§ 1346. Definition of “scheme or artifice to defraud”
For the purposes of this chapter, the term “scheme or artifice to defraud” includes a scheme or artifice to deprive another of the intangible right of honest services.
http://www.law.cornell.edu/uscode/18/1346.html
Circuit Grapples With “Honest Services” Fraud
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The demise of the “honest services” theory, however, was short lived. In November 1988, Congress effectively overruled McNally by enacting §1346, …
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Dec 6, 2006 … The advantage of a right of honest services theory is that the loss need not be monetary. The government’s motion stresses that the change …
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application, courts also applied the honest services theory to busi-. ness relationships, such as those between employers and. employees. …
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fraud on both the honest services theory and salary theory in connection with …. conceded that the honest services theory was inapplicable to “schemes to …
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The panel ruled 2-1 that the honest services theory didn’t apply because the defendants’ actions were aligned with corporate goals and didn’t rob Enron of …
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Enron’s Skilling
Attempts to Reverse
His Guilty Verdict
By JOHN R. EMSHWILLER
March 31, 2008; Page B1
More than a year after U.S. prosecutors put former Enron Corp. president Jeffrey Skilling behind bars for his part in the iconic corporate scandal of the last decade, a court this week will weigh the possibility of overturning the government’s only unalloyed courtroom victory in its nearly five-year Enron probe.
![[Jeffrey Skilling]](http://s.wsj.net/public/resources/images/HC-GH352_Skilli_20060329125245.gif)
Thanks to the recent release of government notes connected to Mr. Skilling’s 2006 trial, his lawyers believe they have a better chance than ever of reversing his conviction. He was convicted on 19 counts, including fraud and conspiracy, and subsequently sentenced to more than 24 years in prison.
If the Skilling conviction is overturned, “all the guilty pleas obtained will be forgotten and the final grade of the Enron Task Force will likely be failure,” says Jacob Frenkel, a former federal prosecutor now in private practice, referring to the Justice Department team that investigated Enron’s 2001 collapse. The energy giant’s failure cost investors tens of billions in lost stock value.
At a hearing Wednesday in New Orleans, a three-judge panel of the Fifth Circuit Court of Appeals will consider whether the 54-year-old Mr. Skilling’s conviction was properly obtained.
Possibly bolstering Mr. Skilling’s case: the recent release of some 400 pages of handwritten notes from government interviews with Enron’s former chief financial officer, Andrew Fastow. The Skilling legal team says the notes undermine trial testimony by Mr. Fastow, a star government witness against Mr. Skilling. It says the notes refute Mr. Fastow’s contention that he and Mr. Skilling discussed illegal accounting maneuvers. The Justice Department disputes this characterization.
The appeals court may take several weeks to decide.
The Enron Task Force was often described as the biggest criminal investigation ever done of a single corporation. It gained more than a dozen guilty pleas from former Enron officials including Mr. Fastow.
But its record in court, the ultimate test of the strength of its cases, has been weak. In three of four criminal trials, two with multiple defendants, prosecutors either failed to obtain convictions or saw the convictions largely overturned on appeal, in some instances by judges of the Fifth Circuit. (Several defendants still face retrials in those cases, however one is now seeking dismissal citing the newly surfaced Fastow notes.)
The fourth trial was the centerpiece event involving Mr. Skilling and former Enron Chairman Kenneth Lay, the two men who built and led Enron during its 15-year history. Both were convicted, but Mr. Lay died shortly afterward and as a result, his conviction was thrown out.
Enron’s abrupt 2001 collapse threw thousands out of work and provoked public outcries in Congress and the media for criminal action against the company’s executives. But some have argued that the collapse stemmed from miscalculations and misfortunes, not crimes. Mr. Skilling testified to that effect before Congress in 2002.
DOCUMENTS IN THE CASE
![[Documents]](http://s.wsj.net/public/resources/images/it_gavel-documents06292005183453.gif)
• Read the brief filed by Mr. Skilling’s lawyers(PDF) describing the 400 pages of handwritten notes from government interviews with Enron’s former chief financial officer, Andrew Fastow.
• Read the reply brief filed by the government. (PDF)
Already, the Fifth Circuit has given Mr. Skilling some reason for hope in his appeal. In another Enron case, the appeals court overturned convictions after finding the government had misapplied a federal fraud statute that aims to punish an employee who deprives his employer of “honest services.”
In that case, the court said the statute was aimed at employees who try to cheat their company, not employees who might use fraud to advance their company’s stated interests, such as meeting earnings targets.
In Mr. Skilling’s case, a Fifth Circuit judge who took a preliminary look at his conviction said that he found “serious frailties” in Mr. Skilling’s conviction largely because of the government’s use of the honest-services theory in the 2006 trial. While that judge isn’t a member of the panel hearing the current appeal, many observers believe that Mr. Skilling has a good chance of getting some and perhaps most of the 19 counts on which he was convicted overturned as a result of the honest-services issue.
Now the release of the Fastow interview notes gives the Skilling defense team a new weapon. At the 2006 trial, Mr. Fastow claimed to have talked personally with Mr. Skilling about illegal deals that were a major part of the alleged fraud at Enron. On the witness stand, Mr. Skilling denied having such conversations.
Normally, defense attorneys aren’t allowed to see the raw notes of Federal Bureau of Investigation interviews with government witnesses. But Mr. Skilling’s defense team, led by Daniel Petrocelli, sought them anyway, and the Fifth Circuit agreed to order the federal government to turn over the notes.
In a court filing earlier this month, Mr. Skilling’s lawyers cited excerpts from the notes that they say raise questions about whether certain key meetings between Messrs. Skilling and Fastow actually took place. The Skilling filing said that under the law such “exculpatory” material must be turned over to the defense. This evidence “was deliberately and systematically withheld in bad faith” and warrants the dismissal of Mr. Skilling’s conviction, the filing argued.
In its response, the Justice Department said it provided defense attorneys with more than 200 pages of summaries of the Fastow interviews, and any omitted information would have had “minimal value” for the defense. Prosecutors added that the Skilling lawyers’ “microscopic and misleading dissection of the Fastow notes provides no basis for overturning the jury’s verdict.”
Write to John R. Emshwiller at john.emshwiller@wsj.com
http://online.wsj.com/article/SB120692150286375551.html?
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Circuit Grapples With “Honest Services” Fraud
A client in the midst of a nasty contract dispute braces herself for litigation, and litigation she gets, but not exactly in the form she expected. Instead of a summons and complaint, the client is arrested on an indictment brought by federal prosecutors who accuse her of mail and wire fraud for breaching the honest services she owed under the contract. What’s more, each of the mail and wire fraud counts carry with it a sentence of up to five years’ imprisonment.
The specter of this scenario – the federal criminalization of contract breaches – recently prompted the U.S. Court of Appeals for the Second Circuit, in United States v. Handakas, 286 F.3d 92 (2d Cir. 2002), to take the extraordinary step of finding the federal statute that criminalizes “honest services” fraud – 18 U.S.C. §1346 – unconstitutionally vague as applied to that case. Just a few weeks later, the Second Circuit weighed in on “honest services” fraud again in United States v. Rybicki, 287 F.3d 257 (2d Cir. 2002), articulating the basic elements necessary to sustain a conviction under the statute.
These efforts to define and to limit “honest services” fraud prosecutions continue a debate that has been raging for more than two decades[1] and that likely will continue, since these decisions raise almost as many questions as they answer regarding the scope of honest services fraud under §1346.
‘Honest Services’ Mail Fraud
Honest services mail and wire fraud has had a tortured history. In the 1970s and 1980s, federal prosecutors were allowed to extend the mail and wire fraud statutes to “schemes to defraud … designed to deprive individuals, the people, or the government of intangible rights, such as the right to have public officials perform their duties honestly.” See McNally v. United States, 483 U.S. 350, 358 (1987). With few exceptions,[2] the prosecutions received little resistance from the courts until McNally, when the Supreme Court soundly rejected the “honest services” theory.
In McNally, the Court overturned the convictions of a Kentucky public official and a private individual who had participated in a patronage scheme. While acknowledging that the defendants may have deprived citizens of Kentucky of “certain ‘intangible rights,’ such as the right to have [Kentucky’s] affairs conducted honestly,” the Court employed the rule of lenity, adopted the less “harsh” interpretation of the mail fraud statute, and held that it was “limited in scope” to the protection of property rights, and did not encompass schemes to defraud citizens of their intangible rights of honest services and impartial government.[3]
The demise of the “honest services” theory, however, was short lived. In November 1988, Congress effectively overruled McNally by enacting §1346, in large part to ensure that mail and wire would again reach the deprivation of citizen’s rights to the honest services of their public officials.[4] The so-called honest services statute provides:
For the purposes of this chapter [i.e., the mail and wire fraud statutes], the term “scheme or artifice to defraud” includes a scheme or artifice to deprive another of the intangible right of honest services.
18 U.S.C. §1346.
This seemingly straightforward, 28-word statute has caused fits for the courts and the defense bar since its enactment. What, after all, is the “intangible right of honest services”?[5] What “honest services” are owed, and by whom? How are such “honest services” breached? This spring, the Second Circuit addressed certain of these questions in Handakas and Rybicki, perhaps the two most significant honest services cases in the Second Circuit since §1346 was enacted 14 years ago.
The ‘Handakas’ Decision
In Handakas, in a 2-1 decision, the Second Circuit held – for the first time anywhere – that §1346 was unconstitutionally vague as applied. Handakas had been convicted of a variety of offenses, including mail fraud, for depriving the New York City School Construction Authority (SCA) of its “intangible right to honest services” in connection with general construction contracts that his company had been awarded by the SCA.
As the Second Circuit explained, in performing the contracts, Handakas was required under state law to certify that the “prevailing rate of wages” were paid to project employees.[6] Suffice to say, Handakas failed to pay the prevailing rate of wages and submitted false payroll records that hid that fact from the SCA.[7] While the prosecution also alleged that Handakas had defrauded the SCA of money and property, the jury found that Handakas had committed mail fraud only through the deprivation of honest services owed to the SCA. On appeal, Handakas argued, among other things, that §1346 was unconstitutionally vague.
Under settled law, for §1346 to be unconstitutionally vague, the court needed to determine that: (1) the statute did not give a person of ordinary intelligence a reasonable opportunity to know what conduct was prohibited; and (2) the statute did not provide explicit standards for those who apply it.[8]
With respect to the first question, the Second Circuit noted that “[t]he plain meaning of ‘honest services’ in the text of § 1346 simply provides no clue to the public or the courts as to what conduct is prohibited under the statute.”[9] The panel cited with approval the view that the phrase “honest services” is inherently undefined and ambiguous, and that no person should be subject to criminal prosecution based upon a statute whose meaning can only be discerned through the “lawyer-like task” of interpreting the conflicting case law on honest services, both before and after McNally.[10]
As a result, the court in Handakas concluded that, were it the first panel of the Second Circuit attempting to interpret the phrase “honest services” in §1346, it “would likely find that part of the statute so vague as to be unconstitutional on its face.”[11] Because two prior Second Circuit cases had considered honest services fraud under §1346, however, the Handakas court felt constrained to focus on the constitutionality of the statute as applied to the facts in the case before it.[12]
The court explained that its prior decisions affirming honest service fraud convictions under §1346 did not provide notice to Handakas that the deprivation of honest services stemming from a contractual relationship might violate that section, since those prior cases involved breaches of honest services that could constitute an action in tort, rather than contract.[13] The panel, framing the conduct before it as akin to the breach of the “garden-variety contractual duties usually collected under the rubric of ‘representations and warranties,’” concluded that Handakas could not have been on notice that such a breach could support a prosecution under §1346, even though he also violated state law, since neither the contractual nor the state law violation would support an action in tort.[14]
The court next turned to the question of whether §1346 provided “sufficiently explicit standards for those who apply it.”[15] After discussing a variety of issues, ranging from the federalization of local crimes and prosecutorial discretion, to the expansive nature of the honest services statute, the Second Circuit concluded that §1346 lacked discernible standards and thus failed the second prong of the vagueness inquiry.[16] Accordingly, the panel held that §1346 was unconstitutionally vague as applied to Handakas and reversed his honest services conviction.[17]
Handakas warrants particular attention for a number reasons. It is the first case ever to find §1346 unconstitutional; it reflects the Second Circuit’s overarching concerns on such unrelated issues as prosecutorial discretion, federalism and the unrestrained growth of the federal criminal law. But, such sweeping issues should not obscure the most immediate, direct impact of Handakas on future §1346 cases. As described above, the decision makes clear that breaches of honest services based solely on contractual obligations or state court laws and regulations that do not support actions in tort will not be sufficient under the statute. The scope of what conduct will support a §1346 conviction was addressed by the Second Circuit in Rybicki.
‘United States v. Rybicki’
Less than five weeks after Handakas, a different panel of the Second Circuit addressed yet another §1346 case. In United States v. Rybicki, the court acknowledged and expressly agreed with the holding of Handakas, but was untroubled in applying §1346 to the facts before it, since the conduct in Rybicki involved “the breach of a duty owed by an employee or agent to his employer or principal that was enforceable in an action at tort.”[18]
The Rybicki defendants, Staten Island personal injury lawyers who had passed money through intermediaries to insurance adjusters to arrange more favorable settlements for their clients, were convicted of various charges, including honest services mail fraud. In rejecting their claim that §1346 was unconstitutional as applied to them, the Second Circuit seized upon the tort vs. contract distinction referenced in Handakas, and made clear its view that the constitutional concerns articulated by Handakas did not apply to cases where the underlying “dishonest” acts constituted a tort.[19] The court also noted that the Rybicki defendants were “sophisticated attorneys” who had demonstrated a “consciousness of guilt,” thus suggesting that they were, in fact, on notice of the illegality of their actions.[20]
Significantly, however, the Rybicki court also struggled with the vagueness of “honest services,” conceding that, “because the statute does not define honest services, the potential reach of §1346 is virtually limitless.”[21] Like Handakas, the court expressed substantial concern over the need to avoid over-criminalization of private relationships, noting that not every breach of an employee’s fiduciary duty to his employer constitutes mail or wire fraud.[22] Given that a literal reading of the statute would seem to imply just that result, the Second Circuit set out to limit the reach of “honest services” fraud.
After considering various ways in which other Circuits have grappled with the vagueness of “honest services” prosecutions, the court concluded that §1346 should be limited by requiring that the scheme to defraud create “a foreseeable risk of economic or pecuniary harm to the victim,” that must be more than “de minimis.”[23] Thus, the Second Circuit explained that:
[t]he elements necessary to establish the offense of honest services fraud pursuant to 18 U.S.C. § 1346 are: (1) a scheme or artifice to defraud; (2) for the purpose of depriving another of the intangible right of honest services; (3) where it is reasonably foreseeable that the scheme could cause some economic or pecuniary harm to the victim that is more than de minimis; and (4) use of the mails or wires in furtherance of the scheme.[24]
Review and Outlook
Handakas and Rybicki have limited the reach of honest service fraud prosecutions under §1346 in the Second Circuit to breaches of honest services that could support an action in tort, where it is reasonably foreseeable that the scheme to defraud the victim of these honest services could cause some economic or pecuniary harm to the victim that is more than de minimis. Excluded from the reach of the statute are claims where the duty of honest services arises solely from contract obligations, where only intangible harm could reasonably be foreseen from the deprivation of the honest services, and where the only reasonably foreseeable economic harm was de minimis.
Despite these limitations, the reach of §1346 remains murky, and many of the vagueness concerns that were highlighted in Handakas remain unanswered.
In the first instance, it is somewhat ironic to suggest that those constitutional vagueness concerns are satisfied by assuming that a person of “ordinary intelligence” can master the “lawyer-like task” of determining whether the underlying duty of honest services was contractual or tort-based, and thus whether the conduct falls within or without the statute.
Moreover, as every first-year law student appreciates, the distinction between duties imposed by contract and by tort is malleable at best. If a contract breach deprives another of honest services, it is not hard to imagine that such conduct could be recast by an aggressive prosecutor as the basis for an action in tort. How such a prosecution will fare under the analysis of Handakas and Rybicki remains uncertain. Thus, the vagueness concerns inherent in the phrase “honest services” will continue to loom large in prosecutions under §1346.
The Rybicki court’s attempt to limit the section by adding, as an element, that it must be reasonably foreseeable that the victim could suffer economic harm that is more than de minimis, provides some degree of constraint on the reach of the statute, but appears to be without foundation in the statutory language or legislative history of §1346. Rybicki made clear that the lack of actual economic harm, or even the intent to cause economic harm, are insufficient defenses to a honest services fraud prosecution, and implied that reasonably foreseeable harm was broad enough to include the lost time value of money in not completing transactions as promptly as they might otherwise have been concluded.[25] It is unclear what conduct in the private sector could not be recast as satisfying this broad foreseeability test.
Perhaps the most readily identifiable class of cases that may be placed outside the reach of §1346 as a result of this new element are public corruption cases, where officials improperly benefit from their positions, but do so without reasonably exposing the state “victim” to economic harm. Of course, the fact that the honest services doctrine was initially developed to prohibit just such conduct suggests more, rather than less, confusion will follow as courts attempt to implement this new element.
Furthermore, the de minimis standard itself may raise vagueness concerns, as one’s view of what constitutes a “de minimis” harm may vary greatly depending on one’s perspective. While this standard may provide courts with some latitude to reject cases that are seen as improperly federalizing state civil law, it does little to provide notice to potential defendants about when their conduct will constitute a federal crime.
What seems reasonably clear, however, is that Handakas and Rybicki will not be the last word from the Second Circuit defining the contours of honest services fraud.
This article is reprinted with permission from the Monday, July 8, 2002 edition of the NEW YORK LAW JOURNAL. © 2002 NLP IP Company. All rights reserved. Further duplication without permission is prohibited. For information contact, American Lawyer Media, Reprint Department at 800-888-8300 x6111. #0070-07-02-0005 NEW YORK LAW JOURNAL MONDAY, JULY 8, 2002
(1) See, e.g., United States v. Margiotta, 688 F.2d 108, 117 (2d Cir. 1982) (Winter, J., dissenting) (objecting to the “limitless expansion of the mail fraud statute”); see also United States v. Martin, 195 F.3d 961, 966 (7th Cir. 1999) (”a century of interpretation of the [mail fraud] statute has failed to still the doubts of those who think it dangerously vague”).
(2) One of the few critics of the “intangible rights” theory was the Second Circuit’s Judge Ralph Winter. See Margiotta, 688 F.2d at 117.
(3) See McNally, 483 U.S. at 352, 360.
(4) See Handakas, 286 F.3d at 104-05.
(5) See, e.g., United States v. Brumley, 116 F.3d 728, 733 (5th Cir. 1977) (en banc) (noting that Congress has forced the courts “back on a course of defining ‘honest services’”).
(6) Handakas, 286 F.3d at 96; see also N.Y. Lab. Law §220 (providing that any person failing to pay the stipulated wage scale – i.e., the prevailing rate of wages – is guilty of a misdemeanor).
(7) Handakas, 286 F.3d at 96
(8) See Id. at 101 (”In short, the statute must give notice of the forbidden conduct and set boundaries to prosecutorial discretion.”); Rybicki, 287 F.3d at 263 (”a criminal statute is not impermissibly vague if it provides explicit standards for those who apply it and gives a person of ordinary intelligence a reasonable opportunity to know what conduct is prohibited.”).
(9) Handakas, 286 F.3d at 104.
(10) Id. at 104-5.
(11) Id. at 104.
(12) See United States v. Sancho, 157 F.3d 918, 921 (2d Cir. 1998) (per curiam) (upholding §1346 conviction where the deprivation of “honest services” was based on the breach of a duty to disclose a bribe to the intended victim); United States v. Middlemiss, 217 F.3d 112 (2d Cir. 2000) (upholding §1346 conviction where the deprivation of “honest services” was based on the breach of a defendant-employee’s duty to act in the best interests of the victim-employer).
(13) Handakas, 286 F.3d at 106.
(14) Id. at 106-7.
(15) Id. at 107.
(16) Id. at 109-10.
(17) Unlike the first prong of the vagueness inquiry, which varies by defendant and conduct at issue, this holding rests squarely on the statutory language and thus should apply with equal force to each and every future §1346 case. See id. at 101, 107-10.
(18) Rybicki, 287 F.3d at 263-64.
(19) Id. at 264.
(20) Id.
(21) Id.
(22) Id. (citations omitted)
(23) Id. at 265.
(24) Id. at 266.
(25) Id.
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