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FMG Law Blog Line

KPMG Owes No Damages to College For Not Detecting Student Loan Fraud Scheme

Posted on: November 22nd, 2019

By: Nancy Reimer

After a three-week trial, a Massachusetts jury held on November 19, 2019 that “big four” accounting firm, KPMG LLC, owed no damages to Merrimack College even though it was negligent and did not detect a former Merrimack employee’s student loan fraud during the years it audited the College’s financial statements. The employee did not personally benefit from the fraud but treated student aid given in the form of grants as loans and billed and collected from students for money they did not owe.

After discovery of the fraud, Merrimack’s then-Director of Financial Aid, Christine Mordach, plead guilty to mail and wire fraud.  Mordach began a one-year prison term in August 2014 and was ordered to pay $1.5 million in restitution to the victims of her fraud. The College filed suit against KPMG for failing to detect the major irregularities in the College’s financial statements between 1998 and 2004 arising from Mordach’s fraud.

The case is notable as it is the first known to go to verdict with a jury applying M.G.L. c. 112, § 87 ¾, a statute applicable only to licensed Massachusetts accountants and enacted by the Massachusetts Legislature in 2002. That statute provides in cases of fraud and an accountant’s attest services:

the trier of fact shall determine (a) the total amount of the plaintiff’s damages, (b) the percentage of fault attributable to the fraudulent conduct of the plaintiff or other party, individual or entity contributing to the plaintiff’s damages, and (c) the percentage of fault of the individual or firm in the practice of public accountancy in contributing to the plaintiff’s damages. Under these circumstances set forth in this section, individuals or firms in the practice of accountancy shall not be required to pay damages in an amount greater than the percentage of fault attributable only to their services as so determined.

Before the trial, KPMG had been awarded summary judgment when a trial judge ruled the in pari delicto doctrine barred recovery for the College. In pari delicto (latin for “in equal fault”) is an equitable doctrine which provides when a plaintiff is engaged in wrongdoing, and certainly fraud, a plaintiff cannot benefit by recovering damages from another alleged wrongdoer. The College appealed, and in May 2018, the Supreme Judicial Court of Massachusetts (“SJC”) reversed, ruling for the first time that in pari delicto could succeed as a defense only if the fraud was attributable to “senior management” and, most surprisingly, ruled that Mordach, even though she was the College’s Director of Financial Aid, was not a member of the school’s senior management.  Earlier this year SJC addressed in pari delicto again, overturning summary judgment for an accounting firm in Chelsea Housing Authority v. Michael E. McLaughlin, et al.  and ruling that M.G.L. c. 112, § 87 ¾ superseded the in pari delicto doctrine for Massachusetts licensed accountants for events after its enactment in 2002. After the Chelsea Housing Authority decision, in pari delicto is no longer available as an absolute defense to an accountant where a fraud is committed, and instead, an accountant’s liability is limited to his/her percentage of fault in contributing to the plaintiff’s damages.

The jury deliberated for one and one-half days before returning a verdict for KPMG.  The verdict slip provided a roadmap for how the trial judge interpreted M.G.L. c. 112, § 87 ¾ and its interplay with KPMG’s comparative negligence defense. In answering special questions, the jury found KPMG’s auditors had been negligent when conducting the College’s audits, but that the College was as well.  After being instructed Mordach’s fraud was not to be considered is assessing the College’s contributory negligence, the jury found KPMG’s negligence was only fifteen percent (15%) compared to the College’s eighty-five percent (85%). Although the College asked for damages exceeding $4 million, the jury found the College’s damages were only $100,000. The jury also answered questions under M.G.L. c. 112, § 87 ¾, finding the College suffered a total of $50,000 attributable to any negligence of KPMG for the two years when the statute applied, but that the percentage of fault attributable to KPMG was only seven and one-half (7.5) percent compared to  nine two and one-half (92.5) percent for Mordach. The result was a verdict in favor of KPMG, because under Massachusetts law of comparative negligence, a plaintiff whose own negligence is greater than fifty percent is barred from recovery.

If you have any questions or would like more information, please contact Nancy Reimer at [email protected].

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