A group of investors in California that lost millions of dollars in a failed investment venture have sued Bank One Corp. and SunTrust Banks Inc., claiming they provided trust services to the venture despite knowing it was connected to a convicted felon who had been cited by regulators for illegally selling securities to the public.
According to court filings, about 1,800 people in California, Florida, and Texas bought securities in 1995 and 1996 from now-bankrupt First Lenders Indemnity Corp., a company alleged to have been backed by Jonathan Pierpont Boston, a man who served prison time under another name in the late 1980s on a conviction for federal bank fraud.
The lawsuit seeks to recover the $72 million that was invested in the securities, plus damages.
The case is the latest example of a major financial institution being held up to scrutiny for the activity of a customer or a business partner.
In August, Bear Stearns Cos. agreed to pay $38.5 million to settle criminal and civil charges that it helped facilitate improper trading in customer accounts managed by a client of its clearing operations, A.R. Baron & Co.
In September, Republic New York Corp. said Japanese authorities were investigating its securities unit for a relationship with Martin A. Armstrong, an investment manager also alleged to have operated a Ponzi scheme. The investors stand to lose as much as $500 million.
Republic was not charged with wrongdoing, but the investigation delayed its merger with HSBC Holdings PLC of London.
The California investors contend that by serving as trustees for the securities issued by First Lenders, Bank One, and SunTrust lent a measure of respectability that made the investments seem safer, court documents say. Investors bought the securities, in parcels ranging from $25,000 to $1 million, in response to a marketing effort that promised a 10% return, court documents added.
The lawsuit says Bank One and later SunTrust agreed to be trustees despite knowing about First Lender's connection with Mr. Boston. Court documents say the banks knew Mr. Boston had changed his name from John R. Marsella after his release from prison in 1989 and that he was later investigated by the Securities and Exchange Commission for the sale of similar investments in the early 1990s.
The lawsuit also contends that the sale of the securities by First Lenders was illegal because they were not registered with the SEC.
A spokesman for Bank One declined to comment, as did a spokeswoman for SunTrust.
The investors have asked for class action status in the suit. A trial could begin next year.
The arrangement was to work this way: First Lenders would sell notes to investors through a network of small town insurance agents, and the bank, acting as trustee, would receive the money into an escrow account. Once the transactions were authorized, the bank would transfer the funds into First Lenders' trust account. The bank would also administer the payment of interest to the investors.
The lawsuit says that First Lenders was instead running a Ponzi scheme. First Lenders, court documents contend, used some of its income from auto loans it purchased to pay off investors. But most of the money used to pay older investors came from selling notes to newer ones.
The suit also charges that First Lenders diverted investor money, including $3.3 million that went to buy a 12-acre BMW auto lot in Florida for an affiliated company.
A California Superior Court judge ruled in September that the services of Bank One's outside counsel in 1994, when the first trustee agreement was prepared, "were used to enable the commission of a fraud."
In 1990, Mr. Boston established a company called First Boston Acceptance Corp. that specialized in selling notes backed by automobile and other consumer loans. Proceeds from the sale of the securities were supposed to be used to buy more auto loans, according to court documents.
After being sued by New York investment bank CS First Boston in 1994, Mr. Boston dropped the "First" from his company's name.
Boston Acceptance Corp.'s efforts to sell notes to investors in a 1993 issue proved difficult because the firm lacked an agreement with a well-known bank to act as trustee, court documents say.
Boston Acceptance Corp. approached Bank One in the spring of 1994 about becoming trustee for a new $50 million issue.
By July 1994, court documents say, Bank One executives and its outside counsel became aware of Mr. Boston's criminal conviction and name change. Court papers also say Bank One knew that Mr. Boston and some of his associates were being investigated for fraud by the SEC in connection with the 1993 securities offering, in which they allegedly did not disclose Mr. Boston's criminal history.
Despite that, Bank One signed the trustee agreement in December 1994, court papers say. But that agreement was made with First Lenders Acceptance Corp., an Orlando, firm run by two individuals: James Cunningham and Shirley Faino.
Bank One's disclosure document listed Boston Acceptance Corp. as the "primary source of vehicle loans to be acquired" by First Lenders but described Boston Acceptance Corp. as "separate and independent," court documents say.
In fact, the lawsuit says, though Mr. Boston's name was not mentioned in the Bank One disclosure, he was married to Ms. Faino. Court papers say Mr. Boston was co-founder of both Boston Acceptance Corp. and its "alter ego," First Lenders Acceptance Corp.
First Lenders' president, Mr. Cunningham, was one of the associates of Mr. Boston who was under investigation by the SEC.
The SEC investigation into the 1993 offering concluded in September 1996, and Mr. Boston, Mr. Cunningham, and others were fined $85,000 on charges of illegally selling unregistered securities with false and misleading offering materials, court papers say.
The current suit claims Bank One and SunTrust both mentioned the 1993 securities sale in disclosure materials for First Lenders "to demonstrate a track record of prior success" without disclosing the outcome of the SEC investigation.
SunTrust, which entered the scene after Bank One canceled its relationship with First Lenders, did disclose Ms. Faino's ties to First Lenders and Boston Acceptance Corp. But, like Bank One's disclosure documents, SunTrust failed to identify Ms. Faino as Mr. Boston's wife and failed to fully detail Mr. Boston's history, court papers say.
By 1997, First Lenders was forced into bankruptcy. Mr. Boston is believed to be living in Mexico, court documents say.