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In re Inofin Inc.

United States District Court, D. Massachusetts

November 28, 2016

In re INOFIN INCORPORATED, Debtor.
v.
HOLLAND & KNIGHT, LLP and RICHARD J. HINDLIAN, Defendants. MARK G. DEGIACOMO, Trustee of the Estate of Inofin Incorporated, Plaintiff,

          MEMORANDUM & ORDER

          NATHANIEL M. GORTON UNITED STATES DISTRICT JUDGE.

         Defendants Holland & Knight, LLP (“H&K”) and Richard J. Hindlian (“Hindlian”) (collectively, “defendants”) move for summary judgment on plaintiff's claim of legal malpractice brought in his capacity as Bankruptcy Trustee of the Estate of Inofin, Incorporated. Defendants also move to strike the deposition testimony of Michael Cuomo. For the reasons that follow, defendants' motions will be allowed.

         I. Factual and Procedural Background

         Inofin, Incorporated (“Inofin”) was established in 1994. It was in the business of acquiring and servicing subprime loans for used automobiles. Michael Cuomo and Kevin Mann owned and controlled Inofin. Mr. Cuomo was its president and Mr. Mann was its Chief Executive Officer. Inofin raised capital through investor loans with terms of three years and fixed interest rates. Although Inofin executed investor loan agreements and promissory notes, most of the loans were unsecured.

         A. Inofin's Questionable Loan Practices

         Inofin made loans to startups and also factored loans as follows:

         First, in the early 2000s, Messrs. Cuomo and Mann began to loan Inofin investor funds to affiliated automobile and real estate startups (“the startups”). Very few Inofin investors knew of the startups and Mr. Cuomo specifically told his assistant not to advise investors about them. The Trustee admits that the startups were “financial disasters” and that the loans were a “significant cause” of Inofin's insolvency.

         The Massachusetts Division of Banks (“the Division”) required Inofin to be licensed in order to operate. To maintain such a license, Inofin had to submit a report and financial statement to the Division each year. Pursuant to Division regulations, companies must maintain a net worth of $20, 000.

         In 2004, the Boston law firm Sullivan & Worcester (“S&W”) advised Mr. Cuomo that, for the purpose of measuring net worth for Division reports, the loans to the startups were not “assets”. Nevertheless, from 2005 to 2009, Inofin included the startup loans as assets in its financial reports. Defendants submit that, had the reports properly reflected the loans, they would have shown a negative net worth and the Division would likely have shut down Inofin. The Trustee does not dispute that contention.

         From the late 1990s until 2006, the accounting firm Sharkansky & Company, P.C. (“Sharkansky”) prepared Inofin's annual financial statements that were submitted to the Division. As Sharkansky advised, Inofin's statements in 2003 and 2004 were combined with the startups' statements. In 2005, the principals of Inofin became concerned that if it continued such accounting, it would result in the showing of a negative net worth for Inofin. Consequently, Messrs. Cuomo and Mann purportedly sold some of the startups as part of a scheme to separate the startups' losses from Inofin. After the sham sale, however, Inofin still controlled the startups, the CFO for Inofin continued to handle the books for the startups, their personnel continued to be employees of Inofin and Cuomo and Mann continued to hold themselves out as the owners of the startups.

         Mr. Cuomo subsequently tried to persuade Sharkansky that, because some of the startups had been divested, separate financials statements were appropriate. In 2007, Sharkansky told Inofin that if it did not consolidate the financial statements of Inofin and the startups, the firm would include a $5 million bad-debt reserve for the startup loans on Inofin's balance sheet, resulting in a negative net worth for the company. Inofin terminated Sharkansky's services and hired a solo certified public account, Richard Tobin, who treated the startup loans as assets in the financial statements. If the startup loans had been properly accounted for in the reports from 2005 to 2009, they would have accurately reflected Inofin's negative net worth.

         Inofin's second questionable loan practice began in 2007. Because it was experiencing cash flow difficulties, Inofin began factoring auto loan receivables with Mid-Atlantic Finance (“MAF”). That allowed Inofin to receive instant cash for the loans. Taking into account discounts and commissions, however, Inofin lost 8% of the value of the loans. Even so, Inofin continued to record the factored loans as assets and to report interest income from them. That falsely inflated Inofin's stated income and assets and understated its expenses.

         B. SEC Investigation and Bankruptcy Petition

         Inofin admits that 1) in 1994 Robert Allison, an attorney from the law Firm of Sherburne, Powers & Needham, P.C. (“SPN”), advised it to treat its promissory notes as securities and to comply with the applicable laws by using a private placement memorandum (“PPM”) and 2) in 2003 Ed Woll, an attorney from S&W, forewarned that the notes were securities. Despite such advice, Inofin did not file an SEC registration statement with respect to the notes or use Form D as required by the Securities Act of 1933 for unregistered securities.

         In September, 2009, the Securities and Exchange Commission (“SEC”) notified Inofin that it was under investigation. In May, 2010, the investigation revealed that Inofin had factored approximately $26 million of its loans to MAF. When Inofin's financial statement was accurately updated in December, 2010, it revealed a negative net worth of $29 million. The Division issued a cease and desist order against Inofin shortly thereafter.

         Creditors of Inofin filed an involuntary Chapter 7 bankruptcy petition against it in the United States Bankruptcy Court for the District of Massachusetts in February, 2011. The Bankruptcy Court entered an order for relief under Chapter 7 and appointed Mark D. DeGiacomo (“the Trustee”) as Trustee of the bankruptcy estate.

         The SEC investigation culminated in a civil complaint alleging that Inofin, Mr. Cuomo and others violated anti-fraud securities laws by, among other things, making fraudulent representations to investors. As a result of that lawsuit, Cuomo and Mann entered into consent orders with the SEC. The government also brought criminal charges against them for wire fraud, mail fraud and conspiracy which are still pending.

         C. Alleged Legal Malpractice

         In September, 2013, the Trustee began an adversary proceeding in the Bankruptcy Court alleging one count of legal malpractice under ...


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