February 12, 2013
News stories recently reported that the “net equity” issue in the Madoff liquidation went all the way to the United States Supreme Court and that the Supreme Court declined to review the matter, thereby upholding the SIPA Trustee’s net equity methodology in the BLMIS liquidation. Would you explain the issue and why it had to go to the Supreme Court? And, what does this mean for BLMIS customers?

“Net equity” is the methodology used by the SIPA Trustee to determine eligibility for, and amount of, the BLMIS Customer Fund claims.

While BLMIS was the largest Ponzi scheme in history, it still operated in the same way that any other Ponzi fraud would: Cash was taken from investors in the fraud to provide returns and payouts to other investors. That is, any money withdrawn from the scheme was simply money that had been misappropriated (stolen) from other customers. There were virtually no investments made for BLMIS customers and therefore no investment gains for them.

Some BLMIS customers withdrew more than they deposited in the scheme. Because they withdrew more money from BLMIS than they deposited, they are often called “net winners.” Other BLMIS customers withdrew less than they had deposited or withdrew no money at all. Because they got little or none of their money back, they are often called “net losers.”

Under the law, BLMIS net losers have the priority position to receive pro rata distributions from the Customer Fund and must be made “whole” first, so that they are on the same footing as the net winners who withdrew amounts equal to or greater than their deposited principal.

Nevertheless, several parties sought to overturn the SIPA Trustee’s methodology and instead to have claims determined based on the final, fictitious statements sent by BLMIS in November 2008. This meant that, in connection with the distribution of recoveries, funds had to be held in reserve pending a final resolution of the “net equity” issue.

The SIPA Trustee’s “net equity” approach was, without exception, upheld by the courts. On March 1, 2010, the United States Bankruptcy Court for the Southern District of New York granted the SIPA Trustee’s motion for an order denying customer claims for amounts listed on last customer statement and affirming the SIPA Trustee’s determination of net equity. In August 2011, the United States Court of Appeals for the Second Circuit upheld the SIPA Trustee’s use of the “cash in, cash out” net equity formula. Petitions for a panel rehearing of that decision were denied. Certain appellants then filed petitions for writs of certiorari with the Supreme Court of the United States, requesting further review of the net equity decision, earlier this year.

The Supreme Court’s announcement on June 25, 2012 of the denial of the petitions for writs of certiorari ended the appeals process regarding the net equity issue, thereby upholding the SIPA Trustee’s net equity methodology.