SCOTUS Limits Restitution in Federal Criminal Cases

Background on the MVRA
The MVRA requires defendants convicted of certain federal criminal offenses, “including any offense committed by fraud or deceit . . . in which an identifiable victim . . . has suffered a . . . pecuniary loss,” to “make restitution to the victim of the offense. . . .” 18 U.S.C. § 3663A(a)(1), (c)(1)(A)(ii). Restitution includes reimbursement to “the victim for lost income and necessary . . . other expenses incurred during participation in the investigation or prosecution of the offense or attendance at proceedings related to the offense.” Id. § 3663A(b)(4).

Most courts interpreted the MVRA favorably for victims. Before Lagos, the majority of federal appellate courts interpreted this language of the MVRA to require that defendants make restitution to victims for the expenses that they incurred while conducting internal investigations and civil litigation. See, e.g., United States v. Hosking, 567 F.3d 329, 331–32 (7th Cir. 2009); United States v. Elson, 577 F.3d 713, 726–29; United States v. Stennis-Williams, 557 F.3d 927, 930 (8th Cir. 2009); United States v. Amato, 540 F.3d 153, 162 (2d Cir. 2008); United States v. Phillips, 477 F.3d 215 (5th Cir. 2007); United States v. Gordon, 393 F.3d 1044, 1056–57 (9th Cir. 2004).

In the typical situation, an employer who was the victim of an employee’s fraud or embezzlement conducted a private investigation to determine the scope of the employee’s misconduct, and then referred the matter to law enforcement. For example, in Hosking, over the course of 12 years, a bank employee embezzled funds from accounts that the bank had established to finance a state environmental program. Hosking, 567 F.3d at 329. Once bank officials discovered the embezzlement, the bank conducted an investigation and determined that the employee had taken over $500,000. At sentencing, the district court ordered restitution to the bank of nearly $630,000, which represented the embezzled funds plus approximately $125,000 for the bank’s investigation costs. The U.S. Court of Appeals for the Seventh Circuit affirmed the restitution order under the MVRA, stating, “The time and effort spent by the bank’s employees and outside professionals in unraveling the twelve-year embezzlement scheme was a direct and foreseeable result of the defendant’s conduct that contributed to the diminution of the value of the bank’s property,” and “[t]he bank’s activities were also an important part of the ‘investigation of the offense’ [under] § 3663A(b)(4).” Id. at 332.

The D.C. Circuit disallowed private investigation costs. The U.S. Court of Appeals for the D.C. Circuit created a circuit split when it found that the MVRA did not cover private investigation costs, for three reasons: (1) “an internal investigation that is neither required nor requested by criminal investigators or prosecutors does not entail the organization’s ‘participation in the investigation or prosecution of the offense’”; (2) in other restitution statutes, Congress provided for restitution in terms that clearly covered the costs of an internal investigation; and (3) a victim’s costs incurred in conducting an internal investigation are not “necessary” if the investigation was neither required nor requested by criminal investigators or prosecutors. United States v. Papagno, 639 F.3d 1093, 1098–99 (D.C. Cir. 2011).

The Lagos Ruling
To resolve this circuit split, the U.S. Supreme Court granted certiorari in Lagos v. United States, which involved a defendant who was the owner and CEO of a company that owned USA Dry Van Logistics LLC (Dry Van). On behalf of Dry Van, the defendant and an associate entered into a loan agreement with General Electric Capital Corporation (GECC). Over the course of approximately two years, Lagos and two associates made false representations to GECC about the value of Dry Van’s accounts receivable. Their fraud eventually came to light, driving Dry Van to declare bankruptcy. GECC conducted its own investigation of the defendant’s fraud and was an active participant in Dry Van’s bankruptcy proceedings.

The district court ordered restitution for the victim. The federal government brought criminal charges against the defendant for the fraud that he perpetrated against GECC. The defendant ultimately pled guilty to one count of conspiracy to commit wire fraud and five charges of wire fraud.

After pleading guilty, the defendant proceeded to sentencing, where the government sought restitution on behalf of GECC for its lost loan proceeds and to recoup the forensic expert fees, legal fees, and consulting fees that GECC incurred while investigating the defendant’s fraud, plus legal fees expended during Dry Van’s bankruptcy proceeding. Over the defendant’s objection, the district court ordered the defendant to pay approximately $16 million in restitution to GECC under the MVRA. Of the $16 million, approximately $5 million related to GECC’s investigative and litigation expenses.

The appeals court affirmed the restitution order. The defendant appealed the portion of the restitution order that required him to make restitution to GECC for its investigative and litigation expenses. On appeal, the defendant argued that the MVRA did not apply to the expenses that GECC incurred while investigating his fraud or in litigating the bankruptcy proceedings caused by his fraud. United States v. Lagos, 864 F.3d 320, 322 (2017). The U.S. Court of Appeals for the Fifth Circuit rejected the defendant’s argument, finding that his scheme “caused GECC to employ forensic experts . . . as well as lawyers and consultants to investigate the full extent and magnitude of the fraud and to provide legal advice relating to the fraud.” Id. at 322. The restitution order was affirmed, with the Court holding that “[f]ees incurred by GECC during the investigation of the fraud were necessary and compensable in the restitution award.” Id.

The Supreme Court reversed. The Supreme Court, in a unanimous decision, ruled that the MVRA did not require the defendant to make restitution to GECC for its investigative and litigation expenses, essentially adopting the D.C. Circuit’s approach in Papagno. Lagos, No. 16-1519, slip op. (U.S. May 29, 2018). Specifically, the Supreme Court interpreted the words investigation and proceeding in the MVRA narrowly, limiting their application to only government investigations and criminal proceedings—and, thus, disallowing their application to internal investigations and civil or bankruptcy proceedings.

In reaching its conclusion, the Supreme Court emphasized the MVRA’s plain text and also pointed to “practical” reasons supporting its interpretation. The Supreme Court observed that a broad interpretation of the MVRA would require trial courts to determine whether a particular expense incurred by a company was really “necessary” to the investigation, possibly on a document-by-document or interview-by-interview basis.

The Supreme Court also rejected the argument that a company’s decision to share the results of its private investigation with the government made those expenses recoverable through restitution because they were “incurred before the victim’s participation in a government’s investigation began.” Id. at *7 (emphasis in original).

Implications of Lagos on Restitution
The Supreme Court’s ruling in Lagos has foreclosed a potential source of recovery for companies that respond proactively when they find themselves the victims of fraudulent conduct.

The Lagos ruling leaves some unanswered questions. What remains to be seen is whether companies will be less willing to share the results of their internal investigations with the government because they can no longer expect to recover the associated costs. Another open question is how courts will interpret the MVRA’s requirement that investigatory expenses must be made during a government investigation or criminal proceedings to be recoverable. In addition, it is an open question whether the Supreme Court’s emphasis on a government investigation extends only to federal investigations or if it includes state or municipal investigations that may eventually lead to federal criminal charges being brought against a defendant.

The Lagos ruling does not preclude restitution via civil litigation. While Lagos restricts a victim’s ability to recover its investigatory costs as part of a restitution order, victims may still pursue civil litigation against the defendant to recover such costs as consequential damages of the defendant’s conduct. This may not always be an attractive option to a victim, however.

Before Lagos, a federal prosecutor would argue for restitution on behalf of the victim at the defendant’s sentencing hearing, requiring only that the victim submit a victim impact statement and supporting documentation for investigatory costs incurred. Lagos increases the costs and time that a victim must now incur to seek recovery because pursuing civil litigation to recover such costs would entail retaining counsel, possible motion practice, and discovery in order to obtain a judgment against the defendant. Moreover, enforcement of the civil judgment would fall to the victim, whereas enforcement of restitution orders rests with federal prosecutors because the restitution order is a lien in favor of the United States. See 18 U.S.C. § 3613(c).

In addition to being more expensive to enforce, private enforcement efforts may not be as effective as federal efforts. Prosecutors, unlike private victims, have dedicated financial litigation units, investigators, and access to financial information filed under seal, such as presentence investigation reports, in order to identify and attach the defendant’s assets to satisfy the restitution order.

Given the increased hurdles that civil litigation presents to victims trying to recover costs for investigations, victims may not be inclined to opt for civil litigation to recover such costs.

Conclusion
In most circuits, companies that were victimized by fraud used to be able to count on recovery of the costs of investigations through an order of restitution under the MVRA. The Supreme Court has now significantly restricted that ability. Companies proactively deciding whether to investigate reports of fraud and misconduct should make such decisions with the assumption that the costs of any investigation will no longer be recoverable through a federal order of restitution. What remains to be seen is whether Congress will take legislative action to amend the MVRA to specifically provide restitution for investigations that a victim chooses to conduct on its own.

Patrick Otlewski is a partner and Chris O’Malley is a counsel in King & Spalding LLP’s Chicago, Illinois, office.

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