The class action against Jenkens & Gilchrist for its tax shelter work appears to be settled. But the agreement is raising as many questions as it is putting to rest, including untested questions about the nature of partnership liability. Meanwhile, some Jenkens partners are shifting assets into their spouse’s name, apparently in case they don’t like the answers to those questions.
Last December, notice of a proposed settlement was given to a class of almost 1,200 former Jenkens clients who bought tax shelters from the firm. If approved-at press time a hearing was scheduled for January 24 in federal district court in New York-the class will receive approximately $82 million, which a special master will divide among them. Jenkens will pay $5.25 million; its malpractice insurers will pay about $70 million; Paul Daugerdas, the leader of the firm’s tax shelter practice, will pay about $4 million; and Erwin Mayer and Donna Guerin, the other partners on the firm’s tax shelter team, will each pay about $1 million.
Lawyers for the class will be seeking 20 percent of the settlement in attorneys’ fees. Class counsel are Deary Montgomery DeFeo & Canada of Dallas, and Whatley Drake and Cory Watson Crowder & DeGaris, both of Birmingham.
Jenkens is going ahead with the settlement even though 89 people have stated their intention to opt out. The firm can cancel the agreement if even one does, and Jenkens chair Thomas Cantrill previously said that the firm could go bankrupt if too many people file individual suits. But the insurers have agreed to make about $25 million available to any opt-outs, and an additional $25 million could become available, depending on a court’s interpretation of the policy. Cantrill says the additional insurance gives him confidence that the firm can take care of the opt-outs.
The opt-outs will try to recoup legal fees they paid to Jenkens, which total some $25 million, and other costs of setting up the shelters, which were as high $1 million per person, according to Blair Fensterstock of New York, who represents six of them. They will also seek any penalties and interest owed to the Internal Revenue Service, and punitive damages.
Lawyers for the opt-outs don’t share Cantrill’s confidence that the firm can handle the suits, and they are already making plans to go after the individual partners if the firm folds. Like most national firms, Jenkens has a limited liability structure intended to shield the partners from unlimited personal liability. But no one has ever tested the strength of that shield.
The opt-outs are ready to be the first. Their thinking is evident in the most recent tax shelter lawsuit, filed by Fensterstock in December. It includes a lengthy breakdown of Jenkens’s corporate structure and allegations about the culpability of individual partners. “They all shared in the profits, and they’re all liable,” he says.
As previously reported in The American Lawyer, those profits amounted to hundreds of millions of dollars [ "Helter Shelter,"December 2003]. A subsequent report by The New York Times, based on a review of documents produced in the class action, puts the number at $267 million earned between 1999 and 2003. Of that, Daugerdas personally took home $93 million.
It won’t be easy for the opt-outs to reach those assets, says Leslie Corwin of Greenberg Traurig’s New York office, who has advised Am Law 100 firms on switching from partnerships to limited liability structures. In the ordinary course of business, the partners would be liable only to the extent of their investment in the firm, he says: “To go beyond that, the plaintiffs would have to show that each individual actually committed a tort, such as breach of fiduciary duty or fraud.” Corwin adds that more passive conduct, like negligent supervision, probably won’t be enough: “Will the suit survive a motion for summary judgment? Probably. Will it make life miserable for a lot of people? Yes. But in the end, it probably won’t work.”
One potential cause of misery-full-tilt discovery-will likely take place if the suits survive summary judgment. Opt-out counsel are very much looking forward to getting their hands on Jenkens’s financial records and detailed information about the way the firm conducted its tax shelter business. Cantrill doesn’t share their enthusiasm. He vows that the firm will defend itself vigorously, but admits, “Presumably some documents will become public that we’d rather would remain confidential, but we can’t do anything about that.”
The protection offered by the limited liability structure may be weaker than Jenkens believes. The Chicago office didn’t adopt that status until 2003, after most of the shelter work was done. In addition, the firm has an indemnification agreement with its tax partners. The personal assets belonging to other partners may be called on to fulfill that agreement.
If the opt-outs manage to pierce the veil, their first targets will be Daugerdas, Mayer, and Guerin. The trio might have prepared for the possibility. In the months after the first tax shelter lawsuit was filed in December 2002, all three transferred property from their own names to their spouses, according to public records and multiple sources who insisted on anonymity. “If that was the timing, then the validity of those transactions is open to question,” says Patrick O’Brien of O’Brien & O’Brien in Rockville, Maryland, who represents eight opt-outs. A spokesman for the tax lawyers responds: “All personal financial actions were fully disclosed to class action counsel, formed the basis of the settlement agreement, and were perfectly legal and appropriate.” A judge may have the last word.