Choice of Law. District court finds that New York law applies in an action brought by customers not domiciled in New York against an offshore brokerage firm incorporated and registered in Bermuda.
Plaintiff Trustee, as the assignee of the claims of customers of Refco Capital Markets (“RCM”) who deposited funds in foreign exchange accounts at RCM (the “FX Customers”), brought an aiding and abetting fraud action against Defendant Grant Thornton. RCM held itself out as an offshore brokerage firm, incorporated and registered in Bermuda, which was not subject to U.S. federal or state securities laws and regulations. None of the FX Customers were domiciled in New York. The question before the court was whether New York tort law applied to the FX Customers’ claims.
In accordance with New York choice of law rules, the court first determined that there was an actual conflict between New York and Bermuda law. The FX Customers alleged that RCM failed to disclose it was "hopelessly insolvent" before accepting their deposits, in violation of a New York common law duty to disclose. However, the court found that Bermuda does not recognize the duty to disclose hopeless insolvency or the like.
Since a conflict was identified, the next issue before the court was whether New York or Bermuda law applied to the case. The court observed that, under New York law, an “interests analysis” is used to determine which law governs, applying the law of the jurisdiction with the most significant interest in, or relationship to, the dispute. New York law distinguishes between “conduct regulating” rules and “loss allocating” rules.” Conduct regulating rules are those governing conduct to prevent injuries from occurring. Loss allocating rules are those which prohibit, assign, or limit liability after the tort occurs.
The court found that the question of whether a broker has a duty to disclose that it is hopelessly insolvent before accepting a customer’s funds is a conduct regulating rule designed to prevent brokers from fraudulently inducing deposits that customers will never get back. In such cases where the conflict involves rules that regulate conduct, the site of the tort governs.
Defendant asserted that the site of the tort was Bermuda based on the reasonable expectations of the parties. Defendant argued that RCM held itself out as a Bermuda entity, that it maintained Bermuda incorporation, Bermuda directors and meetings, and Bermuda counsel, and that the customers who chose to deal with RCM knew they were dealing with an offshore entity, not a New York entity, and not an entity subject to U.S. broker-dealer laws and regulations. Defendant added that no FX Customers were domiciled in New York. As a result, Defendant argued that New York had no interest in the regulation of RCM’s relationship with the FX Customers.
The court found, however, that the fraud engulfed the Refco umbrella of companies, including three subsidiaries of which RCM was one. The court determined that Refco effectively operated as one entity and those operations were controlled centrally from New York. Moreover, the court observed that Refco insiders sued as individual defendants worked in New York and RCM’s communications to its customers were mailed from a New York mailing address.
Based on the foregoing observations, the court found that the efforts to disguise Refco’s financial condition, which encompassed RCM’s financial condition, and the subsequent failure to disclose that alleged hopeless insolvency to the FX customers, were centered in New York. As a result, the court found that New York had a greater interest in the action than Bermuda, and thus, New York law applied to the Trustee’s claims.