proper state analogues and applying multiple tolling doctrines). But see Cortes v. Gratkowski, 795 F. Supp. 248, 252-53 (N.D. Ill. 1992) (finding that the interests of uniformity would not be significantly affected by the prospective application of Short since only the few actions filed prior to Short would be subject to a different limitations period), summary judgment denied, 795 F. Supp. 248 (N.D. Ill. 1992). Thus, the lack of clarity of disparate statutes of limitations supports the retroactive application of the uniform federal statute of limitations announced in Short.

 Third, the court considered whether retroactive application would result in substantial inequity. The Seventh Circuit applied the new limitations rule to the litigants in Short, noting that the plaintiff could not have relied on the previous law because "she claims to have been unaware of the basis for litigation until a short time before filing suit." Short, 908 F.2d at 1390. Other cases have applied a new limitations period retroactively for the same reason. See, e.g., In re VMS Securities Litigation, 752 F. Supp. 1373, 1388 (N.D. Ill. 1990) (suit filed just over one month after plaintiffs became aware of their claims); Flaherty v. Greenblatt, 1990 U.S. Dist. LEXIS 14547 (N.D. Ill. 1990) (plaintiff filed suit two months after discovering their cause of action). Similarly, since the plaintiffs here allege that they filed their claim shortly after discovering the alleged violations, the plaintiffs could not have relied on the previous limitations period applicable to Section 10(b) cases. See Second Amended Complaint, at P 31. Therefore, the third Chevron factor supports retroactive application of Short in the instant case.

 On balance, the court finds that Short, the law applicable in Illinois on June 19, 1991, should apply since Chevron, which states the principles of retroactivity applicable on that date, warrants retroactive application of Short in this case. Short established an outside limit of three years from the date of allegedly fraudulent sale of securities to file suit claiming violations of Section 10(b) and Rule 10b-5. 908 F.2d at 1391. Thus, plaintiffs' claims in Count I were not timely filed because plaintiffs filed their complaint in 1988, approximately seven years after the alleged fraudulent sale of securities.

 In fact, defendants argue that even had there been no Lampf or Short decision, plaintiffs' claims, coming seven years after the purchase of securities, would have been subject to dismissal as untimely filed. The Illinois Blue Sky law provides that "no action shall be brought for relief under this Section . . . after three years from the date of sale" and allows a maximum two year tolling of the three year limitations period. 815 ILCS 5/13(D) (1993) (previously cited as ILL. ANN. STAT. ch. 121 1/2, P 137.13D (Supp. 1991)). The two year tolling period "was designed particularly to cover cases of fraudulent concealment or so-called 'lulling' activities by promoters." Cortes v. Gratkowski, 1990 U.S. Dist LEXIS 17712, *14 (N.D. Ill. December 21, 1990), summary judgment denied, 795 F. Supp. 248 (N.D. Ill. 1992). In Cortes, the court stated that

 
the tolling provision provides that the three-year period begins to run on the earlier of the date the plaintiff has actual knowledge or the date the plaintiff in the exercise of reasonable diligence should have had actual knowledge of the alleged violations. . . . [The complaint must be] filed within three years of the discovery of the fraudulent activity and within five years of the alleged purchase of partnership interests.

 Id. Thus, even the previous statute of limitations set an outside limit of five years from the date the securities were purchased for plaintiffs to ...


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