What Happens Outside The USA, Stays Outside The USA: Reining In The Extraterritorial Reach Of Criminal Securities Laws

Criminal securities laws do not reach transactions that occur outside the United States. This is the conclusion of the Second Circuit Court of Appeals which last Friday applied the Supreme Court’s reasoning in Morrison v. National Australia Bank to criminal cases. In United States v. Vilar, the Second Circuit held that without specific authority from Congress to do so, the federal government cannot prosecute foreign activity.

Counsel for corporations conducting multinational business should take note – this decision marks a significant setback for United States prosecutors’ efforts to police global business conduct. Its effects will not only be felt in securities fraud cases, but may well extend to other cases involving international activity. In Vilar, Judge Jose A. Cabranes, writing for a unanimous panel, considered the validity of the convictions of Alberto Vilar and Gary Alan Tanaka, two prominent investment managers and advisers. Vilar and Tanaka were found guilty by a jury of lying to clients about the nature and quality of certain investments. On appeal, the defendants argued that they could not be held criminally liable for securities fraud because the securities purchases at issue occurred outside the United States.

Although the Court ultimately affirmed Vilar’s and Tanaka’s convictions, determining that some of the transactions at issue were not extraterritorial, but in fact qualified as domestic securities transactions, the Court’s more significant ruling was broader. The Court held that unless Congress specifically states otherwise, criminal statutes are intended to apply only to conduct that occurs inside the United States. In its decision, the Court embraced “the ‘commonsense notion that Congress generally legislates with domestic concerns in mind,’ and ‘the presumption that United  States law governs domestically but does not rule the world.’”

The application of this holding to sentencing in cases where both domestic and foreign transactions occurred remains an open question. Although the Vilar Court made clear that foreign activity could not be included in calculating loss, it left open whether such activity could be included in “relevant conduct” for sentencing purposes.  Under the United States Sentencing Guidelines, a sentencing court is required to consider the entirety of a defendant’s “relevant conduct,” including “all acts and omissions. . . that were part of the same course of conduct or common scheme or plan as the offense of conviction.” In Vilar, the Second Circuit vacated the defendants’ sentences, sending the case back to the trial court for a determination of whether losses suffered by victims located extraterritorially might be considered “relevant conduct” even though the defendants could not be criminally liable for such conduct. The ultimate resolution of this question is important, as the inclusion of extraterritorial losses could significantly increase a defendant’s sentence where conviction rests on limited domestic conduct that is part of a broader international course of dealing.

In this era of cross-border commerce and the attempts by the government to expand the application of white-collar criminal laws to international transactions and business operations, courts must scrutinize whether a defendant’s conduct is domestic in nature. Considering this question as it applies to securities fraud and Section 10(b), in Vilar the Second Circuit noted that the law applies where a defendant has engaged in fraud with respect to either (1) a security listed on an American exchange or (2) a security purchased or sold in the United States. In determining whether a security has been purchased or sold in the United States, the Second Circuit turned to the Morrison test adopted in its 2012 opinion in Absolute Activist Value Master Fund Ltd. v. Ficeto. In Absolute Activist, the Court held that a securities transaction is domestic “when the parties incur irrevocable liability to carry out the transaction within the United States or when title is passed within the United States.” Relevant to this determination are facts concerning the formation of the contracts, the placement of purchase orders, the passing of title, and the exchange of money. (The author represented one of the defendants in Absolute Activist.)

The Second Circuit found that the transactions in which Vilar and Tanaka engaged met this standard and were domestic in nature even though the defendants frequently operated from abroad and ran two of their funds through entities organized under the laws of Panama and the United Kingdom. Future courts determining whether a transaction is domestic or foreign likely will look to the facts relied on by Vilar to support the finding of a domestic transaction, which arguably may be viewed as less stringent than the factors previously articulated by the Court in Absolute Activist. In Vilar, the Second Circuit relied on facts including that investors entered into and renewed investment agreements with the defendants in the United States and Puerto Rico (the default rule presumes the applicability of federal laws to Puerto Rico, a territory of the United States), that documents related to the transactions were executed and transmitted by messenger in the United States, and that investors were located in the United States when they transmitted money for investment by Vilar and Tanaka.

The fluidity and borderless nature of businesses is a reality that’s here to stay. Friday’s decision, however, establishes that the federal government’s reach is not similarly without limit.

Topics:  Foreign Defendants, Foreign Jurisdictions, Jurisdiction, SCOTUS

Published In: Business Torts Updates, Civil Procedure Updates, Criminal Law Updates, International Trade Updates, Securities Updates

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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