Law360 (August 14, 2019, 6:08 PM EDT) — The founder of multilevel marketing company IPro accused the U.S. Securities and Exchange Commission on Tuesday of essentially setting it up to take the fall for an alleged $26.5 million pyramid scheme in a countersuit against the agency filed in California federal court.
The regulator went after Daniel Pacheco in May, claiming he had promised buyers of his IPro packages, which contained instructional materials for running an e-commerce business, that they could be compensated in cash or IPro’s own cryptocurrency for recruiting new customers.
In an unexpected turn Tuesday, Pacheco brought counterclaims against the SEC and several cross- relief defendants, including IPro’s former accounting servicer Fintact Payment Solutions LLC, alleging that the SEC had prevented IPro from paying the promised commissions to its consumers, which it calls “distributors.”
“The truth, however, is that the SEC had no proof that IPro was operating a fraudulent pyramid scheme, and therefore undertook efforts to make it appear as if IPro was operating such a scheme,” Pacheco said.
The commission is suing Pacheco for securities fraud, the unregistered sale of securities and unjust enrichment over IPro’s heady rise and fall. According to the complaint, buyers of Pacheco’s packages could pay $50 to participate in IPro’s “iPN Compensation Plan,” which allowed them to earn cash for recruiting other IPro members.
Purchasers of the IPro packages also received rebate rewards and recruitment bonuses paid out in PRO Currency, a cryptocurrency that IPro claimed would one day be used to conduct e-commerce transactions and therefore grow in value, the SEC alleges. If the buyers were purchasing the cryptocurrency with an expectation that they would eventually profit from it, the PRO Currency was a security and its sale was never registered, the agency argues.
IPro’s membership skyrocketed, hitting roughly 20,000 members and raising at least $26.5 million between January 2017 and March 2018, but, according to the agency, the structure of the compensation plan required Pacheco to set aside between 41.5% and 45.5% of all incoming funds to pay out commissions and bonuses, or else IPro wouldn’t be able to honor its commitments to its members.
Pacheco ended up using about 68% of the funds, or nearly $18 million, for personal expenses — including a $2.5 million luxury home, a $150,000 Rolls Royce and nearly $4 million in transfers to companies in his control — before the alleged scheme collapsed and IPro was shuttered, the complaint asserts.
Pacheco contended Tuesday that Fintact was in charge of disbursing payments to its customers, but when the business relationship between IPro and Fintact soured in November 2017, Fintact held $5 million of IPro’s funds hostage, resulting in two separate lawsuits in 2018 against Fintact in an attempt to recover the money.
According to Pacheco, while IPro was demanding the return of its funds from Fintact, the SEC “threatened” Fintact with liability claims for aiding and abetting the purported pyramid scheme if it turned over any money to IPro.
The SEC’s “efforts to thwart IPro’s ability from ever recovering those monies” is what actually led to IPro’s inability to compensate its clients, Pacheco alleged.
“The SEC knew that if it could prevent IPro from recovering the trusted funds from Fintact, that it would not be able to pay commissions to its distributors and would eventually shut down altogether,” Pacheco said. “This would then fit perfectly within the allegations of the SEC’s complaint.”
The SEC is seeking disgorgement and civil penalties from Pacheco, as well as disgorgement from Fintact founder Matthew Lopez, who is named as a relief defendant accused by the agency of processing half of the $26.5 million raised by IPro, despite not having a license to do so, and ultimately retaining more than $4 million of the funds either personally or in companies under his control.
The money under Lopez’s control was among the funds that Pacheco says belonged to IPro but Fintact refused to return, according to the counterclaim. They were ultimately transferred to three Lopez-controlled companies, which are also named cross-relief defendants in Pacheco’s suit, in order “to evade creditors such as IPro” from recovering them in its suits against Fintact, Pacheco said.
Pacheco is seeking to pin any liability found in the SEC’s suit against IPro on the SEC, Fintact, and Lopez and his other businesses, because IPro would have been able to make the payments if the cross-defendants hadn’t “conceived and carried out a plan” to prevent that from happening, he said.
“It is our contention that the payment processor withheld funds because it was asked to do so by the SEC,” Pacheco’s attorney, Scott Wellman, told Law360 Wednesday. “If this is true, then the SEC created the problem that it now relies upon to bring its action against Mr. Pacheco. This seems unfair to us.”
Representatives for the other parties did not immediately respond Wednesday to requests for comment.
Pacheco is represented by Christopher Wellman and Scott W. Wellman of Wellman and Warren LLP.
The SEC is represented in-house by Peter F. Del Greco and Gary Y. Leung.
The cross-defendants are represented by Andrea Mazingo and Kenneth P. Herzinger of Orrick Herrington and Sutcliffe LLP.
The case is SEC v. Pacheco et al., case number 5:19-cv-00958, in the U.S. District Court for the Central District of California.
–Additional reporting by Dean Seal. Editing by Michael Watanabe.