One of many case studies from our files that stopped a deal in its tracks

Our client, a commercial lender, requested background investigations of a consumer products company and its two principals in connection with their application for working capital financing. The loan officer was familiar with the subjects, and was astonished by the information that SI quickly uncovered. Searches of federal court records revealed a 2008 action filed against the subjects under the Federal Trade Commission Act for falsely advertising that using their electronic exercise belt caused weight and inch loss without exercise. The action was resolved by stipulated orders as part of a global settlement of both the FTC’s lawsuit and related actions brought by county and city prosecutors. The subjects and certain retailers collectively were ordered to pay over $2 million. The FTC and state orders further barred the defendants from making false advertising claims for the product or any similar device, and provided other injunctive relief to prevent future deceptive practices. And the subjects’ nefarious acts did not stop here. Both principals had several unpaid tax liens and judgments ranging in amounts from $48,000 to $650,000, and both were convicted within the last two years of driving under the influence of alcohol.

Updating investigations as part of your risk management strategy

As part of its standard risk management program, our client requested background investigations of two individuals in connection with an engagement continuation. SI had conducted investigations of these subjects three years prior when our client initially began its consulting engagement with them. No negative information was located in the previous investigations; however, our client quickly learned the value of conducting periodic updates.

    The new investigation revealed recently filed federal indictments charging both subjects with aiding and abetting in the evasion of taxes owed on their salaries between 2006 and 2008, amounting to more than $450,000 each. The government also charged that subject #1 directed his wife to evade income taxes on her salary between 2004 and 2007 by claiming as many as 99 exemptions on her W-4. Additionally, searches of the State Real Estate Board disclosed a pending disciplinary action against subject #2 for “misstating a material fact” that “included fraud.” Both subjects had filed personal Chapter 7 bankruptcies in December 2008 and had been named as debtors in multiple judgments and tax liens for amounts ranging from $35,000 to $2,300,000. The subjects had begun their start-up company three years earlier with clean records, but in short-order they had become a liability to our client.

    One of the largest employment tax-fraud cases in IRS history

    Our investigation, which included manual civil and criminal record searches and searches of media sources, revealed that the subject company and four of its subsidiaries are under federal indictment for conspiracy and wire fraud as part of a multimillion dollar tax fraud scheme orchestrated by the companies’ founder. This individual recently was sentenced to over 20 years in prison and ordered to pay restitution of $180 million to the Internal Revenue Service after pleading guilty to five felonies including failure to collect and pay payroll taxes and obstructing a federal investigation. It is reportedly one of the largest employment tax-fraud cases in IRS history. Before the sentencing, the individual attempted to justify his actions by claiming insanity.

    The subject company and its subsidiaries also were defendants in dozens of lawsuits for fraud and breach of contract with damage claims totaling over $220 million, in addition to filing for Chapter 11 bankruptcy. Several motions had been filed to dismiss the bankruptcy proceedings, one of which was made by the company’s former accountants who were sued for professional negligence. In court papers, the accountants asked that the case be dismissed or converted to a Chapter 7 because “the only reason the debtor filed the petition was in an effort to help (the founder’s) criminal case.” The motion to dismiss also argued that the company has no chance to successfully reorganize because it is a “sham company used only for illegal activities,” has no remaining employees and no income.

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