Court Opinion

ID: 2996710
Source: CourtListenerOpinion
Date Created: 2015-09-24 19:30:53.932864+00
Date Added: 2024-06-11T09:01:06.060443
License: Public Domain

In the
 United States Court of Appeals
              For the Seventh Circuit
                       ____________

No. 02-3166
UNITED STATES   OF AMERICA,
                                          Plaintiff-Appellee,
                             v.

JOSEPH D. CASTELLANO,
                                       Defendant-Appellant.
                       ____________
           Appeal from the United States District Court
               for the Southern District of Illinois.
     No. 3:01CR30073-001 DRH—David R. Herndon, Judge.
                       ____________
 ARGUED OCTOBER 31, 2003—DECIDED NOVEMBER 17, 2003
                    ____________

 Before POSNER, EASTERBROOK, and EVANS, Circuit
Judges.
  EASTERBROOK, Circuit Judge. Joseph Castellano and his
son Monte managed The Joseph Daniel Company, which
built single-family homes. Customers financed this work
with bridge loans from Old Exchange National Bank of
Okawville, Illinois. To attract business, the firm offered low
prices—too low, it turns out, to cover the cost of construc-
tion. Losing money on every sale while trying to make it up
on volume is a formula for disaster—and an invitation to
fraud. The Bank agreed to disburse the construction loans
in thirds: the first when the buyer signed the contract, the
second when the buyer certified that the house had been
made weather-tight, and the third when the buyer certified
2                                              No. 02-3166

that construction had been finished to his satisfaction. The
Castellanos persuaded their customers to allow them to
certify these milestones on their behalf. Joseph and Monte
began to make these certifications prematurely, using new
customers’ funds to finish older projects. Insolvency was
inevitable. By the time even accelerated draws could no
longer pay the bills, the business was about $2 million
under water—leaving buyers with loan obligations but no
houses, the Bank with little security for its advances, and
unpaid subcontractors holding liens against unfinished
houses. The Bank paid the subcontractors to complete
houses already under way and told the buyers of houses
that had not been started that they need not repay the
loans. And federal prosecutors charged Joseph, Monte, and
their company with wire fraud, see 18 U.S.C. §1343. All
three defendants pleaded guilty.
   Joseph, alone among the three, has appealed, and his
appeal is limited to calculation of his 97-month sentence.
His initial argument is that, because the Bank made the
borrowers whole, the scheme did not inflict any loss for
purposes of the Sentencing Guidelines. As he sees things,
the buyers were the intended victims, and they emerged
unscathed. There are two problems with this contention.
First, the lender was as much a victim as the borrowers; the
Bank contracted for security (the houses in progress) that
it did not get. Second, a collateral source of recovery does
not eliminate but just shifts the loss. If the buyers had
purchased insurance to protect themselves from fraud, their
receipt of indemnity would not have absolved the wrongdo-
ers.
  Next comes an argument that the district court should not
have added two levels under U.S.S.G. §3B1.3 for abusing a
position of trust. Castellano contends that he and the firm
engaged in arms’-length commercial dealings with the Bank
and their customers. That is indeed how the dealings began,
but Joseph and Monte persuaded their customers (and the
No. 02-3166                                                  3

Bank) to let them make accurate certifications when
drawing loan proceeds. Having obtained (by contract) the
right to act on behalf of the customers when certifying
construction milestones, the Castellanos had an obligation
to use that power on behalf of these customers. Application
Note 1 to §3B1.3 says that a position of trust is “a position
of public or private trust characterized by professional or
managerial discretion”. That’s a good description of the
authority that the customers conferred on the Castellanos;
and instead of exercising professional discretion to deter-
mine when the milestones had been met, they abused the
trust reposed in them. See United States v. Frykholm, 267
F.3d 604, 612-13 (7th Cir. 2001).
  A third contention is that the restitution is excessive. To
the extent this rests on a belief that only the borrowers
were injured, and that the Bank’s losses are consequential
damages that may not be included in restitution awards, it
is wrong for the same reason the challenge to the loss
calculation is incorrect. Joseph also contends that about
$26,000 of the restitution award comes from double count-
ing (requiring restitution to both the customer and the
Bank for the same loss), consequential injury—which is not
appropriate in criminal restitution, see United States v.
Behrman, 235 F.3d 1049 (7th Cir. 2000); United States v.
Marlatt, 24 F.3d 1005 (7th Cir. 1994)—or items unrelated
to the crime. Joseph’s brief goes into detail. It observes, for
example, that the district court ordered him to pay $1,850
in restitution to Kim and Sheila Harper, whose home was
completed as promised but who decided after moving in that
they wanted additional features, such as plumbing for a bar
in the dining room. How the cost of features beyond those
called for by the construction contract could be part of
restitution is hard to understand. The prosecutor’s re-
sponse, contained in a single paragraph, offers no detail and
essentially invites us to scour the record unaided. That is
not the appropriate relation between advocates and the
4                                                No. 02-3166

judiciary. Joseph’s argument in this respect stands unan-
swered, and the amounts contested at pages 42-47 of his
brief concerning individual customers must be removed
from the award.
  Last, and most significant, is Joseph’s contention that the
district court erred in adding four levels to his offense score
under U.S.S.G. §2F1.1(b)(7)(B) on the ground that the
offense “affected a financial institution and the defendant
derived more than $1,000,000 in gross receipts from the
offense”. (By the parties’ agreement, sentencing was con-
ducted under the 1998 version of the Guidelines Manual.
Since then, the provision has been moved to U.S.S.G.
§2B1.1(b)(12)(A) and the addition has been reduced to two
levels, but Joseph has not sought to take advantage of the
change, for doing so would require application of the whole
2001 manual, including other alterations unfavorable to
him.) These four levels came on top of the 12 levels added,
per the 1998 version of §2F1.1(b) (1)(M), for causing a loss
between $1.5 million and $2.5 million, and account for the
fact that substantial injuries suffered by financial institu-
tions may have reverberations, such as losses to the federal
deposit-insurance funds. Application Note 18 to the 1998
version of §2F1.1 reads:
    “The defendant derived more than $1,000,000
    in gross receipts from the offense,” as used in sub-
    section (b)(7)(B), generally means that the gross
    receipts to the defendant individually, rather than
    to all participants, exceeded $1,000,000. “Gross
    receipts from the offense” includes all property, real
    or personal, tangible or intangible, which is ob-
    tained directly or indirectly as a result of such
    offense. See 18 U.S.C. § 982(a)(4).
Everything that Joseph Daniel Company obtained from the
Bank as a result of the premature certifications counts as
“gross receipts”; but did Joseph obtain $1 million of receipts
No. 02-3166                                                   5

“individually”? The money entered the corporation’s coffers,
not Joseph’s pocket, and most was distributed to pay the
expenses of construction. Less than $200,000 reached
Joseph as salary or reimbursement of his expenses. None of
the money redounded to his benefit indirectly through the
corporation’s securities—not only because the stock was
worthless, but also because Monte owned all of it. Cf.
United States v. Bennett, 161 F.3d 181 (3d Cir. 1998). What
the district judge said—and what the United States echoes
in its appellate brief—is that all of the corporation’s receipts
must be attributed to Joseph because he founded the
business and was its principal manager. In the judge’s
language: “Monte answered to him. He made the decisions.
He was the business. . . . The business was him.” In other
words, the judge thought, corporate formalities should be
disregarded for closely held firms, or at least for those
whose operations are dominated by one person.
  This approach assumes that federal common law de-
termines when the revenues of a corporation are imputed to
a manager or investor. Nothing in the Sentencing Guide-
lines specifies what it means to receive proceeds “individu-
ally,” and the prosecutor does not rely on any state or
federal statute, so the appeal must be to common law. Yet
why should federal common law determine the relation
among a corporation and its managers, employees, or in-
vestors? It is unlikely that the United States would contend
that all of the corporation’s receipts count as taxable income
to Joseph, see 26 U.S.C. §61; even closely held corporations,
unless organized under Subchapter S, are treated as
distinct entities that must pay their own taxes, and their
revenues are treated as personal income only to the extent
distributed via salary or dividends. Unless some federal
statute or regulation addresses the subject, the relation
among corporations, managers, and investors is governed
by state corporate law even when the claim rests on federal
6                                                No. 02-3166

law. See, e.g., Atherton v. FDIC, 519 U.S. 213 (1997). And
when federal law “applies” in the sense that some term in
a federal statute or rule requires interpretation—as the
term “individually” must be construed here— the norm is to
borrow from state corporate or agency law unless override
is essential to achieve federal objectives. See, e.g.,
Clackamas Gastroenterology Associates, P.C. v. Wells, 123
S. Ct. 1673 (2003); Burlington Industries, Inc. v. Ellerth,
524 U.S. 742 (1998). Thus a closely held corporation may be
an “enterprise” for purposes of RICO, and a manager who
pulls its strings through a pattern of racketeering may be
convicted under that statute. See Cedric Kushner Promo-
tions, Ltd. v. King, 533 U.S 158 (2001). A corporation with
sufficient substance to serve as a RICO “enterprise” also has
sufficient substance to hold receipts for purposes of the
Guidelines. This also means that a top manager’s ability to
control the corporation is not enough to treat the corpora-
tion and the manager as a single entity; if that were so,
Cedric Kushner Enterprises would have come out the other
way (for no one doubts that Don King exercises absolute
control over his boxing promotions).
  States have developed substantial bodies of law address-
ing the question whether corporate receipts (or corporate
debts) may be imputed to investors or managers. These
principles, which go under the rubric “piercing the corporate
veil,” are presumptively applicable when a question of
attribution arises under federal law—as it may in tax,
pension, labor, securities, and bankruptcy proceedings,
among other fields. See, e.g., Central States Pension Fund
v. Art Pape Transfer, Inc., 79 F.3d 651 (7th Cir. 1996); In re
Deist Forest Products, Inc., 850 F.2d 340 (7th Cir. 1988);
Mayer v. Chesapeake Insurance Co., 877 F.2d 1154 (2d Cir.
1989). The prosecutor has not argued that state law must
be overridden in order to achieve any policy stated in, or
reasonably imputable to, the Sentencing Guidelines.
No. 02-3166                                                 7

Application Note 18 calls for receipts to be allocated; how
the proceeds are carved up among the three defendants
(Joseph, Monte, and the corporation) does not appear to be
vital to sentencing policy. It is enough that each dollar
count once. That the United States indicted the corporation
implies a belief that it had a separate legal existence; that
the judge accepted its plea of guilty shows that the district
court, too, treated it as an entity distinct from Joseph and
Monte. If federal law allows it to stand as an entity capable
of being indicted and convicted, Joseph Daniel Company
may in principle be treated as the entity that derived the
gross proceeds of the fraud.
  The Joseph Daniel Company was incorporated in Illinois
law, so that is the place to turn—not that the choice mat-
ters much, as most states follow the same approach. We
canvassed Illinois law in Sea-Land Services, Inc. v. Pepper
Source, 941 F.2d 519 (7th Cir. 1991), and concluded that the
corporate form may be disregarded only if it has been used
to deceive persons dealing with the business. That the
entrepreneur exercises autocratic control (something much
emphasized by the district judge) does not justify disregard-
ing the corporate form and equating the firm with its
manager. (Recall the discussion of Don King above.) The
Bank knew that it was dealing with a corporation, so there
was no deceit on that front. Perhaps, however, Joseph
formed the corporation, and used Monte as nominal owner,
in order to deceive or hide assets from someone else. At oral
argument the prosecutor contended that Joseph was trying
to secrete assets from his creditors in an earlier bankruptcy;
and if some debts passed through that bankruptcy undis-
charged and Joseph used the corporate form to avoid
payment, then Illinois law might look through the corporate
form to attribute the firm’s receipts and debts to Joseph
personally. Some of the district judge’s statements during
sentencing suggest that he thought that the corporate form
had been used to defraud creditors; but so much else of the
8                                               No. 02-3166

judge’s discussion suggests that he was relying simply on
the fact that it was a closely held corporation that it would
be imprudent to seize on these statements as a ground of
affirmance. The district judge ought to address this ques-
tion directly. As with other matters of characterization
accomplished by applying established law to particular
facts, appellate review is deferential; but first we must be
sure that the right body of legal principles has been con-
sulted.
  The judgment of the district court is vacated, and the case
is remanded for two purposes: first, to remove from the
restitution obligation the items we have mentioned; second,
to decide whether under Illinois veil-piercing principles
Joseph is personally accountable for the receipts and
obligations of Joseph Daniel Company.

A true Copy:
      Teste:

                        ________________________________
                        Clerk of the United States Court of
                          Appeals for the Seventh Circuit

                   USCA-02-C-0072—11-17-03