Document ID: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-ca9-14-30034/USCOURTS-ca9-14-30034-0/pdf.json

Parties Involved:
Elaine Martin
Appellant
United States of America
Appellee

Document Text:

FOR PUBLICATION

UNITED STATES COURT OF APPEALS

FOR THE NINTH CIRCUIT

UNITED STATES OF AMERICA,

Plaintiff-Appellee,

v.

ELAINE MARTIN,

Defendant-Appellant.

No. 14-30034

D.C. No.

1:13-cr-00065-

BLW-1

OPINION

Appeal from the United States District Court

for the District of Idaho

B. Lynn Winmill, Chief District Judge, Presiding

Argued and Submitted

May 5, 2015—Seattle, Washington

Filed August 7, 2015

Before: Ronald M. Gould and Morgan Christen, Circuit

Judges, and Frederic Block,* Senior District Judge.

Opinion by Judge Gould

* The Honorable Frederic Block, Senior District Judge for the U.S.

District Court for the Eastern District of New York, sitting by designation.

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2 UNITED STATES V. MARTIN

SUMMARY**

Criminal Law

The panel vacated the defendant’s convictions for

subscribing false federal tax returns, vacated her sentence for

those convictions and fraud-related convictions, and

remanded for further proceedings.

The panel held that the district court abused its discretion

by admitting evidence about the defendant’s audits by Idaho

state tax authorities. The panel explained that the evidence

was not relevant on the federal tax claims and should have

been excluded under Fed. R. Evid. 404(b), and even if

relevant, was unduly prejudicial and not admissible under

Fed. R. Evid. 403. The panel held that the error was not

harmless as to the defendant’s convictions for subscribing

false tax returns but was harmless as to her fraud and

obstruction of justice convictions. 

The panel addressed how the district court at sentencing

should have calculated loss resulting from the defendant’s

fraud, where the defendant’s company was awarded

government contracts under programs meant to aid

disadvantaged businesses, forwhich the defendant’s company

did not legitimately qualify. The panel held that neither the

“government benefits” rule of application note 3(F)(ii) to

U.S.S.G. § 2B1.1, nor the “regulatory approval” rule of

application note 3(F)(v), applies, and held that the

procurement fraud rule of application note 3(A)(v)(II)

** This summary constitutes no part of the opinion of the court. It has

been prepared by court staff for the convenience of the reader.

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UNITED STATES V. MARTIN 3

applies. The panel rejected the defendant’s contention that

because the defendant’s company performed the contracts,

the loss amount is nothing. The panel remanded on an open

record to let both the government and the defendant submit

further evidence and argument on the loss amount. The panel

wrote that on remand, the government may attempt to prove

any actual or intended losses resulting from the defendant’s

fraud, including whether there was any pecuniary harm to the

government from paying a premium on top of the normal

contract price for services comparable to those the

defendant’s company provided.

The panel affirmed the defendant’s fraud-related

convictions in a concurrently filed memorandum disposition.

COUNSEL

Andrew G. McBride (argued), Brett A. Shumate, and John R.

Prairie, Wiley Rein LLP, Washington, D.C., for DefendantAppellant.

Frank P. Cihlar, Chief, Criminal Appeals & Tax Enforcement

Policy Section, Gregory Victor Davis and Alexander P.

Robbins (argued), Attorneys, Tax Division, United States

Department of Justice, Washington, D.C., for PlaintiffAppellee.

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4 UNITED STATES V. MARTIN

OPINION

GOULD, Circuit Judge:

Elaine Martin appeals her convictions for subscribing

false federal tax returns and her sentence for those

convictions and several fraud-related convictions.1 First, we

address Martin’s contention that the district court abused its

discretion in admitting evidence that, years before the

conduct underlying this case, she had submitted Idaho state

tax returns on which she improperly characterized several

thousand dollars in personal expenses as deductible farm

expenses and had been audited by Idaho tax authorities. 

Second, we address whether the district court misapplied the

Sentencing Guidelines in calculating the losses that resulted

from Martin’s fraud, where her company was awarded

government contracts under programs meant to aid

disadvantaged businesses, for which Martin’s company did

not legitimately qualify. We have jurisdiction under

28 U.S.C. § 1291. For the reasons that follow, we vacate

Martin’s tax convictions, vacate her sentence, and remand for

further proceedings.

I

Martin owned a construction company, MarCon, which

specialized in installing steel guardrails and concrete barriers

on public highways. MarCon also earned revenue by selling

used materials the company removed from its construction

1

In a concurrently filed memorandum disposition, we affirm Martin’s

fraud-related convictions, including those that underlie the loss

calculations discussed below, in the face of evidentiary and due process

challenges.

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UNITED STATES V. MARTIN 5

sites. But Martin never reported the income from the used

material sales to the IRS, and instead kept it off the company

books and sent it to a bank account hidden from her external

accountants.2 By keeping several hundred thousand dollars

of this income off of her personal and company tax returns

between 2002 and 2008, Martin avoided paying about

$100,000 in income taxes.

Martin also fraudulently obtained government contracts

by misrepresenting her assets to qualify for programs

designed to aid disadvantaged businesses. A federal program

run by the Small Business Administration (“SBA”) qualifies

small businesses owned by socially and economically

disadvantaged persons for certain federal contracts without

going through the normal competitive bidding process. 

Martin also obtained contracts through a state-administered

Disadvantaged Business Enterprise (“DBE”) program, which

sets targets for awarding a percentage of federally-funded

contracts to participants. Between 1999 and 2006, MarCon

received nearly $20 million from 85 contracts awarded

through the DBE program, and successfully performed each

contract. MarCon was admitted to the SBA program and

awarded three contracts worth nearly $3 million, all of which

the company successfully performed.

To prove that Martin knew she had a duty to truthfully

report her income on her tax returns, the government was

allowed to introduce evidence that Idaho tax authorities had

audited Martin and that in tax years 1996 and 1997 she had

improperly claimed less than $3,000 as deductible farm

expenses on her state tax returns. Martin was accused of

2 The facts about Martin’s tax convictions are drawn from the district

court’s findings of facts in a forfeiture order.

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6 UNITED STATES V. MARTIN

incorrectly characterizing student loan payments for her

children and expenses related to her divorce as farm

expenses. Martin settled the issue without conceding liability.

During closing arguments, the government reminded the

jury in its rebuttal of the Idaho audits and argued that Martin

knew what she was doing when she subscribed false tax

returns because she had tried it before:

The government is focused obviously on the

used materials, but the same thing was

brought up and Elaine Martin agreed it was

wrong . . . when she tried to charge various

things as a farm expense. Things like her

divorce fees. Things like her children’s health

insurance and payment of student loans. 

Remember that. Remember how you were

told that she tried this before. That she tried

to say those were farm expenses. Now a farm

needs fertilizer, it needs seed, it needs

equipment, but does it really need to pay for

student loans? Well, in Elaine Martin’s book

it does.

The jury convicted Martin of the tax counts and of several

fraud-based counts.

At sentencing, Martin, relying on the “procurement fraud

rule” found in application note 3(A)(v)(II) of § 2B1.1 of the

Sentencing Guidelines, argued for a loss amount of zero. 

Relying on the “government benefits rule” found in

application note 3(F)(ii), the government advocated for a loss

amount equal to the total value of the contracts—about $22

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UNITED STATES V. MARTIN 7

million—and the resulting 22-level enhancement that loss

amount permitted.

The district court held that the government benefits rule

applied. It disagreed, however, that the loss under that rule

was $22 million and instead set the loss amount at $3 million,

the profit from Martin’s fraudulently obtained contracts. 

Acknowledging that its focus on profit was possibly

erroneous, it invoked application note 20(C) and found that

a higher loss amount would “overstate the actual loss.”

The district court’s loss calculation led to an 18-level

enhancement. With a base offense level of 7 and additional

enhancements for defendant’s role and sophisticated means,

the adjusted offense level was 31, for which the Guidelines

range for someone in criminal history category I is 108 to 135

months. The district court imposed a sentence of 84 months.

The district court also entered an order of forfeiture,

pursuant to the parties’ stipulation, requiring Martin to forfeit

over $3 million.

Martin timely appealed her convictions and sentence.

II

We review a district court’s evidentiary decisions for an

abuse of discretion. United States v. McFall, 558 F.3d 951,

960 (9th Cir. 2009). Even if an evidentiary ruling was

incorrect, we will vacate a conviction only if that ruling

“more likely than not affected the verdict.” United States v.

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8 UNITED STATES V. MARTIN

Pang, 362 F.3d 1187, 1192 (9th Cir. 2004) (internal quotation

marks and citation omitted).3

The district court’s interpretation of the sentencing

Guidelines is reviewed de novo. United States v. Treadwell,

593 F.3d 990, 999 (9th Cir. 2010).

III

We first address Martin’s argument that the district court

abused its discretion by admitting evidence about her audits

by Idaho state tax authorities. We agree and conclude that the

error was not harmless. As a result of this substantial error,

we vacate Martin’s convictions for subscribing false tax

returns.

Federal Rule of Evidence 404(b) “provides that evidence

of ‘other crimes, wrongs, or acts’ is inadmissible to prove

character or criminal propensity but is admissible for other

purposes, such as proof of intent, plan or knowledge.” United

States v. Rizk, 660 F.3d 1125, 1131 (9th Cir. 2011) (quoting

Fed. R. Evid. 404(b)).

3 We reject the government’s contention that the evidentiary rulings

should be reviewed for plain error. When testimony about the state tax

returns was introduced, Martin objected, noting when the conduct

occurred and arguing that it was irrelevant. At sidebar, the government

argued that the evidence was admissible under Federal Rule of Evidence

404(b). Martin argued that the evidence was forbidden character evidence

and was too remote in time to go toward Martin’s state of mind. The

district court overruled the objection, reasoning that the evidence was

relevant to proving Martin’s state of mind. The district court was on

notice of Martin’s concerns and gave reasons for its rulings. Cf. United

States v. Palmer, 3 F.3d 300, 304 (9th Cir. 1993) (“[W]here the substance

of an objection has been thoroughly explored and the trial court’s ruling

was explicit and definitive, the issue is preserved for appeal.”).

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UNITED STATES V. MARTIN 9

This general rule reflects our concern that a person

charged with a crime be convicted only if its elements are

proved beyond a reasonable doubt. A person should not be

convicted merely because he or she has done prior bad acts. 

Rule 404(b) will not be violated if the prior bad acts are

relevant on some issue in the current prosecution, such as

“motive, opportunity, intent, preparation, plan, knowledge,

identity, absence of mistake, or lack of accident.” Fed. R.

Evid. 404(b). But when bad acts are not relevant, they can

only be viewed as being presented to inflame prejudice in the

trier of fact, in which case they are at odds with our

fundamental premises on the need for a fair trial. And even

when relevant on some issue, evidence of prior bad acts

should not, under Federal Rule of Evidence 403, be admitted

when its “probative value is substantially outweighed by

dangers of unfair prejudice, confusion on issues, waste of

time, or needlessly presenting cumulative evidence.” Fed. R.

Evid. 403.

In United States v. Bailey, 696 F.3d 794 (9th Cir. 2012),

the government, prosecuting a defendant for the sale of

unregistered securities, introduced an SEC civil complaint

alleging that the defendant had previously issued securities in

violation of the same SEC rules as those at issue in the

criminal trial. We held that the admission of the complaint

was an abuse of discretion that required a new trial. Id. at

800–05. We outlined the four part test for admitting evidence

under Rule 404(b): the government must show that “(1) the

evidence tends to prove a material point; (2) the other act is

not too remote in time; (3) the evidence is sufficient to

support a finding that defendant committed the other act; and

(4) (in certain cases) the act is similar to the offense charged.” 

Id. at 799 (quotations omitted). “If the evidence meets this

test under Rule 404(b), the court must then decide whether

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10 UNITED STATES V. MARTIN

the probative value is substantially outweighed by the

prejudicial impact under Rule 403.” Id. (quotation omitted).

Under these standards, admitting evidence of the prior

state tax audit for a prosecution of federal tax violations was

serious error. Here, the state tax auditors described their

investigation and the settlement agreement that Martin had

signed, providing more information than merely the civil

complaint introduced in Bailey. But this is a distinction that

makes no substantive difference. The government introduced

evidence that Martin was accused of incorrectly deducting

farm expenses on a state tax form in 1996 and 1997,

apparently to show her knowledge of federal tax laws related

to reporting income in the mid-2000s. But we can perceive

no relevant connection between Martin’s awareness of rules

about the characterization of farm expenses under Idaho tax

law, and whether she had knowledge of federal tax law

governing the reporting of income. Moreover, there is a

substantial probability that the jury took this evidence as

proof that Martin is a liar who does not want to pay taxes and

will cheat to avoid them—a theme the government

emphasized at closing, and a line of thinking the evidence

rules are meant to discourage. The government has failed to

meet its burden under our normal four-part test for admitting

evidence under Rule 404(b). Also, even if relevant,

introducing this evidence fails the Rule 403 balancing test.

The government argues that unlike the securities violation

in Bailey, the government in criminal tax cases must prove

that the defendant knew the tax laws, and that extending

Bailey to prohibit evidence of prior audits in criminal tax

cases would impair the government’s ability circumstantially

to prove a defendant’s knowledge of the tax laws. We

disagree. When the government seeks to admit evidence of

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UNITED STATES V. MARTIN 11

a defendant’s knowledge, we have “emphasized that the

government must prove a logical connection between the

knowledge gained as a result of the commission of the prior

act and the knowledge at issue in the charged act.” United

States v. Mayans, 17 F.3d 1174, 1181–82 (9th Cir. 1994). 

Mayansinstructs that in cases such as this one, the materiality

and similarity prongs of the four-part test merge essentially

into one: “similarity is necessary to indicate knowledge and

intent because it can furnish the link between knowledge

gained in the prior act and the claimed ignorance of some fact

in the offense charged.” Id. at 1182 (internal quotation marks

omitted).

Evidence of an audit by, or settlement with, state

authorities for unrelated conduct is only minimally—if at

all—probative of Martin’s knowledge of the federal tax laws

at issue in this case, and there is “an insufficient connection,

for Rule 404(b) purposes, between [the prior audit] and the

knowledge, in the context of the crime charged,” of federal

tax laws governing the reporting of income. Id.

To show that the admission of the evidence here was not

an abuse of discretion, the government cites several criminal

tax cases where evidence of prior encounters with tax

officials was used. But all of the cases the government cites

involve prior run-ins with the IRS, not state authorities. See

United States v. Jackson, 565 Fed. App’x 662, 662 (9th Cir.

2014) (evidence that defendant continued filing false returns

after IRS instructed him that his conduct was illegal used to

show willfulness); United States v. Matthies, 319 Fed. App’x

554, 557 (9th Cir. 2009) (introduction of IRS publication

related to tax protestor arguments used to show defendant

was on notice of legal duty to pay income taxes); United

States v. Voorhies, 658 F.2d 710, 715 (9th Cir. 1981)

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12 UNITED STATES V. MARTIN

(evidence that defendant was put on notice of tentative tax

deficiencies by IRS audit used to prove willfulness when

defendant moved assets overseas the next year). None

suggests that learning about obligations related to claiming

personal expense deductions for state tax purposes shows

knowledge of federal tax laws barring the under-reporting of

income. We conclude that the state tax audit evidence was

not relevant on the federal tax claims and so should have been

excluded under Rule 404(b). But even if relevant, it was

unduly prejudicial and not admissible under Rule 403. The

government in substance told the jury that Martin had lied on

her taxes before and should be convicted of doing so

again—an argument not supported by the facts and barred

under the rules of evidence.

Was this mistake harmful or harmless? The evidence

about the audit was introduced through the testimony of two

witnesses and several documents and the government

emphasized its importance in closing. Rather than merely

arguing that the evidence showed Martin’s knowledge of

federal tax laws, the government also insinuated,

impermissibly, that it showed Martin to be a dishonest

person: “[D]oes [a farm] really need to pay for student loans?

Well, in Elaine Martin’s book it does.” Cf. United States v.

Brooke, 4 F.3d 1480, 1488 (9th Cir. 1993) (stating that

evidentiary ruling was not harmless in light of the volume of

testimony and references to it in the government’s closing

argument). The government was permitted to argue at

closing that Martin knew what she was doing when she

under-reported her income because “she had been there

before,” and “she tried this before.” The government

incorrectly used the state audit to make a propensity argument

that more likely than not affected the verdict on the false tax

return charges. Cf. Bailey, 696 F.3d at 805 (noting

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UNITED STATES V. MARTIN 13

government’s numerous references to the prior SEC civil

complaint at closing); United States v. Brown, 880 F.2d 1012,

1016 (9th Cir. 1989) (stating that “continued references to

[defendant’s] prior bad acts at the Government’s closing

arguments make it impossible . . . to say” the error was

harmless).4 Martin’s convictions for subscribing false tax

returns must be vacated.

Considering the totality of the circumstances, however,

we reach a different conclusion on the fraud and obstruction

of justice convictions. There are several reasons for this. 

First, except for a brief reminder that income and net worth

matter with regard to the DBE and SBA programs at the close

of the discussion of the Idaho audit, the government’s

remarks at closing about the audit related only to the charges

of subscribing false tax returns. Second, this propensity

evidence likely affected the jury’s decision differently on the

tax charges than on the other charges. If jurors think that a

person cheats on state taxes, they are likelier to infer that such

a person cheats on federal taxes than to infer that the person

is guilty of a more complex fraud scheme. Third, during a

trial that lasted twenty-seven days, there was overwhelming

evidence presented that Martin had fraudulently qualified her

business for the DBE and SBA programs and had obstructed

justice by concealing her true net worth. We see no realistic

possibility that a jury would have reached a different

conclusion on the fraud and obstruction charges if the state

audit had not been mentioned. We conclude that unlike

Martin’s tax convictions, it was not more likely than not that

4 The absence of a limiting instruction that the jury should only consider

the evidence for its tendency to show Martin’s knowledge, see Mayans,

17 F.3d at 1183–84, bolsters our conclusion that the error more likely than

not affected the verdict.

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14 UNITED STATES V. MARTIN

the evidence of the Idaho tax audit affected the jury’s

decision on Martin’s other charges.

Martin is entitled to a new trial on the tax charges, but not

on the other convictions.

IV

Because we vacate Martin’s tax convictions, we vacate

Martin’s sentence. See United States v. Bennett, 363 F.3d

947, 955 (9th Cir. 2004) (vacating defendant’s entire sentence

where one count of conviction was vacated). Martin must be

re-sentenced after liability on a potential re-trial for tax

violations is resolved. But because we affirm Martin’s fraud

convictions in a memorandum disposition, the issue of

calculating the losses from Martin’s fraud is certain to come

up again at re-sentencing, and any error by the district court

in interpreting the Guidelines may likely be repeated unless

we provide guidance here. Accordingly, we next address how

the district court should have calculated loss where MarCon

gave valuable construction services under the contracts that

it gained, but Martin defrauded the government into wrongly

concluding that MarCon was qualified to participate in the

DBE and SBA programs.

A district court must correctly calculate the Sentencing

Guidelines range before imposing a reasonable sentence. See

Gall v. United States, 552 U.S. 38, 51 (2007). The

“commentary in the Guidelines Manual that interprets or

explains a guideline is authoritative unless it . . . is

inconsistent with, or a plainly erroneous reading of, that

guideline.” Stinson v. United States, 508 U.S. 36, 38 (1993);

see also United States v. Jackson, 697 F.3d 1141, 1146 (9th

Cir. 2012) (per curiam).

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UNITED STATES V. MARTIN 15

As the general rule for fraud cases, the Guidelines define

loss as “pecuniary harm.” U.S.S.G. § 2B1.1 cmt. nn.3(A)(i,

ii). Pecuniary harm is “harm that is monetary or that

otherwise is readily measurable in money.” Id. cmt.

n.3(A)(iii). They further state that “[l]oss shall be reduced”

by “the fair market value of . . . the services rendered . . . by

the defendant . . . to the victim before the offense was

detected.” Id. cmt. n.3(E)(i). This is consistent with the idea

that fraud is not always the same as theft. Sometimes, the

scheme is to obtain a contract or other opportunity; the

scheme still amounts to fraud if a person gains by deceit

something to which the person was not entitled, “but [the

person] means to perform the contract (and is able to do so)

and to pocket, as the profit from the fraud, only the difference

between the contract price and [the person’s] costs.” United

States v. Schneider, 930 F.2d 555, 558 (7th Cir. 1991); see

also United States v. Kopp, 951 F.2d 521, 529 (3d Cir. 1991);

United States v. Smith, 951 F.2d 1164, 1167 (10th Cir. 1991).

Although the value of the contracts in this case is a matter

of record, the government does not argue that the United

States suffered that amount of “pecuniary harm.” It is

uncontested that MarCon successfully performed the

contracts. Rather, the government contends that one of the

“special rules” of loss calculation applies. It invokes the

“government benefits” rule of application note 3(F)(ii), which

the district court applied, and also invokes the “regulatory

approval rule” of application note 3(F)(v). See U.S.S.G.

§ 2B1.1 cmt. nn.3(F)(ii, v). These special rules apply

“[n]otwithstanding” the general rules of application note

3(A). Id. cmt. n.3(F). But in our view, neither special rule

applies.

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16 UNITED STATES V. MARTIN

The government benefits rule says that “[i]n a case

involving government benefits(e.g., grants, loans, entitlement

program payments), loss shall be considered to be not less

than the value of the benefits obtained by unintended

recipients or diverted to unintended uses, as the case may be.” 

Id. cmt. n.3(F)(ii). Several circuits have held that this rule

applies to DBE programs. See United States v. Maxwell,

579 F.3d 1282, 1306 (11th Cir. 2009) (citing United States v.

Leahy, 464 F.3d 773, 790 (7th Cir. 2006), and United States

v. Brothers Constr. Co. of Ohio, 219 F.3d 300, 317–18 (4th

Cir. 2000)).

Leahy reasons that the DBE program “was an affirmative

action program aimed at giving exclusive opportunities to

certain women and minority businesses. The contracts which

these businesses received pursuant to this type of program

constitute government benefits.” 464 F.3d at 70. “Unlike

standard construction contracts, these contracts focus mainly

on who is doing the work.” Maxwell, 579 F.3d at 1306.

We agree that an “exclusive opportunity” might be a

benefit in some sense, but the Guidelines’ focus on pecuniary

harm suggests a more concrete meaning. The examples

given—loans, grants, and entitlement program payments—

confirm that this comment deals with unilateral government

assistance, such as food stamps, not a fee-for-service business

deal. Had Martin been issued food stamps—an entitlement

program payment—due to her fraud, the government’s loss

would be the full value of the stamps. But here Martin

obtained contracts, albeit contracts reserved for a special class

of contractors of which Martin and her company were not

legitimately a part.

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UNITED STATES V. MARTIN 17

It is a “basic canon of statutory construction that when

general and specific words are associated . . . , then the

general words are construed to embrace things similar to

those enumerated by the specific words.” Hamilton v.

Madigan, 961 F.2d 838, 840 (9th Cir. 1992); see also Cal.

State Legislative Bd., United Transp. v. Dep’t of Transp.,

400 F.3d 760, 763 (9th Cir. 2005). Moreover, if there is any

lingering ambiguity as to whether a DBE program is a

“government benefit,” then the application note cannot apply. 

See United States v. Leal-Felix, 665 F.3d 1037, 1040 (9th Cir.

2011) (“If, after applying the normal rules of statutory

interpretation, the Sentencing Guideline is still ambiguous,

the rule of lenity requires us to interpret the Guideline in

favor of [the defendant].”).

Here, the government received significant value from the

contracts with Martin because MarCon fully performed. The

government has offered no persuasive reason to impose a rule

whereby the entire value of the contract would be deemed

losses for the government, with no credit given for the value

of the services returned. We conclude that the government

benefits rule does not apply.

We reach the same conclusion regarding the “regulatory

approval” rule, which provides:

In a case involving a scheme in which

(I) services were fraudulently rendered to the

victim by persons falsely posing as licensed

professionals; (II) goods were falsely

represented as approved by a governmental

regulatory agency; or (III) goods for which

regulatory approval by a government agency

was required but not obtained, or was

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18 UNITED STATES V. MARTIN

obtained by fraud, loss shall include the

amount paid for the property, services or

goods transf e rr ed, r ende r ed, or

misrepresented, with no credit for the value of

those items or services.

U.S.S.G. § 2B1.1 cmt. n.3(F)(v).

The Seventh Circuit has held that the use of fraud to

secure minority-business certification fits “squarely within

the scheme considered by Application Note 3(F)(v).” United

States v. Giovenco, 773 F.3d 866, 871 (7th Cir. 2014). While

the analogy is fairly arguable, we disagree with the Seventh

Circuit’s decision to apply that rule. Martin did not falsely

pose as a licensed professional or supply goods without

obtaining required regulatory approval. Here, too, the rule of

lenity counsels against an expansive interpretation of the

application note, particularly where, as discussed below,

another application note is a closer fit to these circumstances.

We agree with Martin that fraudulently obtaining

contracts for disadvantaged businesses falls under the

procurement fraud rule, which says:

In the case of a procurement fraud, such as a

fraud affecting a defense contract award,

reasonably foreseeable pecuniary harm

includes the reasonably foreseeable

administrative costs to the government and

other participants of repeating or correct [sic]

the procurement action affected, plus any

increased costs to procure the product or

service involved that was reasonably

foreseeable.

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UNITED STATES V. MARTIN 19

U.S.S.G. § 2B1.1 cmt. n.3(A)(v)(II). The application note’s

example of “fraud affecting a defense contract award” is a

close fit for the circumstances here. Moreover, the

procurement fraud’s rule placement within application note

3(A), rather than in note 3(F) with the special rules, indicates

that procurement fraud cases fall under the general rule for

calculating actual and intended loss. We have said that

district courts should “take a realistic, economic approach to

determine what losses the defendant truly caused or intended

to cause, rather than the use of some approach which does not

reflect the monetary loss.” United States v. Crandall, 525

F.3d 907, 912 (9th Cir. 2005) (quotations omitted). We have

also said that “district courts should give credit for any

legitimate services rendered to the victims.” United States v.

Blitz, 151 F.3d 1002, 1012 (9th Cir. 1998). Applying the

general rule in this and similar cases lets district courts do just

that. Applying the special rules, which apply notwithstanding

application note 3(A), would not. By fully performing all of

the contracts, Martin gave the government considerable

value. It would be unjust to set the loss resulting from her

fraud as the entire value of the contracts, as the district court

itself recognized.

Having decided that the procurement fraud rule, which

falls within the general rule for loss calculation, applies, we

also reject Martin’s contention that the loss amount is nothing

because MarCon performed the contracts. The government

concedes that the procurement fraud rule’s reference to

administrative costs is inapplicable because there were no

such costs in this case. But neither that nor MarCon’s

performing the contracts necessarily means that there was no

pecuniary harm to the government. The DBE and SBA

programs are designed to benefit disadvantaged businesses. 

It is conceivable that the government paid a premium contract

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20 UNITED STATES V. MARTIN

price above what it would pay for other contracts under

normal competitive bidding procedures. Any such difference

would be an actual loss resulting from Martin’s fraud. There

was some evidence at trial suggesting that prices paid on

DBE and SBA contracts may be higher than those paid for

similar services outside those programs. But the government

did not show whether there was any such price difference for

the contracts awarded to MarCon, or what that difference

was. In these circumstances, it is in the interest of justice to

remand on an open record to let both the government and

Martin submit further evidence and argument on loss amount. 

On remand, the government may attempt to prove any actual

or intended losses resulting from Martin’s fraud, including

whether there was any pecuniary harm to the government

from paying a premium on top of the normal contract price

for services comparable to those MarCon provided.

If it is not feasible to determine the actual or intended

loss, district courts may use the defendant’s gain as another

way to measure the loss. See U.S.S.G. § 2B1.1 cmt. n.3(B)

(“The court shall use the gain that resulted from the offense

as an alternative measure of loss only if there is a loss but it

reasonably cannot be determined.”). In this case, the

government stated below that “the loss from Defendant

Martin’s fraud can be determined . . . .” This may be a

binding admission that precludes reliance on Martin’s gain as

an alternative measure for loss on remand. Or, in context, it

may have been premised on the applicability of the

government benefits rule, under which the total value of the

contracts awarded to MarCon—a known quantity—would be

the loss amount.

Because we conclude that the government benefits rule

does not apply, the district court should decide in the first

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UNITED STATES V. MARTIN 21

instance whether the government may use the gain rule as an

alternative measure for loss. The premium, if any, paid by

the government on the contracts in this case is presumably a

determinable amount. If that proves to be the case—and if

there is no other theory of loss for the district court to

consider—the gain rule would not apply.

Finally, there may be other, non-pecuniary losses to the

government insofar as Martin’s fraud harmed the integrity of

the programs, which were designed to help legitimately

disadvantaged businesses. There may also be harm,

pecuniary or otherwise, to legitimate program participants

whose businesses might have received the contracts that were

awarded to MarCon. The Guidelines themselves recognize

that “there may be cases in which the offense level

determined under [§ 2B1.1] substantially understates the

seriousness of the offense,” U.S.S.G. § 2B1.1 cmt. n.20(A),

and give as an example warranting an upward departure a

scheme that “caused or risked substantial non-monetary

harm,” id. cmt. n.20(A)(ii). Even without the authority to

depart, district courts have the ability to base an upward

variance on a broader concept of harm than the Guidelines

contemplate. Nothing in our ruling today is meant to limit

district courts’ discretion to depart or vary from the

Guidelines in appropriate cases, but a sentence must begin

with a proper calculation of the Guidelines sentencing range.

The district court misinterpreted the Guidelines and

applied the wrong rule. On remand, the losses resulting from

Martin’s fraud should be calculated under the general rules of

application note 3(A) of § 2B1.1 rather than under any of the

special rules of application note 3(F), and re-sentencing

should be on an open record to permit both the government

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22 UNITED STATES V. MARTIN

and Martin to submit evidence supporting their theories of

loss.5

V

We vacate Martin’s tax convictions and her entire

sentence, and remand for further action consistent with this

opinion.

VACATED and REMANDED.

5 Martin concedes that if we affirm her fraud convictions, as we do in the

concurrently filed memorandum disposition, then the district court’s

forfeiture order should remain in place.

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