1 DEPARTMENT OF DEFENSE DEFENSE OFFICE OF HEARINGS AND APPEALS In the matter of: ) ) ------------ ) ISCR Case No. 09-05963 SSN: ----------- ) ) Applicant for Security Clearance ) Appearances For Government: John Bayard Glendon, Esq., Department Counsel For Applicant: Alan V. Edmunds, Esq. ______________ Decision ______________ MARSHALL, Jr., Arthur E., Administrative Judge: On January 25, 2010, the Defense Office of Hearings and Appeals (DOHA) issued Applicant a Statement of Reasons (SOR) enumerating security concerns arising under Guideline F (Financial Considerations) and Guideline E (Personal Conduct). DOHA took action under Executive Order 10865, Safeguarding Classified Information within Industry (February 20, 1960), as amended, Department of Defense Directive 5220.6, Defense Industrial Personnel Security Clearance Review Program (January 2, 1992), as amended (Directive), and the adjudicative guidelines (AG). In a February 9, 2010, answer to the SOR, Applicant admitted three of the four allegations raised under Guideline F and denied the single allegation raised under Guideline E. He also requested a hearing before an administrative judge. DOHA assigned the case to me on April 1, 2010. The parties proposed a hearing date of June 14, 2010. A notice setting that date for the hearing was issued on April 30, 2010. I convened the hearing as scheduled. At the onset, Department Counsel essentially moved that Applicant should be precluded from rearguing a past proceeding in which Applicant was sued for fraud, breach of fiduciary duty, and violations of state business law; that an arbitration panel found in favor of plaintiffs and granted them monetary Citing to collateral estoppel, Department Counsel moved that “Applicant be precluded from contesting that 1 he defrauded the Plaintiffs in the action brought against him, because that action has already been resolved against him in the arbitration matter before.” See Tr. 18-19. Tr. 9-17.See also SOR allegation ¶ 2.a. 2 Tr. 23, 27-30. 3 Because Applicant did not re-litigate the case noted in SOR allegation ¶ 2.a, the Government’s motion is 4 deemed moot. I note, however, that this process is not designed to re-litigate issues resolved by other tribunals. Tr. 53. Applicant is described as the managing director of an entity that is “an umbrella corporation, or an 5 entity that has other entities involved in it . . . . it operates as [his] family office.” Tr. 60. 6 Tr. 54. 7 2 relief; and the award was confirmed by the state court. Applicant objected on various1 grounds, but conceded that he previously admitted an allegation related to those facts.2 Applicant represented that he would not re-litigate the past proceeding and arbitration, but only raising those relevant facts necessary to his argument that mitigating conditions under the AG apply. Based on that representation, the proceeding3 continued.4 During the hearing, Applicant testified, introduced one character witness, and presented 29 documents that were accepted into the record without objection as exhibits (Exs.) A-CC. Department Counsel offered six documents, admitted as exhibits (Exs.) 1-6 without objection. The parties were given until July 15, 2010, to submit additional materials. The transcript (Tr.) of the proceeding was received on June 25, 2010. On July 15, 2010, DOHA received Applicant’s post-hearing Memorandum of Points and Authorities, dated July 14, 2010. (PH 1). In reply, Department Counsel submitted a Brief for the Department of Defense on July 28, 2010. (PH 2). On July 30, 2010, DOHA received Applicant’s Reply to the Department of Defense Brief, which was undated. (PH 3). One week was provided for additional material. In the absence of objection or additional material from Department Counsel, the record was closed on August 6, 2010. Based on a review of the testimony, submissions, and exhibits, I find Applicant failed to meet his burden mitigating security concerns. Clearance is denied. Findings of Fact Applicant is a 55-year-old managing director of a defense contractor. He has5 over a dozen active businesses. Applicant earned a bachelor’s degree. He also has a6 master’s degree in taxation from a nationally recognized business school, which he completed at night while working as an accountant. He is a certified public accountant (CPA). Applicant is married. He is financially independent, earning approximately $4,000,000 a year. He does not suffer any financial hardships and he lives within his means. He received financial counseling in May 2010. At issue in the SOR are four7 adverse judgments. Answer to the SOR, dated Feb. 9, 2010, at Ex. I (Memorandum, dated Sep. 25, 2008). This quote reflects 8 the state court’s summation of the arbitration panel’s findings. See Tr. 90, noting that Applicant was then “able to enforce an arbitration clause” over the matter. 9 Id. The underlying arbitration determ ination does not specify “tax fraud,” it only notes “fraud under the 10 contribution agreement” and “fraud.” See Ex. H (Partial Award of Arbitrators, dated Feb. 14, 2008) at 1 and 3. The extent of Applicant’s participation in this matter is not clearly defined. It is only noted that Applicant knew of what was later determined to be a fraudulent representation of the tax-saving tool. Applicant maintains that he never made any m isrepresentations to the Plaintiffs and that fraud was only imputed to him by the Arbitration Panel. Tr. 61. The issue of whether the tax-saving tool is illegal has not been adjudicated or directly addressed by the IRS. Tr. 96. Tr. 64; Answer to the SOR, dated Feb. 9, 2010, at Ex. B (Agreement, dated Mar. 2, 2009, signed Mar. 11 21, 2009). Tr. 112; Ex. C (Payments). 12 Tr. 74. 13 3 In 2005, two hedge-find managers and their wives filed a lawsuit in state court alleging causes of action for fraud, breach of fiduciary duty, and violations of general business law. They sought damages against Applicant, one of his companies, and others. Damages were sought related to, among other things, the plaintiff’s development, promotion, sale, and implementation of “a fraudulent tax-shelter strategy that was represented to them as a legitimate tax-saving tool. Ultimately, the Internal Revenue Service (‘IRS’) did not allow Plaintiff’s claimed deductions, and as a result, they had to pay penalties.” Due to an arbitration clause in Applicant’s agreement with8 the plaintiff, the it was requested that the matter be given to an arbitration panel. The9 court stayed action during its referral for arbitration. The arbitration panel concluded that representations made by the defendants were false, that the Applicant and a third party knew that they were false, and that the plaintiff’s relied on the representations made, leading to financial losses on their tax returns. The arbitration panel awarded10 the plaintiffs about $5,400,000, including costs and expenses. This debt is cited as being for $5,345,455 in SOR allegation ¶ 1.a. Noting that state law mandated that judicial review of arbitration awards be extremely limited, the court adopted the finding for the plaintiffs. Applicant waived his right to appeal in order to negotiate a settlement, which was arranged on March 21, 2009. Under the settlement, Applicant was to pay $4,000,000. The payment schedule11 included one March 2009 payment of $2,500,000 payment followed by quarterly payments of $125,000 for 12 quarters starting on January 2, 2010. As of the time of the hearing, Applicant had made timely payments under the schedule. Applicant has had12 no financial difficulty in meeting his payments. The umbrella corporation for which Applicant serves as managing director includes an acquisitions entity and a holdings entity, the organizations noted in SOR allegations ¶¶ 1.b and 1.c, respectively. Applicant is president of the acquisitions entity which is owned by a pension trust, of which Applicant is the beneficial owner of 85% of the pension trust. It no longer owns or manages independent businesses. The13 Tr. 56, 80. Applicant also noted that he is the “control person” for both entities. 14 Tr. 80. 15 Id. See also Tr. 80. 16 Tr. 81. 17 Tr. 56, 81. 18 Tr. 81-82. Applicant noted that “being a CPA with a master’s in tax, I was very concerned about estate 19 tax issues. So I certainly have structured my life so that any future appreciation is not going to be taxable in my estate to my children.” Tr. 78. Those sums include principle plus interest accrued. 20 Tr. 76-77. The loans incurred the minimum amount of interest permitted by law under IRS guidelines “so 21 you don’t incur what is called the original issue of discount, which would basically bifurcate any - - it basically imputes interest.” The loans were taken to finances Applicant’s application and related fees for a club membership. Id. See also Tr. 76; Ex. AA (Letter, dated May 12, 2010). 22 Id. 23 Tr. 59. 24 Ex. CC (Satisfaction of Judgments, dated Jun. 2010). 25 4 remaining 15% of the pension trust’s ownership is held by former employees of the acquisitions entity that now work for other sections of the umbrella corporation. Applicant is also the sole owner of the holdings entity, which is a limited liability company (LLC). Within the umbrella company’s corporate structure, the LLC is the14 actual owner of the umbrella company for which Applicant serves as managing director. In turn, the LLC is constructively owned by three trusts that Applicant created15 for the benefit of his children, which own about 95% of the LLC. The remaining 5% is16 owned by employees. The LLC also owns Applicant’s house. Most all of Applicant’s17 family assets flow through the LLC. Consequently, Applicant’s personal net worth is18 less than $1,000,000.19 Applicant borrowed money from both entities which ultimately resulted in adverse judgments against him in about July 2008 for $665,000 and $884,230, respectively.20 He intentionally took the demand loans with minimal interest terms and signed21 confessional judgments to permit adverse judgments against him. He did so because “it was [his] tax advisor’s thoughts that in order for it to be respected as a loan for tax purposes, that a note and a judgment be entered into.” Applicant noted that had he22 thought this arrangement “was going to impact this security clearance, [he] wouldn’t have done that.” Noting that control people often borrow from closely held companies,23 Applicant stated that if he ever did so again in the future, he would not “follow judgments, irrespective of [his] tax advisor’s advice.” Partial payments toward the full24 judgments were made and certificates of satisfaction were issued in June 2010.25 Tr. 83-84. The judgments are not paid in full, but they have been released, creating taxable income for 26 Applicant. Recent payments amount to about $300,000. The Government characterized the loans’ current status as unpaid, “it would be considered a write-off, where a 1099 . . . is provided to the defaulting party. . . . And it will be up to Applicant to satisfy his tax obligation some time in the future, with the IRS. The Applicant has not explained why he just didn’t pay the debt, if he has the financial resources to do that, and why he will just pay the taxes. The taxes, whatever rate he is at, are going to be less than paying off the debt. So, in effect, he is not fully discharging the debt.” Tr. 113-114. Tr. 58. 27 Tr. 59. 28 Tr. 58. 29 Id. 30 Answer to the SOR, dated Feb. 9, 2010, at Appendix E at 4 of 4 (Payment of $29,045.80, dated Dec. 30, 31 2009). Tr. 105-109. 32 Tr. 72. 33 5 Applicant cited to this proceeding as the reason he recently made payments on those debts, noting that they were made to reiterate that the loans were bona fide and to secure evidence of satisfaction of the judgments. 26 Also in 2008, Applicant and his wife prepared for their son’s bar mitzvah. Applicant signed a contract to hire a band, but overlooked the fine print. He learned27 from that mistake. The contract provided that Applicant “would be responsible for one28 hundred percent of the contract amount, even if [he] didn’t use them.” Applicant’s son29 changed his mind and Applicant’s wife decided to use a disc jockey instead of a band. Applicant thought it would be fair to pay the band “whatever their lost profits were, because obviously they incur costs in performing.” The band demanded payment of30 the full contract price and threatened to go to court. Applicant chose to take the matter before a judge and litigation ensued. The band was granted a judgment against Applicant in the amount of $25,000, as reflected in SOR allegation ¶ 1.d. The debt was paid in full in December 2009.31 Applicant is a self-made man. He has considerable business savvy. He has managed many businesses over the past 30 years. As part of his business and in his personal capacity, he has incurred many adverse judgments, all of which appear to have been previously addressed. Applicant understands the problems inherent in32 business. Applicant’s fondest memories are of his father, who worked seven days a week, but took time to manage Applicant’s little league team. Because of those memories,33 Applicant is committed to helping children learn “life lessons” through sports. Applicant currently coaches three children’s league teams, volunteer work he has enjoyed for over a dozen years. He is also a generous donor, both with annual contributions to the Tr. 36-39. 34 Tr. 36. 35 Exs. T-Z (Character recommendations, 2010). 36 See also ISCR Case No. 94-1075 at 3-4 (App. Bd. Aug. 10, 1995). 37 ISCR Case No. 93-1390 at 7-8 (App. Bd. Jan. 27, 1995). 38 6 leagues and with providing ad hoc financial assistance for special projects and needs.34 He is also active in his community. A member of his community who is also active with children’s sports noted that Applicant is of “outstanding character, a man of enormous generosity, individual integrity, and a constant teacher of character.” He is well-35 regarded in his personal and professional community.36 Policies When evaluating an applicant’s suitability for a security clearance, an administrative judge must consider the AG. In addition to brief introductory explanations for each guideline, the AG list potentially disqualifying conditions and mitigating conditions. These guidelines are not inflexible rules of law. Instead, recognizing the complexities of human behavior, these guidelines are applied in conjunction with the factors listed in the adjudicative process. The administrative judge’s overarching adjudicative goal is a fair, impartial, and commonsense decision. Under AG ¶ 2(c), this process is a conscientious scrutiny of a number of variables known as the “whole- person concept.” The administrative judge must consider all reliable information about the person, past and present, favorable and unfavorable, in making a decision. The protection of the national security is the paramount consideration. AG ¶ 2(b) requires that “[a]ny doubt concerning personnel being considered for access to classified information will be resolved in favor of national security.” In reaching this decision, I have drawn only those conclusions that are reasonable, logical, and based on the evidence contained in the record. The Government must present evidence to establish controverted facts alleged in the SOR. An applicant is responsible for presenting “witnesses and other evidence to rebut, explain, extenuate, or mitigate facts admitted by applicant or proven by Department Counsel. . . .” The burden of proof is something less than a37 preponderance of evidence. The ultimate burden of persuasion is on the applicant. 38 A person who seeks access to classified information enters into a fiduciary relationship with the government predicated upon trust and confidence. This relationship transcends normal duty hours and endures throughout off-duty hours. The government reposes a high degree of trust and confidence in individuals to whom it grants access to classified information. Decisions include, by necessity, consideration of the possible risk the Applicant may deliberately or inadvertently fail to safeguard classified information. Such decisions entail a certain degree of legally permissible Id. 39 Id. 40 AG ¶ 18. 41 7 extrapolation of potential, rather than actual, risk of compromise of classified information. Section 7 of Executive Order 10865 provides that decisions shall be “in terms of the national interest and shall in no sense be a determination as to the loyalty of the applicant concerned.” See also EO 12968, Section 3.1(b) (listing multiple prerequisites for access to classified or sensitive information). “The clearly consistent standard indicates that security clearance determinations should err, if they must, on the side of denials.” Any reasonable doubt about whether an applicant should be allowed access39 to sensitive information must be resolved in favor of protecting such sensitive information.40 Based upon consideration of the evidence, Guideline F (Financial Considerations) and Guideline E (Personal Conduct) are the most pertinent to this case. Conditions pertaining to these AGs that could raise a security concern and may be disqualifying, as well as those which would mitigate such concerns, are set forth and discussed below. Analysis Guideline F – Financial Considerations Under Guideline F, “failure or an inability to live within one’s means, satisfy debts, and meet financial obligations may indicate poor self-control, lack of judgment, or an unwillingness to abide by rules and regulations, all of which can raise questions about an individual’s reliability, trustworthiness and ability to protect classified information.” The guideline sets out several potentially disqualifying conditions. Here,41 Applicant acquired four adverse judgments amounting to nearly $7 million dollars. While three of those judgments were recently paid or released, one remains in repayment. This financial situation raises security concerns. Financial Considerations Disqualifying Condition (FC DC) AG ¶ 19(a) (inability or unwillingness to satisfy debts) and FC DC AG ¶ 9(c) (a history of not meeting financial obligations) apply. With these conditions raised, the burden shifts to Applicant to overcome the case against him and mitigate security concerns. All of the judgments at issue are recent. Payment on those judgments occurred within the past year. Each judgment was entered based on distinctly different facts. One was entered as the result of an arbitration panel’s imputation of fraud regarding an alleged tax-saving tool. While Applicant disagrees with the finding, he agreed to arbitration, obviating his ability to fight the issues in court. A seasoned businessman, he then chose to settle the matter for a lesser amount in exchange for waiving his right to appeal the ultimate determination. Two other judgments were voluntarily sought to 8 validate business loans Applicant received from his businesses. Applicant now questions his method of financing his club membership in this manner. The final judgment arose because Applicant failed to read the fine print in an entertainment contract, then tried to pay a band only for their inconvenience, not the full contract price stipulated. Such evidence is insufficient to raise FC MC AG ¶ 20(a) (the behavior happened so long ago, was so infrequent, or occurred under such circumstances that it is unlikely to recur and does not cast doubt on the individual’s current reliability, trustworthiness, or good judgment). In choosing arbitration, then seeking settlement of the award at a lower cost, Applicant knowingly relinquished his ability to vigorously defend and appeal allegations of fraud. He actively chose to take loans from his businesses to help fund his membership in a club. He also chose not to honor an entertainment contract’s terms. Instead, he allowed the case to go to court, where the contracts terms were enforced. Applicant seems to take such legal challenges and losses as part of the cost of doing business, knowing he has the financial resources to honor them. While he had no control over the ultimate judgments, there are insufficient facts to raise FC MC AG ¶ 20(b) (the conditions that resulted in the behavior were largely beyond the person’s control (e.g., loss of employment, a business downturn, unexpected medical emergency, or a death, divorce or separation) and the individual acted responsibly under the circumstances). Applicant recently received formal financial counseling, which complemented his extensive educational background and practical experience in the areas of business and tax. One judgment has been paid and two judgments were released for less than the amounts borrowed from his company. One is in regular repayment, with near three- quarters of his settlement balance paid. FC MC ¶ 20(c) (the person has received or is receiving counseling for the problem and/or there are clear indications that the problem is being resolved or is under control) and FC MC ¶ 20(d) (the individual initiated a good- faith effort to repay overdue creditors or otherwise resolve debts) apply. Applicant’s case is unique. This is not a case about one lacking funds or who is unwilling to pay debts. Rather, it is a case of an individual whose professional dealings are so expansive, that the courtroom is not an uncommon business venue. He apparently accepts such litigation as a necessary evil of the business milieu, which it often is. Judgments are made and Applicant complies. In his personal life, he lives within his means, with his income and assets creatively and legally flowing through one of his business entities as a safeguard for his children’s benefit. He meets his financial obligations, professional and personal, regardless of how they were created. He has a superior understanding of finances and taxes which is complemented by professional advisors. Only two situations particularly highlight potential questions regarding his ability to abide by rules and regulations, considerations that could raise questions about his reliability, trustworthiness, and ability to protect classified information. Those two situations, however, are worrisome. First, rather than simply adhere to the terms of their contract, Applicant chose to let the matter over an entertainment contract go to court. This is worrisome because it indicates an unwillingness to abide by one’s commitments. AG ¶ 15. 42 Id. 43 9 Challenging clearly written small print may be a business maneuver, but it demonstrates a less than forthright approach to basic contract law for one seeking access to a security clearance in order to effectuate Government contracts. Second, rather than fight allegations of fraud, breach of fiduciary duty, and violations of general business law, Applicant made himself subject to arbitration. There, he was found liable for a fraud regarding his knowing participation in a representation made during a business deal. He then waived his right to an appeal in favor of settlement of his obligation at a lower cost. His management of the case was his choice, a business- driven choice that may be common in its context. His legal approach to these cases, however, does little to spotlight those qualities the Government seeks in bestowing access to sensitive material. It is noted that Applicant, at the hearing, denied he had knowledge of the fraud that was found. He also noted that neither the courts nor the IRS have determined the tax-saving tool to be illegitimate. However, it is not within the jurisdiction of this tribunal to re-litigate the issue or disregard the other tribunal’s determination. At best, these two offerings, both of which are independently worrisome, demonstrate the possible consequences of valuing expediency over the maintenance of an unblemished record for adhering to both the spirit and the letter of the law. Moreover, evidence of other adverse judgments in the record suggests a high risk approach in Applicant’s business dealings, consistent with the two situations above. Given such circumstances, financial considerations security concerns remain unmitigated. Guideline E – Personal Conduct Security concerns arise from matters of personal conduct because “conduct involving questionable judgment, lack of candor, dishonesty, or unwillingness to comply with rules and regulations can raise questions about an individual’s reliability, trustworthiness, and ability to protect classified information.“ In addition, “any failure to42 provide truthful and candid answers during the security clearance process or any other failure to cooperate with the security clearance process” is of special interest. 43 Here, personal conduct concerns were potentially raised when Applicant was found by a state court to be liable for knowledge of a fraud. This issue does not relate to the security clearance application or investigative process. It was a singular instance; there is no evidence it is a recurring problem or regular practice. The incident was integral to the preceding consideration under Guideline F, obviating application of Personal Conduct Disqualifying Condition (PC DC) AG ¶ 16(c) (credible adverse information in several adjudicative issue areas that is not sufficient for an adverse determination under any other single guideline, but which, when considered as a whole, supports a whole-person assessment of questionable judgment, untrustworthiness, unreliability, lack of candor, unwillingness to comply with rules and regulations, or other characteristics indicating that the person may not properly safeguard protected information), and AG ¶ 16(d) (credible adverse information that is not explicitly covered If, however, a PC DC did apply, Personal Conduct Mitigating Condition AG ¶ 17(e) (the individual has 44 taken positive steps to reduce or eliminate vulnerability to exploitation, manipulation, or duress) would apply, given Applicant’s waiver of appeal, settlement, and substantial payment toward the adverse judgment.. 10 under any other guideline and may not be sufficient by itself for an adverse determination, but which, when combined with all available information supports a whole-person assessment of questionable judgment, untrustworthiness, unreliability, lack of candor, unwillingness to comply with rules and regulations, or other characteristics indicating that the person may not properly safeguard protected information. This includes but is not limited to consideration of: (1) untrustworthy or unreliable behavior to include breach of client confidentiality, release of proprietary information, unauthorized release of sensitive corporate or other government protected information; (2) disruptive, violent, or other inappropriate behavior in the workplace; (3) a pattern of dishonesty or rule violation; (4) evidence of significant misuse of Government or other employer’s time or resources). Consequently, the facts alleged are more appropriately, and sufficiently, addressed under Guideline F, supra.44 Whole-Person Concept Under the whole-person concept, an administrative judge must evaluate an applicant’s eligibility for a security clearance by considering the totality of an applicant’s conduct and all the circumstances. An administrative judge should consider the nine adjudicative process factors listed at AG ¶ 2(a). Under AG ¶ 2(c), the ultimate determination of whether to grant a security clearance must be an overall commonsense judgment based upon careful consideration of the guidelines and the whole-person concept. I considered the potentially disqualifying and mitigating conditions in light of all the facts and circumstances surrounding this case, as well as the “whole-person” factors. Applicant is a credible, mature, and professional man. He is exceptionally well educated and credentialed. He is a self-made man, who has a right to take pride in his considerable business success. His ability to take risks in business has apparently reaped him considerable rewards. Applicant lives in a manner commensurate with his income and holdings. He is a devoted husband and father. He is an asset to his community, providing both his time and financial resources to help children learn life lessons through sports. Applicant is admired as much for his volunteering as his business success. There is no doubt that Applicant has the knowledge and ability to manage a business, including one executing Government contracts. His insight and drive would be an asset to any customer. His approach to litigation regarding his contracts, however, is worrisome. The courts should not be the answer to how a clearly stipulated contract price should be resolved. Applicant agreed he should have read the fine print. He read and signed the contract. He knew or should have known the sum called for under the contract if he cancelled the band’s performance, but, instead, only wanted to pay the band for the inconvenience they incurred. This approach turns basic contract law on its head. As a result, over $29,000 was paid for a contract only stipulating payment of $25,000. The maneuver shows poor judgment for one seeking a security clearance. 11 Similar poor judgment was shown in defending a suit in which fraud was alleged. By forfeiting his ability to appeal a determination that imputed fraud upon him, he chose to settle the matter for a lower sum rather than seek vindication of a finding antithetical to those qualities the Government seeks in granting access to sensitive information. The burden in these cases is placed squarely on the Applicant. A person who seeks access to classified information enters into a fiduciary relationship with the government predicated upon trust and confidence that endures at all times. The government reposes a high degree of trust and confidence in individuals to whom it grants access to classified information. Applicant failed to mitigate all the security concerns raised concerning his finances and financial dealings. As noted above, the “clearly consistent standard” indicates that security clearance determinations should err, if they must, on the side of denials. In light of the unmitigated security concerns related to Applicant’s finances, clearance is denied. Formal Findings Formal findings for or against Applicant on the allegations set forth in the SOR, as required by section E3.1.25 of Enclosure 3 of the Directive, are: Paragraph 1, Guideline F: AGAINST APPLICANT Subparagraph 1.a-d: Against Applicant Paragraph 2, Guideline E: AGAINST APPLICANT Subparagraph 2.a: Against Applicant Conclusion In light of all of the circumstances presented by the record in this case, it is not clearly consistent with the national interest to grant Applicant a security clearance. Clearance denied. ARTHUR E. MARSHALL, JR. Administrative Judge