The ruling upheld a formula that limits investor claims to the actual cash that they had lost in the scheme, not the fictional profits they believed had accumulated in their accounts over the years of the fraud.
The ruling, by the United States Court of Appeals for the Second Circuit, is a significant victory for Irving H. Picard, the court-appointed trustee who is liquidating the Madoff firm in bankruptcy court in Manhattan. Lawyers in the field said the long-awaited decision would also serve as a practical guide for those involved in unraveling other complex Ponzi schemes in the future.
Significant as the victory was for the trustee’s work, it was not the last big legal battle he faces. He has already suffered some potentially damaging setbacks in the lower courts in recent weeks, and several other important legal decisions affecting his work could come later this summer.
But legal experts who reviewed the opinion on Tuesday said that it affirmed a crucial aspect of Mr. Picard’s handling of the controversy-riddled case and would guide those involved in similar disputes.
“I think we do know more than we did before this morning,” said John V. Donnelly III, a securities lawyer at Cozen O’Connor in Philadelphia. “If you encounter other Madoff-like cases in the future, you’re less likely to have this fight over again.”
The ruling could also advance the day when claims for the eligible victims in the case can be paid from the $10 billion pool of assets Mr. Picard has already collected. Except for a token payment of about 4 cents on the dollar approved by the court earlier this summer, those payments had been held up by the dispute.
The legal drama at the heart of Tuesday’s ruling began with the arrest of Mr. Madoff on Dec. 11, 2008. On that date, he confessed to his family that his private money-management business, which he ran in offices separate from his legitimate stock trading firm, was a giant Ponzi scheme. The victims believed they had a total of $64.8 billion invested in their Madoff accounts, a sum that was pure fiction.
As the trustee handling the liquidation of the failed firm, Mr. Picard determined victims were entitled to claim only the difference between the cash they invested and the cash they had withdrawn from their Madoff accounts.
That formula generated fierce criticism from lawyers for the thousands of investors — including the wealthy family that owns the New York Mets baseball team — who had taken more cash from their accounts over the years than they had invested. Mr. Picard sued a large number of those investors to recover the fictional profits they had withdrawn so he could return the money to those from whom it had been stolen.
Lawyers agreed that the appellate ruling supported the trustee’s use of these so-called clawback lawsuits to recover the fictional profits, a factor that may persuade some clawback defendants to seek out-of-court settlements with Mr. Picard rather than continue their fight.
Rejecting a crucial argument by Mr. Picard’s opponents, the appeals court ruled that federal law did not dictate a single approach to calculating losses in such cases. Its decision, it said, was rooted in the specific facts of the Madoff case, in which Mr. Madoff had full discretion over his customers’ accounts and never made any investments with the cash he collected from them.
“Different fact patterns will inevitably call for differing approaches to ascertaining the fairest method” for determining losses, the ruling noted.
But given the facts in the Madoff case, it continued, relying on the final account statements to define investor losses, as Mr. Picard’s opponents have demanded, would have been “impermissible” and “would have undermined” the fundamental goal of achieving “a fair allocation of the available resources among the customers” caught up in the fraud, the court said.
Amanda Remus, a spokeswoman for Mr. Picard, said the ruling affirmed that the trustee’s approach “is the fairest approach to the determination of claims, and we hope that the court’s decision can be the final word on this issue.”
The trustee is still facing legal challenges over his attempts to recover damages from banks and other third parties who dealt with Madoff investors, his attempt to collect from those he said had been “willfully blind” to evidence of fraud and his refusal to honor claims from those who invested indirectly through investment partnerships and other feeder funds.
Some members of Congress have supported those critical of Mr. Picard’s approach, proposing legislation that would change the laws governing Wall Street bankruptcies and Ponzi scheme loss calculations. After Tuesday’s ruling, those critics said they would intensify their efforts in Congress.
Brian Neville, one of the lawyers opposing Mr. Picard, said he felt certain the ruling would be appealed. Helen Davis Chaitman, another of the losing lawyers and a Madoff victim herself, predicted the ruling “will destroy investor confidence in the capital markets” because it does not require the Securities Investors Protection Corporation, the industry-supported organization that provides a limited safety net for customers of failed brokerage firms, to honor the Madoff investors’ final account statements.
But the ruling was applauded by several investors who had benefited from Mr. Picard’s formula.
One of them, Howard Siegel of Palm Beach Gardens, Fla., said: “To me, justice has been served. Fairness requires that people who had not received back all the cash they put in should be made whole before other people shared in the recovery.”
He added: “I have said from the beginning that if you’ve gotten someone else’s money without knowing it was stolen, you’re totally innocent. But if you keep it once you know it was stolen — where’s the fairness in that? So to me, justice was done today.”