The Fairness Of Tracing: Ontario Court Of Appeal Considers Methods Of Distributing Remaining Funds To Victims Of A Ponzi Scheme

Author:Ms Melissa Atkin
Profession:McCarthy Tétrault LLP
 
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In Boughner v. Greyhawk, the Ontario Court of Appeal recently considered different methods for determining how to fairly distribute comingled funds remaining from a collapsed Ponzi scheme. The Court affirmed the decision of the lower court which held that, where practical, remaining funds should be allocated according to the lowest intermediate balance rule, whereby funds were to be distributed pro rata on the basis of tracing, which precluded early investors from unfairly benefitting from the contributions of later investors.

Background

Over the course of more than a decade, two dozen investors were duped into believing that the Greyhawk Fund was a large, highly profitable investment vehicle. In early 2011, it was discovered that the Greyhawk Fund had been operating on the basis of forged statements that had hidden a consistently negative fund performance.

Following the discovery of the fraud and the appointment of a receiver, a significant shortfall of over US $3.5 million was discovered. The receiver wished to distribute the funds, but there was disagreement among the remaining investors as to the appropriate allocation method of the following three identified by the receiver:

Pro rata allocation, based on the size of each investor's contributions to the Greyhawk Fund; Fund unit allocation, based on what each investor's unit value in Greyhawk ought to have been in light of actual fund performance, also referred to as pro rata on the basis of tracing, known as the Lowest Intermediate Balance Rule ("LIBR"); Last in, first out ("LIFO"), based on the chronological order of contributions. The receiver took no position on which distribution method was appropriate and requested directions from the court as to how to distribute the remaining funds. The investors, Jack Waldock and the Waldock Group ("Waldock") and Richard Gibson ("Gibson") agreed that the leading authorities required the court to apply a distribution method that is most just, convenient and equitable to the parties in question, but disagreed as to which of the approaches met these criteria. Neither party was in support of the LIFO method, in which the last investors in the fund would be the first to receive distributions of the remaining funds.

Waldock, the Greyhawk Fund's first investor, took the position that the case law is in favour of a pro rata allocation where comingled funds have been fraudulently misappropriated and the account is in a shortfall position. Waldock's...

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