November 13, 2014

Federal Bar Council News / Written by: Bennette Deacy Kramer

In two recent decisions, Second Circuit panels have considered when a conflict of interest arising from stock ownership by a district judge mandates recusal. In one, Chase Manhattan Bank v. Affiliated FM Insurance Co., 343 F.3d 120 (2d Cir. 2003), the panel determined that recusal was required and in the other, United States v. Lauersen, 343 F.3d 604 (2d Cir. 2003), the panel determined that recusal was not required.

Disqualification of judges to hear cases is governed by 28 U.S.C. § 455, which provides in relevant part:

"(a) Any justice, judge, or magistrate judge of the United States shall disqualify himself in any proceeding in which his impartiality might reasonably be questioned.

"(b) He shall also disqualify himself in the following circumstances: . . .

"(4) He knows that he, individually or as a fiduciary, or his spouse or minor child residing in his household, has a financial interest in the subject matter in controversy or in a party to the proceedings, or any other interest that could be substantially affected by the outcome of the proceeding. . . .

"(c) A judge should inform himself about his personal and fiduciary financial interests, and make a reasonable effort to inform himself about the personal financial interests of his spouse and minor children residing in his household. . . .

"(f) Notwithstanding the preceding provisions of this section, if any justice, judge, magistrate, or bankruptcy judge to whom a matter has been assigned would be disqualified, after substantial judicial time has been devoted to the matter, because of the appearance or discovery, after the matter was assigned to him or her, that he or she individually or as a fiduciary, or his or her spouse or minor child residing in his or her household, has a financial interest in a party (other than an interest that could be substantially affected by the outcome), disqualification is not required if the justice, judge, magistrate, bankruptcy judge, spouse or minor child, as the case may be, divests himself or herself of the interest that provides the grounds for disqualification."

The Chase Case

In the Chase Manhattan case, following a bench trial Judge Milton Pollack entered a judgment in the amount of approximately $92 million in favor of Chemical Bank and five other banks. The case had been transferred to various judges because of judicial staffing issues at the White Plains courthouse before Judge Pollack received it. Before the transfer to Judge Pollack, Chemical Bank merged with The Chase Manhattan Bank. After the merger, Judge Pollack, his wife and a family trust purchased between $250,000 and $300,000 of stock in The Chase Manhattan Bank. During the proceedings, counsel and the court referred to the plaintiff as Chemical Batik. Defendants appealed the judgment and the Second Circuit reversed part of the judgment and remanded the case to the district court. At that point, Judge Pollack realized that Chemical Bank had merged with The Chase Manhattan Bank prior to his ruling. Judge Pollack immediately divested himself of the Chase stock, and conducted the proceedings on remand. On appeal, the Second Circuit held that the divestiture could not cure the "past appearance of a disqualifying financial interest at the time of trial," and reversed, vacated all decisions and orders made in the case after it was assigned to Judge Pollack and remanded "with instructions that the case be reassigned for disposition of all motions outstanding as of April 14, 1997 and a new trial."


In Lauersen, Judge William Pauley disclosed that he and his wife owned 400 shares in AXA Financial, an insurance company that was among the victims of the defendant's fraud offense. Judge Pauley learned of the financial interest just before sentencing upon reviewing the Pre-Sentence Report, notified the parties that Equitable Insurance Company was one of the companies Lauersen had defrauded and was eligible for restitution, and disclosed that he and his wife owned the shares in AXA Financial, the company to which Equitable had distributed its shares after demutualizing in 1992. Judge Pauley also disclosed that his wife held an annuity with Prudential Insurance Company which had been acquired by an entity entitled to restitution.

Although Judge Pauley initially decided to recuse himself, he reconsidered that decision after AXA waived its restitution claim for $13,046 (which represented .00009 of AXA total stock value). The Second Circuit made a distinction between the requirement of recusal when a judge owns any interest in a party and the looser standard which applies when a judge owns a de minimus share of stock in a victim or non-party. The Second Circuit concluded "we believe that recusal is required only where the extent of the judge's interest in the crime victim is so substantial, or the amount that the victim might recover as restitution is so substantial, that an objective observer would have reasonable basis to doubt the judge's impartiality."

Section 455

The Second Circuit based both decisions on Section 455. In Chase Manhattan, the Court held: "an appearance of partiality requiring disqualification under Section 455(a) results when the circumstances are such that: (i) a reasonable person, knowing all the facts, would conclude that the judge had a disqualifying interest in a party under Section 455(b)(4), and (ii) such a person would also conclude that the judge knew of that interest and yet heard the case. In short, we hold that Section 455(a) applies when a reasonable person would conclude that a judge was violating Section 455(b)(4)."

Thus, the circuit court adopted a bright-line test that where a judge has a known financial interest in a party, no matter how small (i.e., any violation of Section 455(b)(4)), disqualification under Section 455(a) is mandatory and cannot be waived by the parties. The Second Circuit pointed out that Section 455(b) requires that the judge know of the disqualifying interest, and added that the role of the district court must be more than a technical one before the judge's prior actions in the case are nullified.

In Chase Manhattan, the panel concluded that a reasonable person would have known of the disqualifying financial interest, pointing to:

(i) the high profile of the merger and the district judge's concession that he "must have seen" the merger's media coverage;

(ii) the references to "ChemicalBank (now known as The Chase Manhattan Bank)" contained in the papers submitted to the district judge early in his involvement in the case,

(iii) the meeting between the judge and a Chase official and the correspondence from that official on the Chase letterhead, and

(iv) the testimony of witnesses at the bench trial before the district judge describing the merger of Chemical and Chase and their resultant employment at Chase.

The panel emphasized that othe standard it was applying was an objective one, but that it did not question the district judge's claim that he was unaware of the merger. Nonetheless, as the panel noted, "it is important to understand that judges have an obligation to exercise reasonable effort in avoiding cases in which they are disqualified . . . which require[s] some reasonable investigation and action on a judge's own initiative."

Tuning to whether Judge Pollack bad cured the violation of Section 455(a) by divesting his interest in Chase/Chemical immediately upon his discovery of the interest, the Second Circuit said that a retroactive divestiture could not cure the conflict. Judge Pollack had presided over significant proceedings in the case and, most importantly, rendered a decision after a bench trial.

The appellate court held: "While Section 455(f) allows a judge to divest a newly-discovered disqualifying interest and continue to preside over a case, that divestiture cannot cure circumstances in which recusal was required years before and important decisions have been rendered in the interim. The statutory language, legislative history, and case law all support this conclusion."

Acknowledging that a new trial would be burdensome, the Second Circuit concluded that it was not unfair, because Chemical/Chase had not taken the appropriate steps to inform the judge of the merger. It had not filed an updated Rule 9 disclosure statement until September 2000, four years after the merger had become effective in April 1996. The case had been reassigned to Judge Pollack in April 1997 and the bench trial began on May 12, 1997, two weeks after the district judge filed financial disclosure forms indicating the purchase of Chase stocks. The Second Circuit concluded that Chemical/Chase "could have safeguarded against potential disqualification by revising the Rule 9 disclosure statements at the time of the merger."

Bennette Deacy Kramer is a partner at Schlam Stone & Dolan.

[This article is reprinted with permission from the December 2003 issue of the Federal Bar Council News. Copyright © 2003 Federal Bar Council. All rights reserved. Further duplication without permission is prohibited.]