Excerpts of the Supreme Court’s Opinion on Nonprofit Telemarketing Fraud

Following are excerpts of the main opinion the Supreme Court issued last week in Madigan v. Telemarketing Associates (Case No. 01-1806).

The Supreme Court ruled unanimously that the State of Illinois has the right to charge Telemarketing Associates

with fraud over its solicitations on behalf of VietNow, a veterans organization. The main opinion was written by Justice Ruth Bader Ginsburg. Justices Antonin Scalia and Clarence Thomas wrote a concurring opinion.

This case concerns the amenability of for-profit fundraising corporations to suit by the Attorney General of Illinois for fraudulent charitable solicitations.

The controversy arises from the fundraisers’ contracts with a charitable nonprofit corporation organized to advance the welfare of Vietnam veterans; under the contracts, the fundraisers were to retain 85 percent of the proceeds of their fundraising endeavors. The State Attorney General’s complaint alleges that the fundraisers defrauded members of the public by falsely representing that “a significant amount of each dollar donated would be paid over to [the veterans organization] for its [charitable] purposes while in fact the [fundraisers] knew that … 15 cents or less of each dollar would be available” for those purposes.

Complementing that allegation, the complaint states that the fundraisers falsely represented that “the funds donated would go to further … charitable purposes,” when in fact “the amount … paid over to charity was merely incidental to the fund raising effort,” which was conducted primarily “for the private pecuniary benefit of” the fundraisers.

The question presented is whether those allegations state a claim for relief that can survive a motion to dismiss. In accord with the Illinois trial and appellate courts, the Illinois Supreme Court held they did not. That court was “mindful of the opportunity for public misunderstanding and the potential for donor confusion which may be presented with fund-raising solicitations of the sort involved in th[is] case”; it nevertheless concluded that threshold dismissal of the complaint was compelled by this Court’s decisions in Schaumburg v. Citizens for a Better Environment and Riley v. National Federation of Blind of N. C. Those decisions held that certain regulations of charitable subscriptions, barring fees in excess of a prescribed level, effectively imposed prior restraints on fundraising, and were therefore incompatible with the First Amendment.

We reverse the judgment of the Illinois Supreme Court. Our prior decisions do not rule out, as supportive of a fraud claim against fundraisers, any and all reliance on the percentage of charitable donations fundraisers retain for themselves. While bare failure to disclose that information directly to potential donors does not suffice to establish fraud, when nondisclosure is accompanied by intentionally misleading statements designed to deceive the listener, the First Amendment leaves room for a fraud claim. …

Telemarketing Associates, Inc., and Armet, Inc., are Illinois for-profit fundraising corporations wholly owned and controlled by defendant-respondent Richard Troia. Telemarketing Associates and Armet were retained by VietNow National Headquarters, a charitable nonprofit corporation, to solicit donations to aid Vietnam veterans. In this opinion, we generally refer to respondents, collectively, as “Telemarketers.”

The contracts between the charity, VietNow, and the fundraisers, Telemarketers, provided that Telemarketers would retain 85 percent of the gross receipts from donors within Illinois, leaving 15 percent for VietNow. Under the agreements, donor lists developed by Telemarketers would remain in their “sole and exclusive” control. Telemarketers also brokered contracts on behalf of VietNow with out-of-state fundraisers; under those contracts, out-of-state fund raisers retained between 70 percent and 80 percent of donated funds, Telemarketers received between 10 percent and 20 percent as a finder’s fee, and VietNow received 10 percent. Between July 1987 and the end of 1995, Telemarketers collected approximately $7.1 million, keeping slightly more than $6 million for themselves, and leaving approximately $1.1 million for the charity.

In 1991, the Illinois Attorney General filed a complaint against Telemarketers in state court. The complaint asserted common-law and statutory claims for fraud and breach of fiduciary duty. It alleged, inter alia, that the 85 percent fee for which Telemarketers contracted was “excessive” and “not justified by expenses [they] paid.”

Dominantly, however, the complaint concerned misrepresentation.

In the course of their telephone solicitations, the complaint states, Telemarketers misleadingly represented that “funds donated would go to further Viet[N]ow’s charitable purposes.” Affidavits attached to the complaint aver that Telemarketers told prospective donors their contributions would be used for specifically identified charitable endeavors; typical examples of those endeavors include “food baskets given to vets [and] their families for Thanksgiving,” paying “bills and rent to help physically and mentally disabled Vietnam vets and their families,” “jo[b] training,” and “rehabilitation [and] other services for Vietnam vets.”

One affiant asked what percentage of her contribution would be used for fundraising expenses; she “was told 90% or more goes to the vets.” Another affiant stated she was told her donation would not be used for “labor expenses” because “all members are volunteers.” Written materials Telemarketers sent to each donor represented that contributions would “be used to help and assist Viet[N]ow’s charitable purposes.”

The 15 cents or less of each solicited dollar actually made available to VietNow, the Attorney General charged, “was merely incidental to the fund raising effort”; consequently, she asserted, “representations made to donors [that a significant amount of each dollar donated would be paid over to Viet[N]ow for its purposes] were knowingly deceptive and materially false, constituted a fraud[,] and were made for the private pecuniary benefit of [Telemarketers].”

Telemarketers moved to dismiss the fraud claims, urging that they were barred by the First Amendment. The trial court granted the motion, and the dismissal order was affirmed, in turn, by the Illinois Appellate Court and the Illinois Supreme Court. The Illinois courts placed heavy weight on three decisions of this Court: Schaumburg v. Citizens for a Better Environment, 444 U.S. 620 (1980); Secretary of State of Md. v. Joseph H. Munson Co., 467 U.S. 947 (1984); and Riley v. National Federation of Blind of N.C., Inc., 487 U.S. 781 (1988). Each of the three decisions invalidated state or local laws that categorically restrained solicitation by charities or professional fundraisers if a high percentage of the funds raised would be used to cover administrative or fundraising costs.

The Illinois Supreme Court acknowledged that this case, unlike Schaumburg, Munson, and Riley, involves no prophylactic provision proscribing any charitable solicitation if fundraising costs exceeded a prescribed limit. Instead, the Attorney General sought to enforce the State’s generally applicable antifraud laws against Telemarketers for “specific instances of deliberate deception.”

“However,” the court said, “the statements made by [Telemarketers] during solicitation are alleged to be ‘false’ only because [Telemarketers] retained 85% of the gross receipts and failed to disclose this information to donors.” The Attorney General’s complaint, in the Illinois Supreme Court’s view, was “in essence, an attempt to regulate [Telemarketers’] ability to engage in a protected activity based upon a percentage-rate limitation” — “the same regulatory principle that was rejected in Schaumburg[,] Munson, and Riley.”

“[H]igh solicitation costs,” the Illinois Supreme Court stressed, “can be attributable to a number of factors.” In this case, the court noted, Telemarketers contracted to provide a “wide range” of services in addition to telephone solicitation. For example, they agreed to publish a newsletter and to maintain a toll-free information hotline. Moreover, the court added, VietNow received “nonmonetary benefits by having [its] message disbursed by the solicitation process,” and Telemarketers were directed to solicit “in a manner that would ‘promote goodwill’ on behalf of VietNow.”

Taking these factors into account, the court concluded that it would be “incorrect to presume … [any] nexus between high solicitation costs and fraud.”

The Illinois Supreme Court further determined that, under Riley, “fraud cannot be defined in such a way that it places on solicitors the affirmative duty to disclose to potential donors, at the point of solicitation, the net proceeds to be returned to the charity.” Finally, the court expressed the fear that if the complaint were allowed to proceed, all fundraisers in Illinois would be saddled with “the burden of defending the reasonableness of their fees, on a case-by-case basis, whenever in the Attorney General’s judgment the public was being deceived about the charitable nature of a fund-raising campaign because the fund-raiser’s fee was too high.” The threatened exposure to litigation costs and penalties, the court said, “could produce a substantial chilling effect on protected speech.”

The First Amendment protects the right to engage in charitable solicitation. … Like other forms of public deception, fraudulent charitable solicitation is unprotected speech.

The Court has not previously addressed the First Amendment’s application to individual fraud actions of the kind at issue here. It has, however, three times considered prophylactic statutes designed to combat fraud by imposing prior restraints on solicitation when fundraising fees exceeded a specified reasonable level. Each time, the Court held the prophylactic measures unconstitutional. …

The Court’s opinions in Schaumburg, Munson, and Riley took care to leave a corridor open for fraud actions to guard the public against false or misleading charitable solicitations. As those decisions recognized, and as we further explain below, there are differences critical to First Amendment concerns between fraud actions trained on representations made in individual cases and statutes that categorically ban solicitations when fundraising costs run high. Simply labeling an action one for “fraud,” of course, will not carry the day. For example, had the complaint against Telemarketers charged fraud based solely on the percentage of donations the fundraisers would retain, or their failure to alert potential donors to their fee arrangements at the start of each telephone call, Riley would support swift dismissal. A State’s Attorney General surely cannot gain case-by-case ground this Court has declared off limits to legislators.

Portions of the complaint in fact filed by the Attorney General are of this genre. As we earlier noted, however, the complaint and annexed affidavits, in large part, alleged not simply what Telemarketers failed to convey; they also described what Telemarketers misleadingly represented.

Under Illinois law, similar to the Federal Rules of Civil Procedure, “[w]hen the legal sufficiency of a complaint is challenged by a … motion to dismiss, all well-pleaded facts in the complaint are taken as true and [the court] must determine whether the allegations … , when interpreted in the light most favorable to the plaintiff, are sufficient to establish a cause of action upon which relief may be granted.” Dismissal is proper “only if it clearly appears that no set of facts can be proved under the pleadings which will entitle the plaintiff to recover.”

Taking into account the affidavits, and reading the complaint in the light most favorable to the Attorney General, that pleading described misrepresentations our precedent does not place under the First Amendment’s cover.

First, it asserted that Tele-marketers affirmatively represented that “a significant amount of each dollar donated would be paid over to Viet[N]ow” to be used for specific charitable purposes — rehabilitation services, job training, food baskets, and assistance for rent and bills, while in reality Telemarketers knew that “15 cents or less of each dollar” was “available to Viet[N]ow for its purposes.”

Second, the complaint alleged, essentially, that the charitable solicitation was a façade: Although Telemarketers represented that donated funds would go to VietNow’s specific “charitable purposes,” the “amount of funds being paid over to charity was merely incidental to the fund raising effort,” which was made “for the private pecuniary benefit of [Telemarketers] and their agents.”…

Fraud actions so tailored, targeting misleading affirmative representations about how donations will be used, are plainly distinguishable, as we next discuss, from the measures invalidated in Schaumburg, Munson, and Riley: So long as the emphasis is on what the fundraisers misleadingly convey, and not on percentage limitations on solicitors’ fees per se, such actions need not impermissibly chill protected speech. …

The Illinois Supreme Court in the instant case correctly observed that “the percentage of [fundraising] proceeds turned over to a charity is not an accurate measure of the amount of funds used ‘for’ a charitable purpose.” But the gravamen of the fraud action in this case is not high costs or fees, it is particular representations made with intent to mislead. If, for example, a charity conducted an advertising or awareness campaign that advanced charitable purposes in conjunction with its fundraising activity, its representation that donated funds were going to “charitable purposes” would not be misleading, much less intentionally so. Similarly, charitable organizations that engage primarily in advocacy or information dissemination could get and spend money for their activities without risking a fraud charge.

The Illinois Attorney General here has not suggested that a charity must desist from using donations for information dissemination, advocacy, the promotion of public awareness, the production of advertising material, the development or enlargement of the charity’s contributor base, and the like. Rather, she has alleged that Telemarketers attracted donations by misleading potential donors into believing that a substantial portion of their contributions would fund specific programs or services, knowing full well that was not the case. Such representations remain false or misleading, however legitimate the other purposes for which the funds are in fact used.

We do not agree with Telemarketers that the Illinois Attorney General’s fraud action is simply an end run around Riley‘s holding that fundraisers may not be required, in every telephone solicitation, to state the percentage of receipts the fundraiser would retain. It is one thing to compel every fundraiser to disclose its fee arrangements at the start of a telephone conversation, quite another to take fee arrangements into account in assessing whether particular affirmative representations designedly deceive the public.

Our decisions have repeatedly recognized the legitimacy of government efforts to enable donors to make informed choices about their charitable contributions. …

In accord with our precedent, as Telemarketers and their amici acknowledge, in “[a]lmost all of [the] states and many localities,” charities and professional fundraisers must “register and file regular reports on activities[,] particularly fundraising costs.”

These reports are generally available to the public; indeed, “[m]any states have placed the reports they receive from charities and professional fundraisers on the Internet.” Telemarketers do not object on First Amendment grounds to these disclosure requirements.

Just as government may seek to inform the public and prevent fraud through such disclosure requirements, so it may “vigorously enforce … antifraud laws to prohibit professional fundraisers from obtaining money on false pretenses or by making false statements.” High fundraising costs, without more, do not establish fraud. And mere failure to volunteer the fundraiser’s fee when contacting a potential donee, without more, is insufficient to state a claim for fraud.

But these limitations do not disarm States from assuring that their residents are positioned to make informed choices about their charitable giving. Consistent with our precedent and the First Amendment, States may maintain fraud actions when fundraisers make false or misleading representations designed to deceive donors about how their donations will be used.