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DANIELS v. BURSEY

April 14, 2004.

JOHN DANIELS, et al., and similarly situated individuals, Plaintiffs,
v.
WAYNE BURSEY, et al., Defendants



The opinion of the court was delivered by: MATHEW KENNELLY, District Judge

AMENDED MEMORANDUM OPINION AND ORDER*fn1
This case concerns the marketing and administration of a "severance trust executive program" (STEP) plan, a type of employee welfare benefit plan targeted to employers with highly compensated employees. John Daniels and Manuel Sanchez, along with other partners and employees of the Chicago-based Sanchez & Daniels law firm, and on behalf of a putative class of STEP Plan investors, sued Step Plan Services, Inc., its principals, and several insurance companies, alleging that the defendants violated the Employee Retirement Income Security Act (ERISA) and the Illinois Consumer Fraud Act and claiming fraudulent inducement and breach of fiduciary duty in connection with their actions in promoting or managing the STEP Plan. Several of the defendants filed a motion to dismiss the original complaint, which the Court granted in part and denied in part. Daniels v. Bursey, No 03 C 1550, 2003 WL 22053580 (N.D. Ill. Sept. 3, 2003).

Plaintiffs amended their complaint, pleading the same claims originally filed and adding four claims asserting violations of state insurance laws and the Raeketeer Influenced and Corrupt Organizations Act (RICO), Defendants Wayne Bursey, Daniel Carpenter, STEP Plan Services, Inc., Benistar Insurance Group, Inc., Mellon Trust of New York, Teplitzky & Company, Banistar 419 Plan Services, Inc., Benistar 419 Admin Services, Inc., Benistar 419 Plan, Benistar Employer Services Trust Corp., and Benistar, Ltd. (collectively referred to as "Administrative Defendants"); U.S. Trust; National Life Insurance Co., Allmerica Financial Benefit Insurance Co., New York Life Insurance Co., Metropolitan Life Insurance Co., and Hartford Life Insurance Co. (collectively referred to as "the Insurance Companies"); Prudential Insurance Co. of America; and Thomas Murphy have each moved to dismiss Plaintiffs' second amended complaint. For the reasons stated below, the Court grants the motions in part and denies them in part.

  Factual Background

  For purposes of considering the five motions to dismiss before us, the Court accepts as true plaintiffs' well-pleaded factual allegations. Thompson v. Illinois Dept. of Professional Regulation, 300 F.3d 750, 753 (7th Cir. 2002). Sanchez & Daniels is a Chicago law firm. In 1995 it adopted a STEP Plan, a type of employee benefit plan that Plaintiffs allege, at least in the alternative, is governed by ERISA.2d Amended Compl. ¶¶ 139-40. In 1998 approximately 255 employers participated in the STEP Plan.*fn2 Id. ¶ 90. The STEP Plan was administered by the Administrative Defendants and U.S. Trust, Id. ¶¶ 63-65. The Plan was devised as "a vehicle for employers to allegedly purchase life insurance on a tax deductible basis," id. ¶ 83, and was "designed to provide Participants with (1) death benefits, (2) disability benefits, and (3) severance benefits." Id. ¶ 86. A substantial amount of the Plan's assets were variable insurance policies issued and administered by the Insurance Companies and Prudential, Id. ¶ 68. Plaintiffs allege the Insurance Companies managed these policies negligently or with willful disregard, resulting in losses to the STEP Plan. Id. ¶ 74.

  Sanchez & Daniels and its partners and employees allege that the Plan's promoters fraudulently induced them — through marketing materials and an opinion letter from a lawyer to adopt the STEP Plan by falsely representing that contributions to the Plan would be tax deductible, could not be reached by creditors and could easily be withdrawn by Plan participants. Id. ¶¶ 96-97, 100, 112-17, 123-24, 144, 146. According to Plaintiffs, the Plan was not tax deductible, the Plan's assets were not protected from creditors and participants could not easily make withdrawals from the Plan. Id. ¶¶ 132-33, 139-41, 145, 147, 272-75. The Plan promoters knew the IRS had found that contributions to the STEP Plan made by a Plan participant were not tax deductible, id. ¶¶ 272-75, and the Administrative Defendants used assets from the Plan to fund litigation challenging the IRS's determination that contributions to the STEP Plan were not tax deductible. Id. ¶ 278. The case ended in stipulations by the parties that 75 percent of the contributions to the STEP Plan for the years in question were not deductible, that fines would be assessed, and that employee participants in the Plan would he assessed with additional taxable income, penalties and interest. Id. ¶ 279, The IRS issued proposed regulations on July 11, 2002, stating that contributions to the STEP Plan were not tax deductible because the Plan did not qualify for deductions under Section 419A(f)(6) of the Internal Revenue Code. Id. ¶ 1288. However, the Administrative Defendants never warned the Plan participants, such as Sanchez & Daniels, that the contributions were not deductible. Id. ¶¶ 282-87. Plaintiffs allege that they and other employers participated in the STEP Plan primarily for the promised tax advantages, and that if they had known of the IRS's ruling, they would have withdrawn from the Plan. Id. ¶¶ 284-86.

  Plaintiffs argue the Insurance Companies not only marketed the STEP Plans long after learning their benefits were dubious, id. ¶¶ 132-33, 148, 281-83, they also discouraged Plan participants from using Plan assets to buy annuities, municipal bonds, other tax-free investments, or term insurance in lieu of permanent insurance, which yielded higher commissions to the Insurance Companies and their agents than did other types of investments. Id. ¶¶ 149-55, 243-52. Plaintiffs further allege that when the stock market began to decline, the Insurance Companies (ailed to allocate the Plan's insurance funds from variable accounts to safer accounts, resulting in substantial losses to the value of the Plan, Id. ¶¶ 253-55.

  Plaintiffs further allege that because the STEP Plan purported to provide unemployment and insurance benefits to those participants who paid a premium for the benefits, the Plan constituted an insurance arrangement. Id. ¶ 161-64. Plaintiffs allege the Plan operated as an unlicensed insurance company in violation of state insurance codes, Id. ¶ 170-71, Plaintiffs claim the Insurance Companies should have known they were promoting operations of an unlicensed insurance carrier. Id. ¶¶ 256-57, Plaintiffs' final allegation against the Insurance Companies is that when Prudential demutualizcd,*fn3 Prudential and Murphy allowed the proceeds that were paid to holders of its insurance policies to be distributed to the Plan's Trustees (the Administrative Defendants) without ensuring that the funds were actually credited to the Plan. Id. ¶¶ 264-71. Plaintiffs characterize this alleged lack of oversight as negligent and claim that Prudential and Murphy are responsible for allowing the Plan fiduciaries to loot the demutualization proceeds. Id.

  Plaintiffs further allege that the Plan's fiduciaries, which Plaintiffs identify as the Administrative Defendants, mismanaged the Plan, amending its structure without authorization and misappropriating or looting its assets. Id. ¶¶ 63-64, 177-92, Plaintiffs allege that when control of the STEP Plan was assumed by Benistar, Plaintiffs were not informed that a Massachusetts jury had found that a Benstir affiliate and its principal Carpenter had breached their fiduciary duties, converted property of a trust and made intentional misrepresentations. Id. ¶¶ 225, 227. Carpenter had used money held by the Benistar Entities in trust to engage in risky options trading. Id. ¶ 235(g). On September 23, 2003, a Massachusetts Superior Court judge awarded the plaintiffs in that case $25,952,450. Id. ¶ 226, 228. The judge pierced the corporate veil, holding the Benistar Entities liable for the entire judgment,*fn4 Id. ¶¶ 236-37.

  In addition to administrating the STEP Plan, Benistar also operated the Benistar 419 Plan, which it marketed as a Section 419A(1)(6) arrangement funded with life insurance policies. Id. ¶ 196. Plaintiffs allege that the Administrative Defendants knew the Benistar 419 Plan did not comply with Section 419A(f)(6), because the 1RS proposed regulations and issued a private ruling saying such, and two Tax Court decisions held that the Benistar 419 Plan is not a welfare benefit plan for tax purposes. Id. ¶¶ 198-99.

  Plaintiff's assert that when they tried to remove their assets from the STEP Plan in 2001, the Administrative Defendants advised them that they — and all other participants in the STEP Plan — would lose 20 percent of their assets in the Plan if they withdrew outright but would lose only 10 percent if they rolled their STEP Plan assets into the 419 Plan being marketed by Benistar. Id. ¶¶ 200, 205. According to Plaintiffs, the Administrative Defendants would benefit not only from the 10 to 20 percent assessment, but also from insurance commissions and administrative fees they would derive if the employers opted to transfer their assets into the 419 Plan. Id. ¶¶ 209-13. Sanchez & Daniels refused to accept either alternative. Id. ¶ 216. Plaintiffs allege that in retaliation for the law firm's demand that its Plan assets be transferred to a plan other than the 419 Plan, the Administrative Defendants sued Sanchez & Daniels for defamation. Id. ¶ 218. Sanchez & Daniels further alleges that the Administrative Defendants "threatened to dissipate the assets attributable to [Sanchez. & Daniels'] employees, and to discriminate against [them] as of December 2, 2002." Id. ¶ 220. Plaintiffs claim similar threats were made to other employers who questioned the Administrative Defendants handling of the Plan. Id. ¶ 221. They allege that other STEP Plan participants would not have agreed to rollover their assets to the 419 Plan had they known of the outcome of the Massachusetts litigation. Id. ¶ 242.

  Analysis When considering a motion to dismiss for failure to state a claim upon which relief can be granted, the Court reads the complaint liberally, granting the motion only if "it appears beyond doubt that the plaintiff can prove no set of facts in support of his claim which would entitle him to relief." Conely v. Gibson, 355 U.S. 41, 45-46 (1957) (footnote omitted). That means we must take all statements of fact in the complaint as true and must draw reasonable inferences in favor of Plaintiffs. Dixon v. Page, 291 F.3d 485, 486-87 (7th Cir. 2002) (citing Massey v. Wheeler, 221 F.3d 1030, 1034 (7th Cir. 2000)), Generally speaking, plaintiffs "need not set out in detail all of the facts upon which they base their claim." Boim v. Quranic Literacy Institute and Holy Land Foundation for Relief and Development, 291 F.3d 1000, 1008 (7th Cir. 2002) (citing Fed.R.Civ.P. 8(a)). "Rule 8(a) requires only that the complaint give the defendants fair notice of what their claim is and the grounds upon which it rests." Id. (citing Leatherman v. Tarrant County Narcotics Intelligence & Coordination Unit, 507 U.S. 163, 168 (1993)).

  However, the pleading requirements are different when a plaintiff alleges fraud. Rule 9(b) requires that "[i]n all averments of fraud or mistake, the circumstances constituting fraud or mistake shall be stated with particularity." Fed.R.Civ.P. 9(b). This particularity requirement applies to claims under the Illinois Consumer Fraud and Deceptive Business Practices Act, Petri v. Gatlin, 997 F. Supp. 956, 973 (N.D. Ill. 1997), and to claims of mail and wire fraud alleged as examples of racketeering activity under RICO. Slaney v. Int'l Amateur Athletic Federation, 244 F.3d 58O, 597 (7th Cir. 2001). "Although states of mind may be pleaded generally," to satisfy Rule 9(b)s "the circumstances must be pleaded in detail. This means the who, what, when, where, and how: the first paragraph of any newspaper story." DiLeo v. Ernst & Young, 901 F.2d 624, 627 (7th Cir. 1990), When alleging the who, what, when, where and how, a plaintiff may not lump the defendants together in a group; rather, the plaintiff must specify each defendant's participation in the alleged fraud. See Viacom, Inc. v. Harbridge Merchant Services, Inc., 20 F.3d 771, 778 (7th Cir. 1994).

  These strict pleading requirements arc not without exceptions. The Seventh Circuit has recognized that "the particularity requirement of Rule 9(h) must be relaxed where the plaintiff lacks access to all facts necessary to detail his claim." Corley v. Rosewood Care Center, Inc. of Peoria, 142 F.3d 1041, 1051 (7th Cir. 1998); Emery v. American General Finance, Inc., 134 F.3d 1321, 1323 (7th Cir. 1998) ("We don't want to create a Catch-22 situation in which a complaint is dismissed because of the plaintiffs inability to obtain essential information without pretrial discovery (normally of the defendant, because the essential information is in his possession and he will not reveal it voluntarily) that she could not conduct before filing the complaint,"). But the particularity requirement cannot be relaxed too much: "[t]he purpose (the defensible purpose, anyway) of the heightened pleading requirement in fraud cases is to force the plaintiff to do more than the usual investigation before filing his complaint." Ackerman v. Northwestern Mutual Life Ins. Co., 172 F.3d 467, 469 (7th Cir. 1999). "By requiring the plaintiff to allege the who, what, where, and when of the alleged fraud, the rule requires the plaintiff to conduct a precomplaint investigation in sufficient depth to assure that the charge of fraud is responsible and supported, rather than defamatory and extortionate." Id. We review Plaintiffs' second amended complaint in light of these standards.

  Before the Court addresses Defendants' claim-specific arguments, we will deal with several overarching arguments the Administrative Defendants make as to why they as a group and as individuals should be dismissed from the second amended complaint. First, they argue that the Benistar entities named for the first time in the second amended complaint should be dismissed from the suit, claiming that Plaintiffs raised no allegations of wrongdoing by the Benistar 419 Plan and the other newly named entities. The Court disagrees. The second amended complaint articulates a theory of how the newly named Benistar entities are culpable for the alleged misdeeds of the previously named Administrative Defendants. Plaintiffs allege mat all the Benistar entities are controlled by Carpenter, 2d Amended Compl. ¶ 201, and that Benistar offered disadvantageous terms for withdrawing from the STEP Plan so that Plaintiffs would rollover their assets into the Benistar 419 Plan, Id. ¶¶ 204-42, Plaintiffs are alleging that the previously named Benistar entities were acting either at the behest or for the benefit of Carpenter and the newly named Benistar entities that Carpenter controlled. Plaintiffs' allegations sufficiently link the newly named Benistar entities to the other Administrative Defendants to include them as defendants.

  Second, the Administrative Defendants argue that Sanchez & Daniels lacks standing to complain of much of the behavior described in the second amended complaint because it occurred after the firm withdrew from the Plan. Plaintiffs allege mat when they attempted to withdraw from the Plan, Benistar in formed them that by doing so they had forfeited to Benistar the assets in the Plan. Id. ¶ 218. Because Plaintiffs dispute Benistar's right to withhold its assets, there is an issue of fact as to whether Sanchez & Daniels continued to have an interest in Benistar's management of the retained funds. Furthermore, the Administrative Defendants concede that even after Plaintiffs froze their Plan benefits, Sanchez & Daniels employees would be entitled to severance benefits whenever a severance event occurred. Admin. Defs. Mem. Ex. 2. Therefore, even under the Administrative Defendants' logic, Sanchez & Daniels would have an interest in the management of the Plan until all employees received severance benefits, which, the Administrative Defendants state, never occurred. Thus Sanchez. & Daniels has standing to challenge the Benistar Entities actions regarding the Plan.

  Similarly, the Court rejects the Administrative Defendants' argument that because no severance event has occurred, Sanchez & Daniels has not been denied a severance benefit and, therefore, any claims arising from Benistar's takeover of the administration of the Plan and subsequent looting arc unripe. Plaintiffs allege that they should have been able to transfer all their assets from the STEP Plan to another trust, rendering the ongoing denial of that request an injury that is ripe for potential redress.

  We now turn to the profusion of count-specific reasons offered by Defendants for dismissing the second amended complaint.

 I. Count 1

  Count t alleges a claim not made in previous versions of the complaint. Plaintiffs claim that Defendants violated the insurance laws of all fifty states. But, as Murphy points out, Plaintiffs fail to identify in the second amended complaint which insurance laws have been broken. Defendants construe Plaintiffs' allegations in Count 1 as accusing Defendants of operating an unauthorized insurance arrangement in violation of state provisions requiring insurance companies to be licensed. Positing that only the insurance code of Illinois applies to Plaintiffs' claims, the Insurance Companies argue that Count 1 should be dismissed because the Illinois Insurance Code does not provide a private right of action to sue an insurance company for operating without a license. Plaintiffs respond by pointing to two provisions of the Illinois Insurance Code that provide a private right of action. For the reasons stated below, Plaintiffs' response does not salvage this vague claim.

  For Count 1 to survive, Plaintiffs have to identify which insurance provisions they allege were violated by Defendants; they are not entitled to fling the entirety of fifty stales' insurance codes against the wall in the hope that some unnamed provision will stick. Murphy slates in his reply brief that Plaintiffs must do so in the text of the complaint, arguing any elaboration made in Plaintiffs' response brief "does not cure the defect in the Complaint." Murphy Reply at 2. But that is not the rule in the Seventh Circuit. "A complaint must narrate a claim, which means a grievance such as `the City violated my rights by preventing me from renovating my apartments.' Having specified the wrong done to him, a plaintiff may substitute one legal theory for another without altering the complaint." Albiero v. City of Kankakee, 122 F.3d 417, 419 (7th Cir. 1997) (emphasis in original). Similarly, "a plaintiff may supplement the complaint with factual narration in an affidavit or brief." Id. (citing Early v. Bankers Life & Casualty Co., 959 F.2d 75, 79 (7th Cir. 1992) and Orthmann v. Apple River Campground, Inc., 751 F.2d 909, 914-15 (7th Cir. 1985)). In this context., that means that Plaintiffs can use their response briefs to identify the specific statutory provisions they claim were violated.*fn5 We now consider whether they have sufficiently done so.

  The only statutory provisions Plaintiffs cite are provisions in the Illinois Insurance Code.*fn6 Plaintiffs are correct that "[i]t is unlawful for any insurer to transact insurance business in [Illinois] without a certificate of authority from the Director," 215 ILCS 5/121-2. But Defendants accurately point out that only the Director of Insurance can enforce this provision:
Whenever the Director believes, from evidence satisfactory to him that any insurer is violating or about to violate Section 121-2 of this Act, the Director may, through the Illinois Attorney General, cause a complaint to be filed in the Circuit Court of Cook County, or the Circuit Court of Sangamon County, to enjoin and restrain that insurer from continuing such violation or engaging therein or doing any act in furtherance thereof. The court shall have jurisdiction of the proceeding and may make and enter an order or judgment awarding such preliminary or final injunctive relief as, in its judgment, is proper.
Id. § 121-5. Furthermore, any fines assessed for transacting insurance business without a license are recovered in the name of the People of the Slate of Illinois. Id. § 121(3). We found no case in which a private plaintiff has been permitted to sue under section 121-2, We agree with Defendants that Plaintiffs cannot sue Defendants under 215 TLCS 5/121 for operating an insurance business without ...

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