Water Station Founder, ex-Jefferies Manager Indicted In Alleged SBA-Linked Ponzi Scheme
Synapse Victims Could Wait Years For Bail Out Payments, CFPB Records Suggest, Dueling Trade Association Statements Plead For Trump To Intervene in Open Banking Fight, Banks Have GENIUS Regrets
Hey all, Jason here.
The Netherlands had our allocated three days of summer weather last week, and now it’s back to normal August: cloudy, gray, and kind of chilly. Regardless, I’m going to try to enjoy the last couple weeks of summer before fall conference season kicks off for me with Finovate Fall in New York early next month.
Water Station Founder, ex-Jefferies Manager Indicted In Alleged SBA-Linked Ponzi Scheme
The U.S. Attorneys for the Southern District of New York and the Western District of Washington announced the unsealing of indictments for two individuals involved with Water Station, an alleged Ponzi scheme that took in at least $270 million in “investor” funds.
Indictments against Ryan Wear, the former owner-operator of Water Station, and Jordan Chirico, an investor in the scheme and fund portfolio manager at 3|5|2 Capital, a division of Jefferies, were revealed last Thursday.
News of the indictments comes less than two weeks after Fintech Business Weekly profiled the alleged Ponzi scheme, its connection to Seattle-area banks First Fed and UniBank, and how as much as $115 million in government-backed Small Business Administration 7(a) loans were funneled to the scheme.
The Washington Department of Financial Institutions has previously taken action against Water Station, Wear, and related individuals — including the director of government guaranteed lending at UniBank, Wan Kim — for the illegal sale of unregistered securities and for violating the anti-fraud section of the Securities Act of Washington.
The Washington DFI also separately took action against Wan Kim, UniBank’s chief credit officer, Sunny Kim, and the bank’s CEO, Peter Park, for their dishonesty and breach of fiduciary duty. The DFI’s action stemmed from the trio allowing or directing UniBank to extend loans to firms investing in a clean energy company that appears to have been a Ponzi scheme, despite the fact the three also made personal investments into the scheme.
Now, the Department of Justice has indicted Wear for securities fraud and wire fraud for his role allegedly masterminding the Water Station scheme. Instead of using proceeds from investors to buy water vending machines, as the company said it would do, Wear used the funds to purchase other types of vending machines, to buy unrelated real estate, and to make payments to earlier investors while telling them such payments were funded from revenue from the water machines, the indictment alleges.
Each count carries a maximum sentence of 20 years in prison.
Jordan Chirico, the former 3|5|2 fund manager, is charged with investment advisor fraud and securities fraud in a superseding indictment, which carry maximum penalties of five and 20 years in prison, respectively.
Chirico personally invested in Water Station through a company he controlled with his wife, C3 Capital. Chirico invested a total of about $7.3 million, according to the indictment, including by taking two SBA 7(a) loans.
Publicly available SBA records show C3 Capital was approved for a $2.7 million SBA-backed loan from Newtek in September 2018 and was approved for a second SBA-backed loan of $2.265 million from Newtek in October 2020.
Chirico also took a commercial loan to fund part of his investment, which the indictment identifies only as coming “from a financial institution,” which is most likely First Fed.
In return for C3 Capital’s investments, it received monthly payments from Water Station — at one point, from October 2021 to September 2022, amounting to $90,000 per month, according to the indictment.
But Chirico didn’t disclose his investment in Water Station when he joined Leucadia Asset Management, a wholly-owned division of Jefferies, to setup the 3|5|2 fund in May 2020, the indictment says.
Even when he disclosed the existence of his company, C3 Capital, in December 2020, he described it only as “[i]nvestment in Water related vending machines within retail establishments,” failing to mention Water Station specifically and falsely stating his anticipated compensation was $0, despite receiving $68,000 per month at the time, according to the indictment.
Chirico used his position at 3|5|2 to direct the fund to invest in Water Station’s bonds, “while secretly cashing out of his investments in the company,” the indictment alleges.
After 3|5|2’s initial investment in the bonds, the indictment alleges, Chirico struck a deal with Wear, the Water Station founder, to buy out his company, C3 Capital, for about $7.3 million plus a seller’s note of about $1.9 million.
The indictments against against both Wear and Chirico seek the forfeiture of “all property, real and personal, that constitutes or is derived from proceeds traceable to the commission of [their] offenses.” If the forfeitable property cannot be located or has been transferred, sold, or deposited to a third-party, the indictments specify it is the government’s intent to seek forfeiture of other property of comparable value.
While the indictments of Wear and Chirico show forward progress in the case, there are still plenty of unresolved questions and potentially more shoes yet to drop. Despite the credible allegations Water Station was a Ponzi scheme, several of the banks involved are aggressively pursuing repayment from victims of the scheme. There are numerous civil cases outstanding, with the victims and 3|5|2 pursuing various claims against a number of the banks enmeshed in the situation.
And, given the size of the fraud, which FBI Special Agent in Charge W. Mike Herrington described as “simply staggering,” there may yet be more criminal charges related to the matter.
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It wouldn't be possible to do what I do without the support of loyal readers like you.Embattled “Boy Scout” Bank Evolve Gets New CEO, While Synapse Victims Could Wait Years For Bail Out Payments, CFPB Records Suggest
Last week saw a number of interesting developments in the Synapse-Evolve saga.
In Monday’s brief hearing in the bankruptcy case, the Chapter 11 Trustee, former FDIC Chair Jelena McWilliams, asked the court to continue her previously filed motion to either convert the case to a Chapter 7 liquidation, which would see a new trustee appointed, or to dismiss it altogether.
The judge in the case, Martin Barash, ultimately deferred to McWilliams’ request, continuing the motion until October 9th.
The extension gives the Consumer Financial Protection Bureau additional time to formulate its complaint against Synapse and to reach a settlement, including a “nominal” penalty, with McWilliams. A settlement that includes a civil money penalty, even if it is as low as $1, is a prerequisite to the Bureau being able to use its civil penalty fund to potentially make impacted Synapse victims whole.
Once the settlement is finalized, the status of the bankruptcy case has no further bearing on the CFPB’s potential process to accept, evaluate, and pay claims from Synapse victims, suggesting that, once the CFPB settlement is done, the bankruptcy process may wrap up fairly quickly — though that isn’t guaranteed (more on that below.)
But finalizing the settlement is merely the first step in what is normally a lengthy process to pay compensation to victims.
The Bureau must define victim eligibility criteria, allocate money from the civil penalty fund (which is subject to six-month review cycles), determine a distribution methodology (which typically involves hiring a third-party administrator), and oversee and report on the process.
Looking at 53 of the cases where the CFPB has paid victims from the civil penalty fund, administered redress on behalf of a third party, or both, the average time from a final judgment or order being reached to the beginning of the payout process was a whopping 682 days, or nearly two full years.
Eight cases took three years or longer, making the median time from judgment to first payments a somewhat shorter 504 days.
But that was before Trump’s appointee, acting Director Russ Vought, set about gutting the consumer protection agency.
The process to verify what each Synapse end user is owed would appear to be relatively more complicated than other victim compensation cases the Bureau has previously handled.
In order to accurately determine how much each user is owed, the Bureau will need to tabulate what, if anything, users have already received from the four banks involved: Evolve Bank & Trust, Lineage Bank, AMG National Trust, and American Bank.
But determining what users have already been paid may be the easy part — the Bureau will also need to confirm the total amount users held in the Synapse “ecosystem” at the time Evolve effectively froze users’ funds. What records will the CFPB use to establish this? After all, at the heart of the catastrophe is the alleged unreliability of Synapse’s records.
The CFPB has yet to lay out what sources of information it may rely on and what the claims process for end users will look like.
The CFPB did not answer questions about what the process will look like and how long it is expected to take sent via email last Wednesday.
A Distressed Asset Investor Enters the Bankruptcy Chat
There was another noteworthy development in the Synapse case recently: Triple Point Capital, a secured creditor that lent Synapse about $7.2 million, sold its claim against the bankrupt company to a distressed asset investor SLFAQ LLC, also known as Strategic Liquidity. The amount Strategic Liquidity paid is unknown.
Strategic Liquidity’s website describes the firm as “a proprietary, private debt trading investment group who has completed over 1,100 transactions and $1.5 billion of debt bought/sold/realized in the past 20 years.”
Strategic Liquidity founder and CEO Joseph Sarachek is also a practicing attorney whose work history includes representing unsecured creditors in the notorious FTX bankruptcy case. Sarachek has even written a book about distressed asset investing.
This is all to say, Strategic Liquidity and Sarachek are hardly amateurs.
While it’s possible acquiring Triple Point’s claim is a mere lottery ticket, it seems more likely that Strategic Liquidity and Sarachek have a specific theory of the case — a legal strategy to pursue that could lead to the $7.2 million claim against the Synapse estate paying out.
There are a number of potential causes of action that McWilliams, as trustee, could have pursued on the Synapse estate’s behalf but did not.
The lowest hanging fruit is the approximately $43 million in Synapse’s reserve funds that Evolve impounded. Evolve admitted to taking $8 million of this for itself in filings early in the bankruptcy and has refused to comment on the status of the remaining $35 million, citing multiple civil cases filed against the bank related to the situation.
But the reserve funds aren’t the only thread for Strategic Liquidity to pull on.
The Synapse estate also has potential causes of action related to Mercury’s alleged “over migration” of about $50 million in funds when it terminated its relationship with Synapse, claims Synapse made that Mercury owed it more than $30 million that pre-date the bankruptcy, and even the $320,000 loan Synapse cofounder Sankaet Pathak took from the company just months before it filed for bankruptcy.
Strategic Liquidity could attempt to pursue causes of action against the Synapse estate, former officers and directors of the company, counterparties like Mercury, and the four banks through adversarial proceedings within the bankruptcy case or by filing separate, new litigation.
New Evolve CEO Says Bank Behaved Like A “Boy Scout” In Synapse Debacle
Last week also saw embattled Evolve Bank & Trust appoint a new chief executive.
The bank announced Robert “Bob” Hartheimer would take the reins, with board chair Steve Valentine saying, “Bob was selected for his unmatched corporate experience in strategically navigating challenges at financial institutions and enabling banks to move past their regulatory challenges.”
Hartheimer is a senior advisor to regulatory consulting shop Klaros Group and the lead independent board director of CardWorks, a consumer lender and merchant acquirer.
After Evolve was hit with a wide-reaching enforcement action last June, Hartheimer became a consultant to the bank’s board and teams within the bank, which progressed into an offer for Hartheimer to take on the CEO role.
Interestingly enough, Klaros Group, which Hartheimer’s LinkedIn still shows he is a senior advisor to, has consulted for another bank involved in the Synapse disaster, according to sources with knowledge of the matter: Lineage.
There is no love lost between the two banks. Evolve has repeatedly implied that other Synapse “ecosystem” banks, specifically Lineage and AMG, are responsible for as much as $95 million in missing customer funds.
Lineage and AMG have expressed “disappointment” at what they say is Evolve’s “misleading” framing of issues related to the Synapse disaster, calling Evolve’s implication that the two hold substantial amounts of end user funds “irresponsible and disingenuous.”
Earlier in his career, Hartheimer served as the associate and then deputy director for the FDIC’s Division of Resolutions, where, his LinkedIn says, he created a 350-person team to analyze and sell failing banks. During his more than four-year stint from 1991 to 1995 at the FDIC, Hartheimer oversaw the sale of more than 200 banks.
There are basically four paths Hartheimer can try to steer Evolve through:
invest the time, effort, and money into building the infrastructure, controls, and staff necessary to operate Evolve’s banking-as-a-service business in a safe, sound, and compliant manner;
clean up the Synapse mess and wind down the banking-as-a-service business, but work to steady the ship and preserve Evolve as a standalone bank;
clean up the Synapse mess and wind down the banking-as-a-service business in order to sell the bank;
or clean up the Synapse mess and wind down the banking-as-a-service business to sell the bank through an FDIC receivership process, if the bank is at risk of failing and cannot find a buyer willing to accept the litigation risk and significant contingent liabilities.
Industry insiders have speculated the FDIC has been reluctant to put Evolve into receivership because the agency is ill-prepared and unable or unwilling to unwind the mess the bank has become.
Bringing in a new CEO for a bank facing troubles as significant as Evolve is often a prelude to a sale.
But, Hartheimer insists, that’s not what’s happening here. He told a legacy trade publication, “[Evolve] has plenty of liquidity. This is not a bank that is forced to do anything,” continuing to add, “We’re going through changes in the open banking business, like every other baas [sic] bank. We’re improving our technology. We will come out in 2026 being one of the leaders in our technology for fintech customers, and I was not brought in with any sale agenda from the regulators.”
Though some in industry have described Evolve’s lack of due diligence and compliance in its BaaS business as its key feature, rather than as a bug, the consent order it entered into with the Federal Reserve requires regulatory sign off before the bank is permitted to onboard any new partner programs or offer new products, programs, or services to existing partners.
It’s difficult to imagine what fintech or crypto program would choose to work with Evolve, given its problematic history, sub-standard technology, and the onerous requirements of its consent order.
Hartheimer also described Evolve as behaving like a “Boy Scout” in how the bank has handled the Synapse disaster.
That description is difficult to reconcile (pun intended) with Evolve’s actual behavior, which has included taking $8 million in reserve funds for itself, implying without evidence that other Synapse ecosystem banks are withholding money from end users, and refusing to provide basic information on the status of reserve funds, the aggregate amount of money it has disbursed to victims, or the size of the shortfall in funds.
Hartheimer answers to a number of stakeholders, including Evolve employees, and while his impulse to defend his new employer is understandable enough, his disingenuous “Boy Scout” comment risks undermining credibility with other key constituencies — the end users still hoping to see their money again one day, but also the other banks involved in the situation, regulators, and the media.
A spokesperson for Evolve declined a request to clarify Hartheimer’s “Boy Scout” remark.
Hindsight is 20/20
In late August 2023 — about eight months before Synapse collapsed into bankruptcy and Evolve froze users’ access to their funds — this publication chronicled how another of Synapse’s partner banks, FDIC-regulated Lineage, leveraged banking-as-a-service to grow at breakneck speed.
At the time, I wrote:
“In practice, Synapse, its fintech clients, and its partner banks lack the sophistication, technology, and staffing to adequately manage the outsized risks that exist across Synapse’s sprawling collection of programs and their various geographies and product lines.
This is already evident, with a number of Synapse clients being subject to regulatory actions…
Lineage Bank, regulated by the Tennessee DFI and FDIC, with its holding company overseen by the Fed, would seem to be exactly the kind of situation regulators are seeking to avoid.”
Now, a Freedom of Information Act request reveals, the acting Comptroller of the Currency at the time, Michael Hsu, circulated that story within the OCC, including to Senior Deputy Comptroller Grovetta Gardineer, then-Chief of Staff and Senior Deputy Comptroller Lauren Oppenheimer, then-Senior Advisor to the Acting Comptroller Steven Key, and Senior Policy Advisor Javier Maymir.
While the OCC does not supervise Lineage Bank, which was the focus of the story, it does oversee two other banks that partnered with Synapse that were mentioned in the story: AMG National Trust and American Bank.
It’s unclear what actions the OCC took following this reporting, if any, to assess the risks Synapse posed to AMG or American. A representative for the OCC declined to respond to questions or provide a comment.
A representative for Evolve Bank & Trust declined to comment for publication.
A representative for Klaros Group declined to comment for publication.
Everything Else: Dueling Trade Association Statements Plead For Trump To Intervene in Open Banking Fight, Banks Have GENIUS Regrets
Last week also saw tit-for-tat statements from a trade group supporting preserving the existing open banking rule, the Financial Technology Association, and from a collection of banking trade groups’ pushing back on FTA, as well as a chorus of “better late than never” complaints about “loopholes” in the stablecoin issuer law known as the GENIUS Act.