Third Circuit Court of Appeals Upends “Intended Loss”

December 5, 2022By John W.M. Claud & Douglas B. Farquhar

Sentencing for defendants convicted in federal court of felony offenses that involve fraud, including violations of the Federal Food, Drug, and Cosmetic Act, may be dramatically reduced based on an opinion issued last week by a panel of the Third Circuit Court of Appeals.  The change in sentencing practices has the potential to reverberate in federal courts not only in the Third Circuit (which has responsibility for federal cases in Pennsylvania, Delaware, and New Jersey), but also elsewhere in the United States.  Consistent with Third Circuit practice, the written opinion in the case is marked, at the beginning, as “PRECEDENTIAL.”

In sentencing defendants in mail or wire fraud cases, judges rely on the fraud loss levels spelled out in Section 2B1.1 of the Federal Sentencing Guidelines.  The higher the amount of fraud, the more a defendant’s offense level increases, as does the possible sentence imposed.  But even defendants whose crimes do not cause actual loss, such as when the fraud was attempted but not actually effectuated, have faced long terms of incarceration, because sentencing judges have employed what they determine to be “intended loss” to set sentences.  Section 2B1.1’s Application Notes instruct that “loss” is the greater of realized loss or intended loss, and judges often have looked to the amount of attempted, if not realized, ill-gotten gains when calculating fraud loss and offense levels.

Section 2B1.1 is also applied in sentencing for offenses other than mail and wire fraud, including felony criminal violations of the prohibited acts in the FDCA.  For example, Section 2N2.1 is the primary applicable guideline for “Violations of Statutes and Regulations Dealing With Any Food, Drug, Biological Product, Device, Cosmetic, Agricultural Product, or Consumer Product.” It states that “[i]f the offense involved fraud, apply §2B1.1.”  Normally, convictions for felony violations of the FDCA require the government to prove that the offense was committed with intent to defraud or mislead, so judges often employ a fraud loss calculation under 2B1.1 when sentencing FDCA criminal cases.

Last week, an appellate panel of the Third Circuit, in United States v. Banks, ruled that the amount of intended but unsuccessful fraud was not a suitable basis to increase a defendant’s offense level under 2B1.1. That ruling brushed aside a common practice at Federal criminal sentencings.  But perhaps Banks is less of a novel ruling when it is viewed in light of the current judicial currents that adhere to deference to the literal meaning of the words of a statute, combined with the prevailing headwinds facing deference to accompanying agency interpretation.

Prosecutors in the Western District of Pennsylvania convicted Frederick Banks of wire fraud.  According to the Third Circuit opinion, Banks tried to exploit the lag in the timing of deposits and withdrawals between different accounts.  The opinion explains that Banks used bogus information to open accounts at the international exchange system, ostensibly to buy and sell foreign currencies.  He then made electronic deposits into those accounts from others that lacked funds.  Attempting to exploit the timing between transfers, he tried to withdraw $264,000 from FOREX accounts before FOREX detected that the transfers were bogus.  However, Banks’s attempts to transfer money all failed.

After trial, the District Court sentenced Banks to 104 months of incarceration based on his attempted fraud, relying on the Application Notes that describe loss under 2B1.1.  The District Court found that those Notes define “loss” as not only actual loss, but also as intended loss.  This is a common interpretation among the Federal judiciary.  Here, Banks faced a base offense level of 7.  Based upon the loss he intended to inflict, the District Court added 12 levels, for a total of 19.

The Third Circuit panel of three judges disagreed, applying strict statutory construction to the word “loss” in 2B1.1, and deciding that the District Court could not consider intended loss.  Section 2B1.1 lays out a chart of “Specific Offense Characteristics” that guide judges.  They raise offense levels through a series of increasing steps based upon the serious of the relevant financial harm.  Section 2B1.1 does not, in the unmodified words of the Guideline, add anything to describe what “loss” is.  It merely states that “if the loss” exceeds certain amounts, offense levels rise with it.  In a lengthy discussion of dictionary definitions of the word “loss,” the Circuit Court here determined that “loss” means only actual, realized loss, and that further analysis was unnecessary.

Discounting reliance on the Application Notes, the panel ruled that the District Court erred in applying on the Notes’ definition of “intended loss” as the basis for the enhanced sentence.  As a result, in the Third Circuit, the commentary in the Guidelines does not expand the meaning of the word “loss” to include intended loss.

The Third Circuit’s ruling rests upon the agency deference roadmap the U.S. Supreme Court laid out in Kisor v. Wilkie.  That 2019 decision directed courts to exhaust all traditional tools of statutory construction before turning to agency interpretations, beginning with analysis of the clarity of the relevant words of the law or legislative rule at issue.  Here, the Banks judges affirmed that the Guidelines themselves are legislative rules.  The Application Notes that expound on “intended loss” are, therefore, relegated to the category of agency interpretive rules, and are extraneous since, according to the Third Circuit, the relevant legislative rule defining “loss” is clear.

Perhaps the Department of Justice would try to appeal this decision, either through a hearing before the Third Circuit en banc (as opposed to the panel of three judges that issued the Banks decision) or eventually through a petition for review with the Supreme Court.  It is unclear whether doing so would be worth the effort and risk.  In this case, at re-sentencing, the District Court may take greater pains to base its decision on the factors set out in 18 U.S.C. § 3553.  While Banks’ re-sentencing will not be predicated on the commentary-based enhancement, the Guidelines are not binding on judges.  Perhaps the District Court will more thoroughly articulate other reasons under 3553 to enhance Banks’ sentence above the base offense level, if the judge is so inclined.

One of the panel judges also sits on the U.S. Sentencing Commission as its Vice-Chair.  That connection may prompt discussion of a small but impactful change to the text of the Guidelines, specifically including intended loss in fraud loss guidelines.  As this opinion just came down, expanding “loss” in the Guideline’s language does not appear on the Commission’s recently published list of 2023 Amendment Priorities.  That said, the Commission’s appetite for amendment in any direction is unknown.

One final speculation, based on this case: how deeply will federal prosecutors and agents dig into cases where the accused defendant did not actually profit from fraud?  Unsuccessful fraud schemes may result in plea offers more favorable to defendants or even declinations of prosecution as prosecutors see vanishing likelihood of long sentences for unsuccessful fraud schemes.

In any event, prosecutors and defense attorneys in Pennsylvania, Delaware, and New Jersey now must work with new limitations on the scope Federal Sentencing Guidelines.

Categories: Enforcement