The Fairness of Tracing: Ontario Court of Appeal Considers Methods of Distributing Remaining Funds to Victims of a Ponzi Scheme

In Boughner v. Greyhawk, the Ontario Court of Appeal recently considered different methods for determining how to fairly distribute comingled funds remaining from a collapsed Ponzi scheme. The Court affirmed the decision of the lower court which held that, where practical, remaining funds should be allocated according to the lowest intermediate balance rule, whereby funds were to be distributed pro rata on the basis of tracing, which precluded early investors from unfairly benefitting from the contributions of later investors.


Over the course of more than a decade, two dozen investors were duped into believing that the Greyhawk Fund was a large, highly profitable investment vehicle. In early 2011, it was discovered that the Greyhawk Fund had been operating on the basis of forged statements that had hidden a consistently negative fund performance.

Following the discovery of the fraud and the appointment of a receiver, a significant shortfall of over US $3.5 million was discovered. The receiver wished to distribute the funds, but there was disagreement among the remaining investors as to the appropriate allocation method of the following three identified by the receiver:

  1. Pro rata allocation, based on the size of each investor's contributions to the Greyhawk Fund;
  2. Fund unit allocation, based on what each investor's unit value in Greyhawk ought to have been in light of actual fund performance, also referred to as pro rata on the basis of tracing, known as the Lowest Intermediate Balance Rule (“LIBR”);
  3. Last in, first out (“LIFO”), based on the chronological order of contributions.

The receiver took no position on which distribution method was appropriate and requested directions from the court as to how to distribute the remaining funds. The investors, Jack Waldock and the Waldock Group (“Waldock”) and Richard Gibson (“Gibson”) agreed that the leading authorities required the court to apply a distribution method that is most just, convenient and equitable to the parties in question, but disagreed as to which of the approaches met these criteria. Neither party was in support of the LIFO method, in which the last investors in the fund would be the first to receive distributions of the remaining funds.

Waldock, the Greyhawk Fund’s first investor, took the position that the case law is in favour of a pro rata allocation where comingled funds have been fraudulently misappropriated and the account is in a shortfall position. Waldock’s counsel argued that pro rata allocation is the more just and equitable method, because, unlike LIBR, it does not rely on “happenstance” and the timing of investments to prioritize certain investors over others and, in any event, LIBR would be overly complex and unworkable in these circumstances.

Gibson, a late investor, was of the view that LIBR was the more just, convenient and equitable approach because, while it incorporated pro rata calculations, but the monies were to be distributed pro rata based on the relative value of an investor’s contributions at the time the funds were comingled rather than pro rata on the basis of the original contribution. In Gibson’s view, the pro rata allocation supported by Waldock would allow Waldock to throw his losses on to later investors, and there was no equitable reason why Waldock should benefit from Gibson’s investment.

The issue before Justice Morawetz was therefore whether to endorse Waldock’s position and distribute pro rata on the basis of investors’ original contributions to the fund or on the basis of fund performance during the period of each investor’s investment, the approach supported by Gibson. Justice Morawetz used the following example to demonstrate the difference between the two methods advocated by the parties:

A invests $100 in a fund. The value of the fund then declines to $50. B invests $100, bringing the balance in the fund to $150. The value of the fund then declines to $120.

In this fact pattern, if LIBR were applied, A could not claim more than $50, because that is the lowest balance in the fund prior to B's investment. In other words, the initial decline in the value of the fund from $100 to $50 is borne entirely by A. When B contributes $100, her investment constitutes 2/3 of the $150 in the fund. As a result, when the fund declines to $120, 2/3 of the decline is borne by B, while 1/3 is borne by A. Therefore, of the $120 remaining in the fund, A can claim $40 while B can claim $80.

If, on the other hand, the funds were distributed pro rata based on original contributions, as Waldock maintains should occur in the present case, both A and B would receive $60, since both invested an equal amount: $100.

The receiver determined that if the funds were distributed using the pro rata method, Waldock would receive $694,856, and Gibson would receive $216,196. If the funds were distributed using fund allocation, Waldock would receive $139,130, and Gibson will receive $958,662. The method applied would therefore have significant financial consequences for the parties.

After reviewing the arguments put forth by both parties and conducting a careful analysis of the authorities, Justice Morawetz held that as a general rule, the LIBR method, or pro rata sharing based on tracing, was the preferable approach to resolving competing claims to mingled trust funds, unless it was "practically impossible to do so." The pro rata allocation method endorsed by Waldock was an exception to the general rule, to be used where LIBR was not economically feasible, such as in cases involving significant numbers of beneficiaries and transactions.

In this case, Justice Morawetz found that the receiver was able to determine a practicable method of allocating the funds on the basis of LIBR calculations. It was clear that by the time of Gibson’s initial investment, earlier investors had already lost over 88% of their investment value. Justice Morawetz directed that the remaining funds be distributed proportionately based on the LIBR method.

The Appeal

Waldock appealed the decision, arguing that Justice Morawetz erred in finding that LIBR should be applied unless it was practically impossible to do so. The Court of Appeal dismissed the appeal. The Court agreed with Justice Morawetz’s analysis of the relevant authorities and held that the preferred allocation method in these types of cases is the LIBR method. While LIBR will not be appropriate in some cases that are manifestly more complicated, it is not appropriate to use the pro rata method where contributions to a fund are traceable.

Waldock also argued that Justice Morawetz erred by equating the receiver’s fund unit allocation calculations with the tracing necessary to properly apply a LIBR calculation. In the Court’s view, this was a factual issue, and the record indicated that the receiver’s calculations sought to recalculate the history of investors’ contributions using the actual values of the contributions at the time of comingling. The Court held that Justice Morawetz made no palpable or overriding error with respect to his findings in this regard.

Potential Significance

While the Greyhawk decision confirms that the distribution of commingled funds to the victims of a fraudulent investment scheme should be done in accordance with the LIBR method unless LIBR is not practically possible, the decision does not clarify when circumstances will be found to be “manifestly more complicated and more difficult to apply”, rendering LIBR unworkable. Given that the Court declined to clearly delineate when pro rata allocation will be more appropriate, the issue of where on the spectrum does it become too complicated to apply the LIBR method will likely be dealt with in subsequent cases.

Case Information

Boughner v. Greyhawk Equity Partners Limited Partnership (Millenium), 2013 ONCA 26 (CanLII)

Date: January 18, 2013

Court File No: C55900

commingled funds forged statements fraudulent investment scheme fund unit allocaation last in first out lowest intermediate balance rule Ponzi scheme pro rata allocation



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