Enforcement News: SEC Charges Accountant with Affinity Fraud

• Posted on: Feb 3 2020

Investment scams come in many forms. Affinity fraud is one type of investment scam. In this form of fraud, the person committing the fraud preys upon members of an identifiable group, such as a religious or ethnic community, the elderly, or a professional group. The promoter of an affinity fraud frequently is – or pretends to be – a member or a good friend of the group. The fraudster often enlists respected members of the community or religious leaders from within the group to disseminate information about the scheme by convincing them that a fraudulent investment is legitimate and in their best interests. Many times, those leaders become unwitting victims of the fraudster’s con.

Affinity scams exploit the trust and friendship that exist in group of people who have something in common. Because of the tight-knit structure of many groups, it can be difficult for regulators or law enforcement officials to detect an affinity scam. Victims often fail to notify authorities or pursue their legal remedies and instead try to work things out within the group. This is particularly true where the fraudsters have used respected community or religious leaders to convince others to join the investment.

Many affinity scams involve Ponzi schemes or pyramid schemes, where new investor money is used to make payments to earlier investors to give the illusion that the investment is successful. New investors are induced to invest in the scheme and existing investors are lulled into believing their investments are profitable. Unfortunately, as is often the case, the promoter of the scheme steals the investor’s money for personal use. Both types of schemes depend on an unending supply of new investors – when the inevitable occurs, and the supply of new money stops, the scheme collapses, and investors lose most or all of their money.

On Wednesday, January 29, 2020, the Securities and Exchange Commission (“SEC”) announced (here) that it charged a Pennsylvania accountant with perpetrating an affinity fraud on the Amish and Mennonite community by making materially false and misleading statements about investments he was selling, including, but not limited to, the use of their funds and the guaranteed return on their investments.

According to the SEC’s complaint (here), Philip E. Riehl (“Riehl”), provided tax and accounting services to Amish and Mennonite communities. Riehl developed his own investment program, in which he pooled money that he raised by selling promissory notes to community members. Riehl was a co-religionist in the Mennonite religious community.

Riehl allegedly raised approximately $60 million over nearly a decade and promised to invest the funds in business and real estate loans to others in the religious community. Riehl typically made loans to farmers and other types of commercial businesses, such as barn builders, trucking companies, and construction companies, who were unable to, or chose not to, obtain loans from traditional banks. These loans were documented by simple promissory notes to Riehl, signed by the borrowers.

According to the complaint, Riehl knew that members of his religious community had a high level of trust and respect for one another, and he allegedly relied on this trust to secure investments. The SEC alleged that Riehl provided each investor with a promissory note, signed by him, and personally promised to repay the investors with interest.

In or about 2015, the SEC began an investigation of Riehl and his investment program. Riehl purportedly told the SEC staff he was not accepting new investments, was in the process of winding down his investment program, and always required two co-signers for loans made from his investment program. The SEC claimed that those statements were false.

The SEC further alleged that Riehl also sold investors promissory notes issued by Trickling Springs Creamery (“TSC”), a dairy business that he owned, without informing the investors about the company’s financial difficulties and mounting debt (“TSC Notes”). The complaint alleged that in late 2018 when TSC was in dire straits, Riehl diverted money to it from at least one investor, against the investor’s wishes.

For many of the TSC Notes that Riehl sold, alleged the SEC, Riehl merely issued new TSC Notes to his existing investors, replacing himself with TSC as the note’s payor. The SEC claimed that this action effectively eliminated his personal guarantee to repay the investors.

In so doing, said the SEC, Riehl burdened TSC with millions of dollars of additional debt without any corresponding infusion of capital. Significantly, observed the SEC, TSC was insolvent for all or most of the time that Riehl sold TSC Notes.

According to the SEC, Riehl did not disclose to the TSC Note investors that he was imposing this debt burden on TSC while eliminating his personal guarantee to previous Riehl Note investors.

The SEC also said that Riehl did not disclose to TSC Note investors that TSC had existing bank debt to which the TSC Notes were subordinate, and failed to tell investors that if TSC defaulted they would not be repaid until TSC’s bank lenders were repaid first.

Notably, alleged the SEC, Riehl did not require that TSC have two co-signers to repay its debts, contrary to his promise that he would require two co-signers for any loan issued using investor money. From at least 2015 to December 2018, Riehl offered and sold to approximately 110 investors at least 175 TSC Notes worth approximately $7.8 million.

According to the SEC complaint, Riehl received his last investment of $150,000 in later 2018. Riehl allegedly told this investor that he would repay him in a few days. The SEC claimed that Riehl knew that this investor did not want to invest in TSC – TSC continued to struggle financially and needed an immediate infusion of cash for operations. Against the investor’s instruction, said the SEC, Riehl transferred the $150,000 to TSC. The SEC claimed that Riehl never repaid the investor.

In a 2019 letter to investors, Riehl allegedly apologized for his dishonesty, including repeatedly stating that he required two co-signers on each loan, which gave a “false sense of security, in that such a considerable percentage of the funds were channeled into my personal projects.” TSC ultimately failed, filing for bankruptcy in December 2019, and Riehl was unable to pay back investors.

Commenting on the SEC’s complaint, Kelly L. Gibson, Associate Regional Director of the SEC’s Philadelphia Regional Office, said “Promises of guaranteed returns or investments without risk are classic warning signs of fraud. It is important to learn as much as possible about your investments, even if it means questioning someone you know and trust, including someone within your own faith-based community.”

The SEC charged Riehl with violating the antifraud provisions of the federal securities laws. Riehl agreed to settle the charges against him. The settlement, which is subject to court approval, provides for injunctive relief and return of allegedly ill-gotten gains plus prejudgment interest.

In a parallel action, the U.S. Attorney’s Office for the Eastern District of Pennsylvania announced criminal charges against Riehl (here).

Commenting on the charges, U.S. Attorney McSwain said: “These investors were looking for honesty and integrity when deciding where and with whom to invest their money. According to the Information, Riehl presented himself as a trusted member of their religious community, only to betray that trust and swindle them out of tens of millions of dollars. It is only natural for members of a tightly knit community to want to take care of one another, but Riehl did not care about anyone but himself. Fraudsters must be held accountable under the law – no matter what community they belong to – for justice to prevail.”

Michael T. Harpster, Special Agent in Charge of the FBI’s Philadelphia Division, added: “So long as there are people with money to invest, there will be swindlers ready to take their money under false pretenses. But it is particularly loathsome when these criminals exploit trusting members of their own church or community. According to the Information, Philip Riehl repeatedly misrepresented what he was doing with his investors’ money – people who took him at his word. The FBI will continue to investigate and hold accountable those who engage in such financial fraud.”