Commercial Transactions Due Diligence

Mobile apps may violate Fair Credit Reporting Act

On February 6, 2012, the Federal Trade Commission (FTC) issued warning letters to the marketers of six mobile applications that provide background screening apps that they may be violating the Fair Credit Reporting Act (FCRA.) The FTC said that if the background reports are being used for employment or other FCRA purposes, then the marketers and their clients must comply with the FCRA.

According to the warning letters, the FTC has not made a determination whether the companies indeed are violating the FCRA, but encourages them to review their apps, and their related policies and procedures. The FCRA is designed to protect the privacy of consumer report information and ensure that the information provided by consumer reporting agencies is accurate. Consumer reports are communications that include information about an individual’s character, reputation, or personal characteristics, and are used or expected to be used for purposes such as employment, housing or credit.

Under the FCRA, entities/operations that assemble or evaluate information to provide to third parties qualify as consumer reporting agencies (CRAs.) Mobile apps that supply such information also may qualify as CRAs under the Act. CRAs must take reasonable measures to ensure the user of each report has a ‘permissible purpose’ to use the report, take reasonable steps to ensure the maximum possible accuracy of the information conveyed in the report, and provide users of its reports with information about their obligations under the FCRA. In employment-purpose consumer reports, for example, CRAs must provide employers with information regarding their obligation to give notice to employees and applicants of any adverse action taken on the basis of a consumer report.

February 7th, 2012|Categories: Commercial Transactions Due Diligence|Tags: , |

SI case study: “A career in fraud”

A prospective client investigation was ordered on a company and its president, but the preliminary information was enough to reject this individual or any company under his control from the proposed business engagement. Initial court searches uncovered a 2003 criminal misdemeanor conviction for possession of a false identification to be used to defraud. The index did not provide much information and the file was destroyed by the court, so SI’s analyst turned to media sources to dig deeper. Sure enough, one article referenced guilty pleas entered by the subject and his business partner for hiring imposters to take the Series 7 securities brokers’ examination for them. Each was sentenced to a year of probation and fined $5,000. Articles from 2004 reported three civil cases for fraud in jurisdictions where the subject appeared to have no residential history. Follow-up research found that judgments in these lawsuits totaled more than $4.6 million. Several articles also linked the subject to a con artist who had admitted to defrauding ethnic organizations and individuals of $80 million during the late 1990s. And in 2007, the FDIC had executed a settlement agreement with the subject and (the same) business partner after they allegedly failed to seek FDIC approval before making an investment in an unregistered bank holding company. On the whole, this company president had been engaged in fraudulent activities for over a decade and no legal or regulatory action appeared to stop his mode of operation.

January 25th, 2012|Categories: Commercial Transactions Due Diligence|Tags: , , |

Epidemic of fake websites is real

Cyber crime experts report that fake websites are proliferating at the rate of 60,000+ per week or over 3,100,000 per year. And the fraudsters’ malicious exploitations are getting bold and more sophisticated, creating sites that are difficult to discern from those of legitimate businesses or organizations. From banks (which make up about 68% of fraudulent sites) to regulators and news reporting agencies, no entity is immune.

Recently, several local and national newspapers reported on a publicity campaign by a public relations company that purportedly set up a fake news site to promote one of its clients, a public entity, with positive articles and press releases “written in the image of real news” by “journalists” who allegedly do not exist. Although Web experts note that it is fairly common for celebrities and private-sector businesses to generate buzz or improve sales through news coverage, open government advocates called this stunt an egregious breach of trust and ethical standards.

The Federal Trade Commission (FTC) issued warnings a few months ago about scam artists exploiting well-known news organizations by setting up fake news sites to peddle their wares. The sites, which usually display logos of legitimate news organizations, promote everything from bogus weight loss products to work-at-home jobs, anti-aging products and debt reduction plans. The FTC cited several investigations that resulted in charges against the fraudsters, saying that many of the websites are owned by marketers and used to entice consumers to click on links to the sellers’ sites. In its case against acai berry supplement peddlers, the FTC disclosed that the sellers paid the marketers a commission based on the number of consumers they lured to their sites. There was no reporter, no studies, no dramatic weight loss, no satisfied consumers who left comments, and no affiliation with a reputable news source. As a rule, the FTC noted, legitimate news organizations do not endorse products.

The FTC itself, and other regulators have not escaped the fraudsters’ blitz. In April 2011, the FTC brought charges against an individual for multiple violations of the Federal Trade Commission Act for misrepresenting his affiliations with federal agencies, including the FTC, misrepresenting that the services advertised on his websites were government-approved, and making deceptive debt relief claims. The FTC alleged that the individual, a Texas-based “lead generator,” set up several websites through which he associated his business with a fictitious government agency – the “Department of Consumer Services Protection Commission” – that appeared to combine two real government entities, the Federal Trade Commission and the Consumer Financial Protection Bureau. Among other charges, the FTC stated that to further these scams, the websites depicted the FTC’s official seal, copied language about the fictitious agency’s consumer protection mission from the FTC’s site, and claimed that the fake agency “monitors and researches” member companies that provide financial assistance to American consumers.

The scammers and their fake websites are also busy abroad. Earlier this month, international news sources reported that Russian fraudsters set up a counterfeit site of a popular five-star hotel, complete with the real hotel’s photographs, room descriptions and services. According to published reports, they also paid a fee to Google to ensure that their bogus site was listed before the hotel’s genuine site. The fraudulent website purportedly came to an abrupt end after, among other disparities, it was discovered that the room rates were advertised in dollars.

Another story about a flagrant website invasion came in October 2011 from Belgrade, where Serbian media reported that a mock-up of the official Nobel Prize website was set up purportedly by political activists to promote their causes and views.

Fraudulent websites appear daily and no industry or organization is beyond these fraudsters’ reach. Scherzer International, a provider of specialized background investigations for business transactions and employment decisions, includes comprehensive website reviews in its reports. We know how to spot scams, exaggerated claims and other red flags.

November 29th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , |

Bribing for business: Russia and China score lowest in fighting corruption

According to a survey released on November 3, 2011, by Transparency International, a non-profit, corruption watchdog, Russia and China got the lowest scores in its 2011 Bribe Payers Index, which ranked the top 28 largest economies according to the probability of companies headquartered in these countries practicing bribery. The scores were calculated from responses of 3,016 executives in 30 countries who had business dealings in those economies.

Companies based in China and Russia scored below 7 on a scale of 10, at 6.5 and 6.1, respectively. Mexico, with a 7.0 score, was third from the bottom. Companies in the Netherlands and Switzerland tied for first place with scores of 8.8, with Belgium, Germany, and Japan rounding out the top five.
The survey also ranked the business sectors in which bribery was perceived to be prevalent. Public works and construction were reported as the most pullulated along with oil and gas. Agriculture and light manufacturing were ranked as the cleanest.

The report noted that “there is no country among the 28 major economics whose companies are perceived to be wholly clean and do not engage in bribery.” And the scores, on average, have not improved significantly from the 2008 Bribe Payers Index. The average score of 22 countries increased only 0.1 points to 7.9 in the latest edition.

The survey also found that “international business leaders reported the widespread practice of companies paying bribes to public officials in order to, for example, win public tenders, avoid regulation, speed up government processes or influence policy.” However, companies are almost as likely to pay bribes to other businesses, according to the survey, which looked at business-to-business bribery for the first time. This suggests that corruption is not only a concern for the public sector, but for many businesses, and carries major reputational and financial risks.

November 3rd, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , , |

Paying for ambiguity: the myths of instant background checks and national databases

The cottage industry of data-collection agencies that provide inexpensive background information is flourishing even in this tough economy. Many prospective employers with tight budgets believe they can save money by relying on the “national” records that are spewed out within minutes of entering a credit card number. So just what do you get for $19.99? Not much. Or a lot…a lot of worthless data, that is. Unverified name-match only records come up by the hundreds if the name is fairly common. And it is nearly impossible to determine case details or duplicate filings, as the cryptic printouts often require specialized knowledge that is specific to each state, municipality or records venue.

Many subjects who are flagged as criminals in these databases have never been convicted of a crime. In fact, according to the U.S. Bureau of Justice statistics for felony defendants in large urban counties, one-third of felony arrests never lead to a conviction. And there is no standardized process for reporting arrests and dispositions or updating the records at the various court levels. Some reported offenses are not actually violations of the criminal code in the particular state, but may still show up in these databases.

There are few regulations governing the use of background information beyond the provisions of the Fair Credit Reporting Act (FCRA). The Federal Trade Commission (FTC) does not mandate that data aggregators provide guidance on how to properly interpret their records. The only possible value of these so-called national databases is to serve as an indicator that a record may exist, and use the search results to supplement a full investigation. Since the FCRA requires that all “reasonable procedures to assure maximum possible accuracy of the information are followed” and that “the information is complete and up-to-date,” searches for employment purposes must be conducted either manually or through direct access in the particular court where the record is filed.

Employment experts at a July 2011 Equal Employment Opportunity Commission (EEOC) hearing urged the Commission to consider the comprehensive recommendations put forth by the National Employment Law Project (NELP) in its report on the effect of criminal background checks in employment decisions. Among its recommendations, the NELP suggested that the EEOC revise its now 20-year-old guide on conviction records in view of the “intervening proliferation of instant computerized background information…” The EEOC should also address the “use of arrest records and third-party databases that are considered a part of the hiring process.”

October 17th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , , |

SEC charges green-product company with running a $26 million Ponzi scheme

 

The Securities and Exchange Commission (SEC) announced today that it obtained an emergency court order to halt a Ponzi scheme that promised investors high returns on water-filtering natural stone pavers but bilked them of approximately $26 million over a four-year period.

Filed in the U.S. District Court for the Southern District of New York, the SEC alleges in its complaint that between 2006 and 2010, convicted felon Eric Aronson and others defrauded about 140 individual investors in PermaPave Companies, a group of firms based on Long Island, NY, and controlled by Aronson. According to the complaint, the investors were told that PermaPave had a tremendous backlog of orders for pavers imported from Australia, which could be sold in the U.S. at a substantial mark-up, yielding monthly returns of 7.8% to 33%. But in reality, the complaint states, there was little demand for the product, and the cost of the pavers far exceeded the revenue from sales.

In their Ponzi scheme, Aronson and two other PermaPave executives, Vincent Buonauro Jr. and Robert Kondratick, used the new funds to make payments to earlier investors and then siphoned off much of the rest for themselves, buying luxury cars, gambling trips, and jewelry, according to the complaint. Aronson also allegedly used the investors’ money to make court-ordered restitution payments to victims of a previous scheme to which he pleaded guilty in 2000.

The complaint further states that when investors began demanding their money, Aronson accused them of committing a felony by lending the PermaPave Companies money at the interest rates he promised them, which he suddenly claimed were usurious. Aronson and his attorney, Fredric Aaron, then allegedly made false statements to persuade investors to convert their securities into ones that deferred payments for several years.

The SEC also charges that the defendants used some of the money raised through the Ponzi scheme to purchase a publicly traded company, Interlink-US-Network, Ltd. Several months later, the SEC said that Interlink issued a Form 8-K, signed by Kondratick, which falsely claimed that LED Capital Corp. had agreed to invest $6 million in Interlink. According to the complaint, LED Capital Corp. did not have $6 million and had no dealings with Interlink.

The U.S. Attorney’s Office for the Eastern District of New York, which conducted a parallel investigation, filed criminal charges against Aronson, Buonauro, and Kondratick.

October 10th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , |

New FINRA rule for reporting requirements

 

FINRA’s Rule 4530, modeled after NASD Rule 3070 and NYSE Rule 351, went into effect on July 1, 2011. The rule requires all member firms to:

  • report to FINRA certain specified events and quarterly statistical and summary information regarding written customer complaints, and
  • file with FINRA documents of certain criminal actions, civil complaints and arbitration claims.

A member firm has 30 calendar days to report to FINRA violations of any securities, insurance, commodities, financial or investment laws, rules, regulations or standards of conduct committed by the firm or its associated persons.  The 30-day period begins when the firm has concluded, or reasonably should have concluded, that a violation has occurred. Below is a summary of the provision.

  • Firms are not required to report every instance of non-compliant conduct, but they must report conduct that has widespread or potential widespread impact to the firm, its customers or the markets, or conduct that arises from a material failure of the firm’s systems, policies or practices involving numerous customers, multiple errors or significant dollar amounts.
  • Violative conduct by an associated person must be reported only when it has widespread or potential widespread impact to the firm, its customers or the markets; conduct that has a significant monetary result on a member firm(s), customer(s) or market(s); or multiple instances of any violative conduct.
  • The “reasonably should have concluded” standard is applied on a good faith basis (by the firm) if a reasonable person would have concluded that a violation has occurred; if a reasonable person would not have concluded that a violation occurred, then the matter is not reportable. Firms must establish who, within the firm, is responsible for making such determinations. Stating that a violation was of a nature that did not merit consideration by the responsible person is not a defense to a failure to report such conduct.
  • The reporting obligation and internal review processes set forth under other rules – eg., FINRA Rule 3130 – are mutually exclusive.
  • While internal review processes may point to a firm’s determination that a specific violation has occurred, they do not by themselves lead to the conclusion that the matter is reportable – e.g., FINRA would not view a discussion in an internal audit report regarding the need for enhanced controls in a particular area, standing alone, as determinative of a reportable violation.  An internal audit finding would serve only as one factor, among others, that a firm should consider in determining whether a reportable violation occurred.
  • Certain disciplinary actions taken by a firm against an associated person must be reported under a separate provision, rather than under the internal conclusion provision.

In addition to the above “internal conclusions” obligations, the new rules for “other reportable events” as per NASD Rule 3070 and NYSE Rule 351, have been modified somewhat in Rule 4530. For example, more customer disputes may have to be reported, as the new rule will now include attorney’s fees and interest penalties in customer settlements or awards with damages against a broker of $15,000 or more and against a firm of $25,000 or more, thus lowering the calculations threshold for reporting requirements.

August 16th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , , |

Dodd-Frank Act amendment for credit scores took effect July 21, 2011

The Federal Reserve Board and the Federal Trade Commission (FTC) issued final rules to implement the credit score disclosure requirements of the Dodd-Frank Wall Street Reform and Consumer Protection Act. If a credit score is used in setting material terms of credit or in taking adverse action, the statute requires creditors to disclose credit scores and related information to consumers in notices under the Fair Credit Reporting Act (FCRA).

The final rules amend Regulation V (Fair Credit Reporting) to revise the content requirements for risk-based pricing notices, and to add related model forms that reflect the new credit score disclosure requirements. These rules also amend certain model notices in Regulation B (Equal Credit Opportunity), which combine the adverse action notice requirements for Regulation B and the FCRA.

For employers, this means that if a consumer report that includes a credit score is used to determine eligibility for employment, the employer will be required to disclose to the subject the usage of the credit score in an adverse employment decision and to provide information about the credit score, including the score itself, up to four key adverse factors in the score, and the identity of the agency that provided the score.

For credit transactions, creditors, including banks, credit unions, credit card issuers, and utilities, that extend credit on terms that are less favorable than those offered to other consumers because of information contained in a credit report, or if other adverse action is taken, will have to provide to the subject a “risk-based pricing notice” which discloses the credit scores and related information. Such notice will include: 1) the numerical credit score used by the creditor in making the decision; 2) the range of possible scores under the model used by the creditor; 3) the key factors that adversely affected the credit score; 4) the date on which the credit score was created, and 5) the name of the entity that provided the score.

In certain cases, such as for applications for a mortgage, auto loan, or another type of credit, a lender will have to furnish to the subject a “credit score notice” that lists the credit score and how the score compares to other consumers’ scores regardless of the credit terms offered. If no credit score is available for a consumer, the lender’s notice will identify the particular credit bureau which reported this information. Additionally, if a consumer’s annual percentage rate (APR) on an existing credit account is increased based on a review of a credit report, the creditor will have to provide an “account review notice.”

The Board and the FTC have stated that it is imperative to have the regulations and revised model forms in place as close as possible to July 21, 2011. This will help ensure that consumers receive consistent disclosures of credit scores and related information, and facilitate uniform compliance when Section 1100F of the Dodd-Frank Act becomes effective.

July 25th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , |

Consumer Financial Protection Bureau seeks input on non-bank entities

On June 23, 2011, the Consumer Financial Protection Bureau (CFPB) released a Notice and Request for Comment seeking public input on a key element of its non-bank supervision program — the statutory requirement to define who is a “larger participant” in certain consumer financial markets.

Created by the Dodd-Frank Act, the CFPB has been empowered to regulate non-bank financial entities. But exactly what is a “non-bank?” Various literature generally defines “non-bank” as a company that offers consumer financial products or services, but does not have a bank, thrift, or credit union charter and does not take deposits. Products from non-banks have a significant share of the overall consumer financial marketplace. Under Dodd-Frank, many of these non-banks will be subject to a federal supervision program for the first time.

In its Notice and Request for Comment, the CFPB has identified the following markets for potential inclusion in an initial rule: debt collection, consumer reporting, consumer credit and related activities, money transmitting, check cashing and related activities, prepaid cards, and debt relief services. The larger participant rule will not impose substantive consumer protection requirements. Instead, the rule will enable CFPB to begin a supervision program for larger participants in certain markets.

The issues for discussion in the Notice include:

  • What criteria to use to measure a market participant;
  • Where to set the thresholds for inclusion;
  • Whether to adopt a single test to define larger participants in all markets (measure the same criteria and use the same thresholds) or to use tests designed for specific markets;
  • What data is available to use for these purposes;
  • What time period to use to measure the size of a market participant;
  • How long a participant is to remain subject to supervision after initially meeting the larger participant threshold, and if it subsequently falls  below the threshold; and
  • What consumer financial markets to include in the initial rule.
July 1st, 2011|Categories: Commercial Transactions Due Diligence|Tags: , |

SEC Defines Due Diligence for Dodd-Frank ABS Certification Requirements

On May 28, 2011, as part of its ongoing efforts to implement the Dodd-Frank Wall Street Reform and Consumer Protection Act, the Securities and Exchange Commission (SEC) approved for public comments (which will be accepted until July 18, 2011) proposed rules pursuant to Section 932 that would require nationally recognized statistical rating organizations (NRSROs), issuers and underwriters to make public the findings and conclusions of any due diligence reports prepared by a third-party service provider in an asset-backed securities transaction. Such third-parties would also have to furnish a certification to each NRSRO rating the securities.

Since the Dodd-Frank Act does not define “due diligence services,” the SEC has identified four categories of reviews, and thus has defined “due diligence services” in the proposed Rule 17g-10 to mean “an entity that engages in a review of the assets underlying an Exchange Act-ABS for purposes of making findings with respect to:

  • quality or integrity of the information or data about the assets provided, directly or indirectly, by the securitizer or originator of the assets;
  • whether the assets origination conformed to stated underwriting or credit extension guidelines, standards, criteria or other requirements;
  • value of collateral securing such assets;
  • whether the assets originator complied with federal, state or local laws or regulations; and
  • any other factor or characteristic of such asset that would be material to the likelihood that the issuer of the Exchange Act-ABS will pay interest and principal according to its terms and conditions.”

Proposed Rule 17g-10 will also define “issuer” to include a sponsor (as defined in 17 CFR 229.11) or depositor (as defined in 17 CFR 229.1011) that participates in the issuance of an Exchange Act-ABS. The terms “originator” and “securitizer” as used in proposed Rule 17g-10 will have the meanings stated in Section 15Gf of the Exchange Act.

An issuer or underwriter is not required to furnish a Form ABS-15G if such issuer or underwriter obtains a representation from each NRSRO engaged in the rating of the Exchange Act-ABS that the NRSRO will publicly disclose the findings and conclusions of any third-party due diligence report obtained by the issuer or underwriter. The NRSRO must disclose the finding and conclusions of any third-party due diligence report with the publication of the credit rating in an information disclosure form prepared pursuant to new paragraph (a)(1) of Rule 17g-7 no less than five business days prior to the first sale in the offering. Rule 17g-7 as amended by the proposed rules, would require an NRSRO to disclose in the information disclosure form:

  • whether and to what extent it relied upon third-party due diligence services;
  • description of the information that such third-party reviewed in conducting its due diligence services; and
  • description of the findings or conclusions of such third-party.

Also in accordance with Section 15E(s)(4)(C) of the Exchange Act, the SEC proposed that the format of the certification in Form ABS Due-Diligence-15E include the following line items:

  • identity and address of the provider of the third-party due diligence services;
  • identity and address of the issuer, underwriter or NRSRO that hired the provider of the third-party due diligence services;
  • identity of each NRSRO that published criteria for performing;
  • scope and manner of the due diligence performed, including but not limited to the type of assets that were reviewed, the same size of the assets reviewed, how the sample size was determined and any other type of review conducted with respect to the assets; and
  • findings and conclusions resulting from the review.

In addition, any individual executing the Form ABS Due Dilignce-15E on behalf of a third-party due diligence provider will be required to represent that he/she executed the form on behalf of, and on the authority of, the third-party due diligence provider and the third-party due diligence provider conducted a complete due diligence review.

June 26th, 2011|Categories: Commercial Transactions Due Diligence|Tags: , |
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