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Dennis J. Donahue, Jr., et al v. United States of America

June 19, 2012

DENNIS J. DONAHUE, JR., ET AL., PLAINTIFFS
v.
UNITED STATES OF AMERICA, DEFENDANT.



The opinion of the court was delivered by: Paul L. Friedman United States District Judge

OPINION

This matter is before the Court on the defendant's motion to dismiss the plaintiffs' complaint for lack of subject matter jurisdiction. After careful consideration of the parties' papers, the attached exhibits, and the relevant statutes and case law, the Court granted the defendant's motion by Order dated March 26, 2012, and dismissed the case with prejudice. This Opinion explains the reasoning underlying that Order.*fn1

I. BACKGROUND

Plaintiffs Dennis Donahue, Jr., Rosalea Donahue, and Lawrence Farrell are former investors in, and victims of, the infamous Bernard Madoff Ponzi scheme. Compl. ¶ 1. The plaintiffs brought suit under the Federal Tort Claims Act, 28 U.S.C. §§ 1346(b), 2671 et seq. ("FTCA"), alleging "serial, gross negligence" on the part of the Securities and Exchange Commission ("SEC") over a period of more than fifteen years in its investigations and examinations of Mr. Madoff and his firm, Bernard L. Madoff Investment Securities LLC. Id. Collectively, the plaintiffs lost more than two million dollars in investments as a result of the Madoff scheme. Id. ¶ 2.*fn2

The United States moved to dismiss, arguing that the Court lacks subject matter jurisdiction over this action by virtue of the discretionary function exception to the FTCA, which exempts the United States from liability for harm caused by the exercise or performance of discretionary functions by government agencies or employees. See 28 U.S.C. § 2680(a); Def. Mem. at 3. The United States contends that the actions taken by SEC staffers in the course of the agency's Madoff inquiries that allegedly harmed the plaintiffs were discretionary within the meaning of the FTCA. Def. Mem. at 1-2. The government also maintains that those actions are intertwined with the SEC's "quintessentially discretionary" power to commence civil proceedings against suspected wrongdoers, and thus immune from FTCA liability. Id. at 2, 9-13.

The plaintiffs rely for the factual assertions of their complaint on an investigative report issued in 2009 by the SEC's Office of the Inspector General ("OIG Report") cataloguing the agency's myriad failures in investigating Madoff's enterprise over the years. Compl. ¶ 1. Drawing on the OIG Report, the plaintiffs allege that between 1992 and 2008 the SEC received numerous complaints and other indications related to Madoff's brokerage firm that credibly indicated he may have been engaged in fraud. Although the SEC conducted two examinations and three investigations in response to the information it received, each was fraught with grave errors that prevented the discovery of Madoff's fraud. Id. ¶ 5. As the OIG Report concludes:

The OIG investigation found that the SEC received numerous substantive complaints since 1992 that raised significant red flags concerning Madoff's hedge fund operations and should have led to questions about whether Madoff was actually engaged in trading and should have led to a thorough examination and/or investigation of the possibility that Madoff was operating a Ponzi scheme. However, the OIG found that although the SEC conducted five examinations and investigations of Madoff based upon these substantive complaints, they never took the necessary and basic steps to determine if Madoff was misrepresenting his trading. We also found that had these efforts been made with appropriate follow-up, the SEC could have uncovered the Ponzi scheme well before Madoff confessed.

The OIG found that the conduct of the examinations and investigations was similar in that they were generally conducted by inexperienced personnel, not planned adequately, and were too limited in scope. While examiners and investigators discovered suspicious information and evidence and caught Madoff in contradictions and inconsistencies, they either disregarded these concerns or relied inappropriately upon Madoff's representations and documentation in dismissing them. Further, the SEC examiners and investigators failed to understand the complexities of Madoff's trading and the importance of verifying his returns with independent third parties.

Compl. ¶ 13 (quoting OIG Report at 456-57); see id. ¶¶ 32-159 (detailing at length the OIG Report's findings about the SEC's botched oversight of Madoff); see also Dichter-Mad Family Partners, LLP v. United States, 707 F. Supp. 2d 1016, 1020-24 (C.D. Cal. 2010) (providing concise summary of the OIG Report's main findings).

When Madoff's Ponzi scheme collapsed, plaintiffs Dennis and Rosalea Donahue lost $774,000 that they had invested in a Madoff "feeder fund" known as MOT Family Investing, and plaintiff Lawrence Farrell lost over $1.4 million that he had invested in that fund. Compl. ¶ 10. The plaintiffs allege that the SEC negligently delegated inquiries about Madoff to SEC teams that lacked expertise in financial fraud; assigned critical tasks to inexperienced junior staffers who lacked relevant training or experience; failed to contact third parties to confirm Madoff's claimed trading activities; and allowed "inter-office rivalries" and awe at Madoff's prestige to impair its investigations. Id. ¶ 6. The plaintiffs further allege that SEC employees repeatedly violated the agency's policies by failing to comply with protocol for the opening and closing of investigations and for the sharing of information among offices and teams. Id. ¶¶ 6, 12, 109, 130.

Through these manifold failures, the plaintiffs contend, the SEC breached a duty of care to the plaintiffs and other investors in Madoff's enterprise. Compl. ¶ 2. The agency purportedly owed such a duty to these investors "because it was reasonably foreseeable that they would rely on the SEC to remove the danger posed by Madoff if the SEC had information confirming the existence of that danger." Id. The SEC's breach of this duty proximately caused the plaintiffs' injuries, they contend, because those injuries "were the natural, probable, and foreseeable outcome of the SEC's failure to terminate Madoff's Ponzi scheme despite its multiple opportunities to do so." Id. The plaintiffs further contend that the SEC's failed investigatory efforts caused the agency to breach a duty to warn investors that Madoff was engaged in a Ponzi scheme. Opp. at 6.

Claims nearly identical to the plaintiffs' have been brought by other victims of Madoff's fraud in at least three other district courts; each complaint has been dismissed for lack of subject matter jurisdiction under the discretionary function exception to the FTCA. See Baer v. United States, No. 11-1277, 2011 WL 6131789 (D.N.J. Dec. 8, 2011); Molchatsky v. United States, 778 F. Supp. 2d 421 (S.D.N.Y. 2011); Dichter-Mad Family Partners, LLP v. United States, 707 F. Supp. 2d 1016 (C.D. Cal. 2010). As explained below, the Court agrees with the reasoning of those decisions and concludes that it lacks jurisdiction over the plaintiffs' claims.

II. STANDARD OF REVIEW

Federal courts are courts of limited jurisdiction, with the ability to hear only cases entrusted to them by a grant of power contained in either the Constitution or in an act of Congress. See, e.g., Beethoven.com LLC v. Librarian of Congress, 394 F.3d 939, 945 (D.C. Cir. 2005); Tabman v. FBI, 718 F. Supp. 2d 98, 100 (D.D.C. 2010); Hunter v. District of Columbia, 384 F. Supp. 2d 257, 259 (D.D.C. 2005). On a motion to dismiss for lack of subject matter jurisdiction under Rule 12(b)(1) of the Federal Rules of Civil Procedure, the plaintiff bears the burden of establishing that the Court has jurisdiction. See Tabman v. FBI, 718 F. Supp. 2d at 1001; Brady Campaign to Prevent Gun Violence v. Ashcroft, 339 F. Supp. 2d 68, 72 (D.D.C. 2004). In determining whether to grant such a motion, the Court must construe the complaint in the plaintiff's favor and treat all well-pled allegations of fact as true. See Jerome Stevens Pharms., Inc. v. FDA, 402 F.3d 1249, 1253-54 (D.C. Cir. 2005). The Court need not accept unsupported inferences or legal conclusions cast as factual allegations. See Primax Recoveries, Inc. v. Lee, 260 F. Supp. 2d 43, 47 (D.D.C. 2003). Under Rule 12(b)(1), the Court may dispose of the motion on the basis of the complaint alone or it may consider materials beyond the pleadings "as it deems appropriate to resolve the question whether it has jurisdiction to hear the case." Scolaro v. D.C. Board of Elections and Ethics, 104 F. Supp. 2d 18, 22 (D.D.C. 2000); see also Coalition for Underground Expansion v. Mineta, 333 F.3d 193, 198 (D.C. Cir. 2003). In this case, the Court has considered the SEC's OIG Report, attached to the plaintiffs' complaint, along with a subsequent report by the Inspector General and the SEC Enforcement Manual.*fn3

III. DISCUSSION

A. The Discretionary Function Exception to the FTCA The United States is immune from suit unless it waives its sovereign immunity through an act of Congress. See F.D.I.C. v. Meyer, 510 U.S. 471, 475 (1994). The Federal Tort Claims Act provides such a waiver in civil damages actions based on injury or loss of property, or personal injury or death caused by the negligent or wrongful act or omission of any employee of the Government while acting within the scope of his office or employment, under circumstances where the United States, if a private person, would be liable to the claimant in accordance with the law of the place where the act or omission occurred.

28 U.S.C. § 1346(b)(1); see F.D.I.C. v. Meyer, 510 U.S. at 475. A waiver of sovereign immunity, however, must be "strictly construed, in terms of its scope, in favor of the sovereign." Tri-State Hosp. Supply Corp. v. United States, 341 F.3d 571, 575 (D.C. Cir. 2003) (quoting Dep't of Army v. Blue Fox, Inc., 525 U.S. 255, 261 (1999)). A party bringing suit against the United States under the FTCA bears the burden of proving that the government has unequivocally waived its immunity for the type of claim involved. Tri-State Hosp. Supply Corp. v. United States, 341 F.3d at 575; Tabman v. FBI, 718 F. Supp. 2d at 103; see 28 U.S.C. §§ 1346(b), 2680.

The FTCA provides that the jurisdiction given to district courts under 28 U.S.C. § 1346(b)(1) does not apply in cases where a claim is "based upon the exercise or performance or the failure to exercise or perform a discretionary function or duty on the part of a federal agency or an employee of the Government, whether or not the discretion involved be abused." 28 U.S.C. § 2680(a). Thus, where a claim is based upon an act performed while exercising a discretionary function, "there is no waiver of sovereign immunity and the government is protected from suit. By contrast, if there is no discretionary function involved, the United States has waived its sovereign immunity and the federal district courts have subject matter jurisdiction over the claim." Hayes v. United States, 539 F. Supp. 2d 393, 400 (D.D.C. 2008). As the Supreme Court has explained, "the purpose of the exception is to 'prevent judicial second-guessing of legislative and administrative decisions grounded in social, economic, and political policy through the medium of an action in tort.'" United States v. Gaubert, 499 U.S. 315, 323 (1991) (quoting Berkovitz v. United States, 486 U.S. 531, 37 (1988)) (internal quotations omitted). To establish jurisdiction, a complaint must set forth facts demonstrating governmental conduct that is not exempted from FTCA liability by the discretionary function exception. United States v. Gaubert, 499 U.S. 315, 334 (1991); Shuler v. United States, 531 F.3d 930, 933-34 (D.C. Cir. 2008).*fn4

The Supreme Court has established a two-part test for determining whether government conduct challenged by a plaintiff falls within the discretionary function exception. See United States v. Gaubert, 499 U.S. at 322-23 (citing Berkovitz v. United States, 486 U.S. at 536-37). First, a court must look to the nature of each act and whether it involves an "element of judgment or choice." Id. at 322 (quoting Berkovitz v. United States, 486 U.S. at 536). When a "federal statute, regulation, or policy specifically prescribes a course of action," there is no judgment or choice involved, and the discretionary function exception does not apply, because "the employee has no rightful option but to adhere to the directive." Id. (quoting Berkovitz v. United States, 486 U.S. at 536).

Second, if the challenged acts do involve an element of judgment or choice, the court still must consider whether those acts "'are of the nature and quality that Congress intended to shield from tort liability.'" Cope v. Scott, 45 F.3d 445, 448 (D.C. Cir. 1995) (quoting United States v. Varig Airlines, 467 U.S. 797, 813 (1984)). Because the purpose of the discretionary function exception is to prevent second-guessing of "legislative and administrative decisions grounded in social, economic, and political policy," the exception "protects only governmental actions and decisions based on considerations of public policy." United States v. Gaubert, 499 U.S. at 323 (internal quotations omitted). Furthermore, the question is not whether a government agent actually weighed policy considerations in making a particular choice; rather, the test is satisfied if the type of choice at issue is susceptible to policy considerations. Id. at 325 ("The focus of the inquiry is not on the agent's subjective intent in exercising the discretion conferred by statute or regulation, but on the nature of the actions taken and on whether they are susceptible to policy analysis."); see Cope v. Scott, 45 F.3d at 449 ("What matters is not what the decisionmaker was thinking, but whether the type of decision being challenged is grounded in social, economic, or political policy.").

So long as the act in question satisfies the two-part test described above, the discretionary function exception applies regardless of the rank or position of the government employee responsible for the decision: "'[I]t is the nature of the conduct, rather than the status of the actor,' that governs whether the exception applies." United States ...


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