Rita D Mitchell, Willkie Farr & Gallagher (UK) LLP
This is an extract from the third edition of GIR's The Practitioner’s Guide to Global Investigations. The whole publication is available here.
This chapter considers the potential fines, penalties and other collateral consequences that companies may face in the United States when defending against or settling an enforcement action with US regulators.
The US enforcement authorities have a variety of means to seek redress from corporates and individuals, including financial penalties and equitable remedies. The general purpose and policy objectives behind such sanctions are (1) to deter the defendant and others from committing such offences in future, (2) to protect the public, (3) to punish the defendant and (4) to promote rehabilitation of the defendant. In considering fines and penalties, the US enforcement authorities and courts will consider the facts and circumstances of the matter, including whether the defendant accepts responsibility for the conduct, any remediation that has been effected and co-operation by the defendant with the relevant enforcement authorities.
In recent years, both the Department of Justice (DOJ) and Securities and Exchange Commission (SEC) have been successful in extracting significant financial and collateral consequences as part of their enforcement actions and settlements. In the fiscal year ending 30 September 2015, the DOJ collected a combined total of US$23.1 billion in civil and criminal penalties; in 2016 the combined figure was approximately US$15.3 billion. The SEC obtained orders totalling approximately US$12 billion in disgorgement and penalties for fiscal years 2015 to 2017. In an active enforcement environment, companies and individuals who are facing enforcement action should be mindful of the potential consequences and the opportunities to manage and reduce the ultimate fines and penalties.
Standard criminal fines and penalties available under federal law
Maximum financial penalties
Many federal statutes contain their own fine provisions, which typically include a maximum fine amount. Additionally, for some crimes, the Alternative Fines Act provides for an alternative maximum fine of double the gross gain (or gross loss caused to another) from the unlawful activity. Where a fine is imposed against an officer, director, employee, agent or shareholder of an issuer, the fine may not be paid, directly or indirectly, by the issuer.
In addition, for certain offences, the DOJ may seek criminal or civil forfeiture, or both, of property that constitutes, or is derived from proceeds traceable to, the offence. Recent examples of forfeiture include the United States’ complaint against Chinese company Mingzheng International Trading Limited, seeking civil forfeiture of US$1,902,976 in connection with allegations that the company acted as a front to launder US dollars for sanctioned North Korean entities, and an agreement by Banamex USA to forfeit US$97.44 million in connection with criminal violations of the Bank Secrecy Act stemming from its wilful failure to maintain an effective anti-money laundering programme and to file suspicious activity reports.
Defendants may also be required to pay restitution, taking into consideration the amount of loss sustained by each victim, the financial resources of the defendant and any other factors the court deems appropriate.
United States Sentencing Guidelines
Federal courts in the United States use the United States Sentencing Guidelines (the Sentencing Guidelines) as guidance in considering the aggravating and mitigating circumstances of a crime and imposing a sentence. These apply to both corporates and individuals. Although not bound to apply the Guidelines strictly in sentencing, district courts must consult them and take them into account. In practice, they continue to be closely followed.
For companies, the calculation of the applicable fine is made by (1) identifying a ‘base fine’; (2) identifying the minimum and maximum multipliers that combined with the base fine create a ‘fine range’; and (3) considering potential ‘departures’, upward or downward, from the fine range.
In calculating the base fine under the Sentencing Guidelines, the first step is to identify the ‘offence level’, which depends on the characteristics of the crime. The ‘base offence level’ is set according to the nature of the conduct or the statute violated, and then the overall offence level will increase or decrease depending on certain factors. For example, for an FCPA anti-bribery violation, the base offence level is 12. Factors that may affect the overall offence level include the number of bribes, the dollar amount involved and the position of the foreign official receiving the payment or benefit. The total offence level helps to determine the base fine, which is the greatest of the amount specified in a table that translates the offence level into a base fine, the pecuniary gain to the organisation from the offence, or the pecuniary loss from the offence caused by the organisation, ‘to the extent the loss was caused intentionally, knowingly, or recklessly.’
The second step is to calculate the ‘culpability score’, which yields the minimum and maximum multipliers to be applied to the base fine. The culpability score is based on the characteristics of the defendant. Relevant factors may include the size of the organisation and the degree of participation in, or tolerance of, the wrongdoing; the defendant’s prior criminal history; whether the defendant has violated an order or injunction, or violated a condition of probation by committing similar misconduct to that for which probation was ordered; obstruction of justice; the existence of an effective compliance programme; and self-reporting, co-operation and acceptance of responsibility. The potential multipliers can range from 0.05 (a 20 times reduction of the base fine) to 4.0 (four times the base fine), depending on the culpability score. The fine range reflects the minimum and maximum multipliers as applied to the base fine.
Finally, the Sentencing Guidelines allow for upward or downward departures from the fine range. This may include a downward departure for substantial assistance to the government in its investigation of others, or remedial costs that exceed the gain to the company. Unlike the factors that are considered for calculating the offence level and culpability score, the detriments or benefits that result from departures are not quantified. The court in its discretion imposes a fine within the fine range, or above or below the range by taking into account any departures. For negotiated resolutions, a company through its counsel will often negotiate and agree a downward departure recommendation beyond the low end of the fine range. In addition to the fine, any gain to the company from an offence that is not otherwise part of the company’s restitution or remediation is subject to disgorgement.
Civil monetary sanctions can include penalties, disgorgement and prejudgment interest. Each of these has a different purpose and method of calculation.
The SEC may impose civil monetary penalties on any person who violates or causes a violation of the securities laws. The Securities Act of 1933 and the Securities Exchange Act of 1934 authorise three tiers of civil penalties. Most civil violations fall into the first tier, where the penalty is no more than US$9,239 for an individual or US$92,383 for a company for ‘each act or omission’ of the federal securities laws. The second tier applies to violations involving fraud, deceit, manipulation, or deliberate or reckless disregard of a regulatory requirement, for which the maximum penalty is US$92,383 for individuals and US$461,916 for companies, again for each act or omission. Finally, the third tier applies to violations involving tier two conduct that directly or indirectly resulted in ‘substantial losses … to other persons’ or ‘substantial pecuniary gain to the person who committed the act or omission.’ Third tier penalties have a limit of US$184,767 for individuals and US$923,831 for companies, for each act or omission.
The DOJ likewise may seek civil penalties in certain types of matters, such as violations of federal financial, health, safety, civil rights and environmental laws.
Disgorgement and prejudgment interest
The SEC may also seek disgorgement to prevent an entity or individual from profiting from illegal conduct and to deter subsequent misconduct. It has historically been considered as an equitable remedy to prevent unjust enrichment. Disgorgement has often accounted for a significant portion of the overall enforcement sanction. For example, in August 2015, BNY Mellon agreed to pay US$14.8 million to settle allegations that it had violated the FCPA’s anti-bribery and internal controls provisions, of which US$8.3 million (56 per cent of the total) was disgorgement. In January 2014, Alcoa Inc resolved civil charges brought by the SEC in relation to alleged FCPA violations by its subsidiary companies by disgorging US$175 million; there was no separate fine amount.
The SEC’s ability to extract such large disgorgement payments is in part a consequence of its seeking disgorgement beyond the typical five-year limitation period that applies to any ‘action, suit or proceeding for the enforcement of any civil find, penalty, or forfeiture, pecuniary or otherwise.’ In defence of this practice, the SEC’s position has historically been that disgorgement is not a ‘civil fine, penalty, or forfeiture’ and that as a result the SEC is not constrained by any limitations period when seeking disgorgement. On 5 June 2017, however, the US Supreme Court unanimously rejected the SEC’s position in Kokesh v. SEC, holding that ‘[d]isgorgement in the securities-enforcement context is a “penalty” … and so disgorgement actions must be commenced within five years of the date the claim accrues.’ In so doing, the Supreme Court resolved a Circuit split on this issue, making clear that the SEC may not seek disgorgement for conduct that occurred more than five years before the claim accrued. As a consequence of this decision, there may be a substantial impact on the amount the SEC is able to recover in certain cases. In Kokesh v. SEC, for example, the District Court had ordered the defendant to pay US$34.9 million in disgorgement, of which US$29.9 million related to conduct outside the limitation period and is therefore now time-barred.
Since Kokesh v. SEC was decided, defendants have further sought to rely on the decision to challenge the SEC’s statutory authority for seeking disgorgement at all, arguing that as a penalty, disgorgement is not within the court’s equitable powers. Although some courts have been receptive to such challenges, many have construed Kokesh narrowly. In late October 2017, a class action lawsuit was filed, Jalbert v. SEC, seeking the recovery of almost US$15 billion collected by the SEC as disgorgement. However, the case was dismissed for failure to state a claim (as well as lack of jurisdiction) on 22 August 2018.
The calculation of disgorgement can be complicated in practice. Given the challenges in distinguishing between legally and illegally derived profits, in considering the amount to be disgorged, courts have broad discretion and need only consider a ‘reasonable approximation of profits causally connected to the violation.’ Disgorgement amounts may include both ‘direct pecuniary benefit[s]’ and ‘illicit benefits … that are indirect or intangible.’ By way of example, in insider trading cases, tippers have been required to disgorge the benefits enjoyed by their tippees. In calculating disgorgement, courts have found ‘[a] tippee’s gains [to be] attributable to the tipper, regardless whether benefit accrues to the tipper.’ Once the SEC meets its burden of establishing a reasonable approximation of profits causally connected to the fraud, the burden shifts to the defendant to demonstrate that his gains were not affected by the offence. The final decision rests with the court.
Defendants face significant challenges in trying to reduce disgorgement amounts or carve out certain categories of costs and expenses. Although revenue received from improper conduct may be disgorged, it is less clear whether and how the costs associated with that revenue would be used to reduce the disgorgement amount. Several courts have permitted defendants to deduct expenses that are directly associated with the revenue to be disgorged. On the other hand, courts have generally refused to allow defendants to deduct overhead costs or general business expenses from disgorgement amounts on the basis that they were not directly related to the illegal conduct at issue and would have been incurred irrespective of the conduct. By way of example, courts have denied requests to deduct from revenue expenses related to employees’ salaries, capital gains taxes paid in connection with illicit profits, and fees paid to clearing agents that could not be directly tied to the illegal sales. As a consequence, ‘SEC disgorgement sometimes exceeds the profits gained as a result of the violation.’
Because disgorgement was not until the Supreme Court’s Kokesh decision generally viewed as a ‘fine’ or ‘penalty’, practitioners have also considered the possibility that an FCPA disgorgement payment might be tax-deductible. As a general matter, IRS regulations preclude a tax deduction for penalties and fines paid to government authorities, on the basis that taxpayers should not be permitted to enjoy a tax benefit based on a payment designed to be punitive. However, the Tax Code does not specifically address disgorgement. On 6 May 2016, the Office of the Chief Counsel of the Internal Revenue Service released an Advice Memorandum stating that the disgorgement payment to the SEC in a corporate FCPA action was not tax-deductible, on the basis that a disgorgement amount would, in its view, fall within Section 162(f) of the Tax Code stating that deductions are not allowed ‘for any fine or similar penalty paid to a government for the violation of any law.’ Following Kokesh, the Office of the Chief Counsel of the Internal Revenue Service reaffirmed this position in a 1 December 2017 Advice Memorandum, noting that ‘[b]ecause, as the Supreme Court held, disgorgement payments are penalties and are not compensatory, section 162(f) prohibits a deduction … for an amount paid as disgorgement for violating a federal securities law.’ Although these internal memoranda are not binding, they reflect the position of the IRS on this matter.
Under its rules, as part of an administrative proceeding the SEC is also required to compute prejudgment interest to accompany any disgorgement amount. A court may award prejudgment interest in a civil proceeding, though it is not mandatory. The interest rate applied is typically the ‘underpayment’ rate set by the Internal Revenue Service. There is no single approach for measuring when the clock begins to run on interest calculations. In some cases, it has been measured from the date when the ill-gotten funds were received, up to the date of judgment. In others, it may run from multiple dates where the matter involves multiple transactions, or, where the applicable dates are difficult to identify, from the date of the complaint.
The DOJ and SEC may also seek affirmative relief by way of an injunction where it is deemed necessary to advance public interests or enforce governmental functions. Injunction actions may be specifically provided for by statute, or permitted to enforce statutes which do not specifically provide such a remedy.
The SEC has the express authority to seek a civil injunction against any person who may cause future violations of the securities laws. The test for whether an injunction is appropriate is whether ‘there is a likelihood that, unless enjoined, the violations will continue.’ Injunctions can be either preliminary or permanent. In considering whether a permanent injunction is appropriate, courts consider the following factors:
the fact that defendant has been found liable for illegal conduct; the degree of scienter involved; whether the infraction is an ‘isolated occurrence;’ whether defendant continues to maintain that his past conduct was blameless; and whether, because of his professional occupation, the defendant might be in a position where future violations could be anticipated.
Although settlements of SEC enforcement actions typically include an injunction against future violations of the relevant securities laws, this practice has been challenged and questioned recently by the Eleventh and DC Circuits, which have argued for more specific and tailored injunctions. For example, in SEC v. Graham, the Eleventh Circuit criticised the SEC for seeking an injunction that ‘merely tracks the language of the securities statutes and regulations’, or what is commonly referred to as an ‘obey-the-law’ injunction, noting that such injunctions are unenforceable.
Other collateral consequences
In addition to the criminal and civil penalties noted above, defendants may also face civil and criminal forfeiture of assets, including real and personal property constituting or derived from proceeds traceable to a violation, or a conspiracy to commit a violation. Investigation or prosecution by US authorities may also lead to subsequent investigations or prosecutions, or both, by authorities in other jurisdictions.
The consequences of an enforcement action by the DOJ and SEC do not end after settlement or conviction of the charges. Defendants may still face a variety of actions from other US government agencies, international organisations, other companies or even shareholders and employees. These actions may impact the company’s ability to participate in both US and foreign contracts and may involve additional litigation and other monetary penalties. For certain types of offences, individuals or entities indicted or convicted of criminal violations may be barred from doing business with the United States or other governments, or deemed ineligible to receive export licences, or both. Debarment may be triggered by a criminal conviction or an adverse civil judgment under certain circumstances, and typically lasts up to three years. Debarment applies to all subdivisions of a corporation unless the decision is limited by its terms to specific divisions or organisational units. Suspension is a short-term exclusion imposed on a contractor for a temporary period pending the completion of an investigation or legal proceeding if an agency determines that immediate action is required to protect the government’s interest. Like debarment, suspension affects all organisational divisions of a contractor and is government-wide.
With respect to certain types of enforcement actions, such as FCPA enforcement, money laundering and sanctions violations, companies may also be subject to corporate compliance monitors.
Financial penalties (and prison terms) under specific statutes
By way of example, we outline below the fines, penalties and other sanctions associated with particular federal criminal statutes that have been the subject of recent enforcement activity.
Foreign Corrupt Practices Act
The anti-bribery provisions of the Foreign Corrupt Practices Act (FCPA) generally prohibit US issuers, domestic concerns and other covered persons from making, authorising, or offering a corrupt payment to a non-US official for purposes of influencing that official in his or her official duties or otherwise securing an improper advantage to assist the covered person or another in obtaining or retaining business. The FCPA also contains separate accounting provisions that require issuers to maintain adequate books, records and internal accounting controls.
For criminal anti-bribery violations of the FCPA, corporates or other business entities may be fined up to US$2 million per anti-bribery violation. A company that violates the accounting provisions may be fined up to US$25 million per violation. The Alternative Fines Act, however, provides for an alternative maximum fine of twice the gross pecuniary gain or loss from the violation. An individual may be fined up to US$100,000 (US$250,000 under the Alternative Fines Act, or twice the gain or loss from the violation), or imprisoned for up to five years, or both, for a criminal violation of the FCPA’s anti-bribery provisions. For criminal violations of the accounting provisions, individuals are subject to a fine of up to US$5 million, or imprisoned for up to 20 years, or both. In addition, the DOJ may seek forfeiture of property that constitutes or is derived from proceeds traceable to a criminal FCPA violation. Issuers, as defined under the FCPA, are prohibited from paying the criminal fines that may be imposed on an officer, director, employee, agent or stockholder.
For civil violations of the FCPA, an issuer may be subject to penalties as high as US$20,521 per anti-bribery violation, and US$923,831 per accounting provisions violation. For an individual who violates the FCPA anti-bribery provisions, civil penalties may be as high as US$20,521 per violation. Civil penalties for such persons who violate the accounting provisions may be up to US$184,767 per violation. Issuers may not directly or indirectly pay the civil anti-bribery penalties of its officers, directors, employees, agents or stockholders.
In addition to its criminal penal authority, the DOJ may also bring a civil action to seek an injunction against domestic concerns and persons other than issuers to prevent a current or imminent violation, or forfeiture of property that constitutes, or is derived from proceeds traceable to, a criminal FCPA violation. The SEC may seek injunctions against issuers.
Disgorgement is often a key component of a civil resolution of the FCPA. The SEC first sought and obtained disgorged profits in connection with an FCPA resolution in 2004 against ABB Ltd. Since then, the SEC has routinely pursued and obtained disgorgement in FCPA matters. Since 2014, the SEC has received more than US$2.3 billion from companies in connection with FCPA-related matters, of which over US$1.9 billion is disgorgement and over US$106 million prejudgment interest.
On 29 November 2017, the DOJ announced a revised FCPA Corporate Enforcement Policy, which was incorporated into the United States Attorneys’ Manual (now known as the Justice Manual). The Corporate Enforcement Policy is an extension of the ‘Pilot Program’, announced in April 2016, which the DOJ determined ‘to be a step forward in fighting corporate crime’. Under the Pilot Program, companies that co-operated, remediated and voluntarily self-disclosed were eligible for the ‘full range of potential mitigation credit’, including a declination of prosecution (as well as disgorgement) or a reduction of ‘up to 50 percent below the low end of the applicable US Sentencing Guidelines fine range’.
The Corporate Enforcement Policy varies from the Pilot Program in ways that are more favourable to companies that qualify for mitigation credit. First, the policy establishes a presumption that, ‘absent aggravating circumstances’, a company will receive a declination if it ‘has voluntarily self-disclosed misconduct in an FCPA matter, fully cooperated, and timely and appropriately remediated’. Second, if a company has met the self-disclosure, co-operation and remediation criteria, but ‘aggravating circumstances’ prevent a declination, the DOJ will recommend ‘a 50 percent reduction off of the low end of the US Sentencing Guidelines’. The Pilot Program afforded the DOJ greater discretion in recommending reductions of ‘up to 50 percent’. The Corporate Enforcement Policy also describes factors the DOJ will take into account in evaluating the effectiveness of a company’s compliance programme.
On 1 March 2018, the DOJ’s Criminal Division announced that it would also consider the Corporate Enforcement Policy as guidance in other criminal cases. As a result of this decision, companies being investigated for offences other than FCPA violations, such as money-laundering or fraud, may be able to obtain declinations from the DOJ based on self-reporting, co-operation and remedial measures.
Federal criminal money laundering
The principal federal criminal money laundering statues are 18 USC Sections 1956 and 1957. These statutes generally prohibit a person who knows that property represents the proceeds of certain crimes (predicate offences referred to as ‘specified unlawful activities’) from engaging in financial transactions that either promote further unlawful activity, conceal the proceeds, evade taxes or avoid reporting requirements. They also prohibit a person from transferring, or attempting to transfer, funds to, through or from the United States with the intent of engaging in a specified unlawful activity. The predicate offences may be certain state crimes, foreign crimes or federal crimes.
Any violation of Section 1956 is punishable by imprisonment for not more than 20 years. For Section 1957, the maximum penalty is 10 years. For both sections, fines can range from US$250,000 to US$500,000, or twice the value of property or amount involved in the offence. Defendants are also subject to a civil penalty of no more than the greater of US$10,000 or the value of the property involved in the offence, asset forfeiture and the proceeds of the offence.
Export controls and trade sanctions
The US Department of the Treasury’s Office of Foreign Assets Control (OFAC) administers and enforces most US economic sanctions, which implement UN measures and otherwise address national security and foreign policy concerns. The US Commerce Department’s Bureau of Industry and Security and the DOJ’s National Security Division also enforce some aspects of US sanctions. The sanctions can be either comprehensive for a jurisdiction or targeted to particular individuals and entities, and use the blocking of assets and trade restrictions to accomplish national security and foreign policy objectives. US sanctions generally restrict activities that take place in the US or involve a ‘US person’, which is defined widely to include US citizens, permanent residents, persons present in the United States, companies organised under the laws of the United States, and the non-US branches of US companies. Foreign subsidiaries of US companies are also restricted in certain cases, such as with respect to sanctions imposed against Cuba and Iran. Non-US persons and companies can face penalties under US sanctions for ‘causing’ a violation by a US person. Non-US persons can also face sanctions of their own for engaging in certain activity outside US jurisdiction involving Iran, Russia, North Korea or Hezbollah under ‘secondary sanctions’.
The fines for violations of the sanctions regulations can be significant. Between 2009 and 2016, enforcement actions were brought against a number of European banks for breaching US sanctions laws by removing or omitting references to sanctioned persons or entities from payment messages sent to US financial institutions. The fines and penalties paid in those cases ranged from US$298 million to US$8.9 billion.
Criminal penalties for wilful violations of OFAC sanctions can include fines ranging up to US$1 million per violation and imprisonment of up to 20 years. In March 2017, for example, ZTE Corporation agreed to pay a criminal fine of US$286,992,532 for alleged sanctions and export control violations in Iran, the largest to date for a non-financial institution. The government can also pursue fines and penalties under Title 18, Section 3571, of the greatest of US$500,000, the amount specified in the law setting forth the offence, twice the pecuniary gain derived from the offence, or twice the gross pecuniary loss to persons other than the defendant resulting from the offence, as well as forfeiture under 18 USC Section 981. Civil penalties for violations of the Trading with the Enemy Act, which provides the statutory authority for the Cuba sanctions, can range up to US$85,236 per violation. Civil penalties for violations of the International Emergency Economic Powers Act, which underlies most other sanctions programmes, can range up to US$289,238 or twice the amount of the underlying transaction for each violation.
Racketeer Influenced and Corrupt Organizations Act (RICO)
RICO provides criminal penalties as well as a civil, private cause of action for acts performed as part of a criminal organisation or enterprise. The statute contains variations on the proscribed conduct, but generally criminalises participation in an ‘enterprise’ in interstate or foreign commerce using ill-gotten gains that result from a ‘pattern of racketeering activity’, which can be any one of a series of enumerated offences referred to as ‘predicate acts’. These include such things as violations of state anti-bribery laws, mail and wire fraud, extortion, and money laundering violations, to name a few. The statute also makes it unlawful for a person to conspire to participate in proscribed conduct.
If found guilty of a RICO violation, a defendant may be imprisoned for up to 20 years and made to forfeit any interest acquired or maintained through the violation, any interest in any enterprise that was established, operated, controlled, conducted or participated in as part of the RICO violation (or the property of such an enterprise) and any property constituting or derived from any proceeds that the person obtained, directly or indirectly, from racketeering activity.
Additionally, the government may seek pre-indictment restraining orders for the purpose of preventing defendants from transferring assets the government may potentially seek to have forfeited. To obtain such an order, the government must establish that (1) there is a substantial probability that it will prevail on the forfeiture issue, (2) property will be destroyed or placed beyond the court’s reach without the order and (3) the need to maintain the property’s availability outweighs the hardship of a restraining order. Pre-indictment restraining orders are effective for 90 days.
There are also civil remedies under RICO available to any person injured by a RICO defendant, which include treble damages sustained by the injured party and the cost of the lawsuit, including reasonable attorneys’ fees.