[T]he discovery obtained in this action may be used solely for purposes of this litigation and may not be shown, distributed or disseminated to any other person or otherwise used for any purpose other than for impeachment purposes in another proceeding or in connection with a perjury prosecution arising out of the defendants' deposition testimony. However, the government may use information derived from this action against other individuals or entities in any other proceeding.The Magistrate Judge thought this was the appropriate balancing of the competing needs for the civil litigation and the defendants' potential Fifth Amendment privilege.
The Government appealed the Protective Order to the district judge.
The district judge started the analysis as follows:
This discovery appeal presents an interesting issue at the intersection of a court's power to issue a protective order prohibiting the use of discovery obtained in a civil litigation in other proceedings, and a party's constitutional right to assert the Fifth Amendment privilege against self-incrimination in a civil enforcement action brought by the government. First, under Federal Rule of Civil Procedure 26(c)(1)(B), a court "may, for good cause, issue an order to protect a party or person from annoyance, embarrassment, oppression, or undue burden or expense" that "specif[ies] terms . . . for the disclosure or discovery." Second, "there is no question that an individual is entitled to invoke the privilege against self-incrimination during a civil proceeding . . . [a]nd this means that a civil litigant may legitimately use the Fifth Amendment to avoid having to answer inquiries during any phase of the discovery process." 4003-4005 5th Ave., 55 F.3d at 82 (citations omitted). If a defendant in a civil proceeding chooses to invoke the Fifth Amendment as a result of an overlapping criminal investigation, such defendant risks an adverse inference from his assertion of the privilege. Louis Vuitton Malletier S.A. v. LY USA, Inc., 676 F.3d 83, 97-98 (2d Cir. 2012).
In a civil enforcement action like the case against defendants brought by the government, the defendants face a dilemma: remain silent and allow the injunction to be entered against them or testify in their defense and expose themselves to criminally incriminating admissions. See 4003-4005 5th Ave., 55 F.3d at 83; Sterling Nat'l Bank v. A-1 Hotels Int'l, Inc., 175 F. Supp. 2d 573, 578 (S.D.N.Y. 2001) ("There is no question that any defendant facing parallel criminal and civil litigation is hard put to decide whether to waive the privilege and give potentially damaging testimony or to assert it at the risk of having a Court or jury draw adverse inferences against him in the civil case."). The injunction at issue sought by the government here does not simply enjoin the defendants from engaging in illegal conduct, but it also seeks to enjoin them from preparing or filing federal tax returns for any person or entity other than themselves and advising or assisting others with respect to federal tax matters or forms. (See Compl. at 1, 14-15.) As defendants presumably rely on their work involving federal tax matters for their livelihood, defendants have a significant stake in defending this lawsuit.
In dealing with the invocation of the Fifth Amendment in the similar context of a civil forfeiture action brought by the government while a parallel criminal investigation or case is also pending or may be pending, the Second Circuit has recognized:
[D]istrict courts should make special efforts to accommodate both the constitutional [privilege] against self-incrimination as well as the legislative intent behind the forfeiture provision. And, in so doing, trial courts should not disregard the fact that the plaintiff in forfeiture actions is the Government, which controls parallel criminal proceedings in federal court and also possesses the power to grant some forms of immunity.
4003-4005 5th Ave., 55 F.3d at 83 (citations omitted) (internal quotation marks omitted) (citing SEC v. Graystone Nash, Inc., 25 F.3d 187, 193-94 (3d Cir. 1994) ("Courts must bear in mind that when the government is a party in a civil case and also controls the decision as to whether criminal proceedings will be initiated, special consideration must be given to the plight of the party asserting the Fifth Amendment.")). "[H]ow [a trial court] should react to any motion precipitated by a litigant's assertion of the Fifth Amendment in a civil proceeding -- necessarily depends on the precise facts and circumstances of each case." Id. at 85.Often in resolving these competing considerations, the civil court will stay the civil proceedings pending resolution of the criminal investigation and, if commenced, criminal prosecution. But, as in this type of case, there are competing considerations that mitigate against a stay -- specifically the defendants potential ongoing promotion of the allegedly fraudulent shelter. So, the court said:
The Second Circuit has stated that the fact that the government is a party to a civil action does not necessarily require a court to stay the action during a parallel criminal proceeding or enter a protective order keeping a defendant's testimony from being used in any other proceeding, but that courts "must explore the feasibility and fairness of accommodations of this sort." Id. at 83 & n.4; see also Madanes v. Madanes, 186 F.R.D. 279, 287 (S.D.N.Y. 1999) ("One means of accommodation is an order shielding discovery from disclosure to third parties."). Stated differently, the Second Circuit has explicitly counseled courts to consider orders such as the Protective Order as an accommodation to defendants that are entitled to assert their Fifth Amendment rights in a civil lawsuit involving the government. With this legal background in mind, the court will now address each of the government's objections to the Protective Order.The Court then addressed the Government's specific complaints about the Protective order:
1. The Protective Order did not grant impermissible Use Immunity:
The Government made a separation of powers argument that the practical and legal effect of the order was to grant use immunity with respect to the discovery that would be permitted under the Protective Order. The Court noted that in Andover Data Servs. v. Statistical Tabulating Corp., 876 F.2d 1080 (2d Cir. 1989), the Second Circuit declined to reach the issue, but seemed to affirm a prior case where third parties voluntarily testified in a case where there was such an extant protective order. But, that, in any event the issue was premature here because the defendants had not asserted their Fifth Amendment privilege. The defendants are still entitled to assert their Fifth Amendment privilege. Hence, at this point in the district court's analysis, the Magistrate Judge had not erred.
The Government did raise Kastigar concerns where, in the criminal proceeding, the burden will be on the Government to disprove that any portion of its case arose from the discovery subject to the Protective Order. The judge addressed the Government's Kastigar concerns:
As previously discussed, Magistrate Judge Go did not compel the government to immunize the defendants, but has only entered a protective order limiting the use against the defendants of any discovery obtained to this litigation. Even if the government had a burden pursuant to Kastigar v. United States, 406 U.S. 441 (1972), of showing that any discovery it obtained in this case was not the source of any evidence it presented in a subsequent criminal case,4 the government provides only conclusory allegations that such a requirement "could significantly jeopardize a possible criminal prosecution of defendants" and that "the obstacles posed in any possible criminal prosecution will be substantial." (Gov't Mem. at 9.) Indeed, because the government opposed a stay and chose to proceed with discovery in this case while its criminal investigation is pending, it cannot now complain that it would face substantial obstacles in proving its criminal case if discovery in this case is not permitted to be used in the criminal case. (See ECF No. 14, Memorandum of Law in Support of United States' Motion for Discovery at 4-9 ("Gov't Disc. Mot.") (arguing against a stay of this case).)2. The Protective Order Does not Impermissibly Force the Government to Choose Between Civil and Criminal Enforcement.
As discussed previously, the government has not adequately demonstrated that the Protective Order compromises a future criminal prosecution due to the possibility of a Kastigar evidentiary burden. Additionally, the fact that the government may bring parallel civil and criminal proceedings does not mean that it is entitled to parallel proceedings without any restrictions on its use of discovery from the civil action in the criminal action, particularly where there are special circumstances present, like here, such as defendants proceeding without counsel. See Kordel, 397 U.S. at 12.
The government also argues that the dilemma faced by the defendants here — whether to testify and risk admissions of criminal conduct or invoke the Fifth Amendment and risk an adverse inference — is "one that every defendant in a civil case must face when the conduct at issue potentially implicates criminal conduct." (Gov't Mem. at 9.) Although the Second Circuit has recognized that "[a] defendant has no absolute right not to be forced to choose between testifying in a civil matter and asserting his Fifth Amendment privilege," the Second Circuit emphasized that "[t]he existence of a civil defendant's Fifth Amendment right arising out of a related criminal proceeding thus does not strip the court in the civil action of its broad discretion to manage its docket" by issuing or denying a stay of the civil case. Louis Vuitton Malletier S.A., 676 F.3d at 98-99. In other words, the Fifth Amendment dilemma faced by a defendant does not require a court to stay a civil case during a pending criminal investigation, see id., nor does the fact that the government is a party to a civil case require a court to issue a protective order shielding the use of discovery in other proceedings, 4003-4005 5th Ave., 55 F.3d at 84 n.4. Nevertheless, courts "must explore the feasibility and fairness of accommodations of this sort," even if such accommodations would curtail the government's ability to bring parallel civil and criminal proceedings against the same defendant. See id.
Accordingly, the fact that it is not unconstitutional to force a civil defendant to choose between testifying and invoking his Fifth Amendment rights does not mean that a protective order such as one issued here cannot satisfy the "good cause" requirement of Rule 26(c), particularly in light of the "special efforts" courts should make to accommodate the privilege against self-incrimination in civil enforcement actions brought by the government. See id. at 83.5 Magistrate Judge Go thus did not clearly err in granting the Protective Order despite the potential burden it may place on the government's ability to bring parallel civil and criminal proceedings, nor is the Protective Order contrary to law on this basis.3. The Protective Order Was Improvidently Granted
In the Discovery Order, Magistrate Judge Go considered the appropriateness of staying the civil action pending the outcome of the criminal investigation and the Protective Order as possible accommodations to protect the pro se defendants' rights. After determining that a stay should not be granted, Magistrate Judge Go issued the Protective Order to "minimize the prejudice to defendants by having to choose between risking an adverse inference being drawn against them in this action and waiving their Fifth Amendment rights." (Discovery Order at 10.)
Based on the Second Circuit's decision in 4003-4005 5th Ave., the court finds that Magistrate Judge Go did not clearly err in sua sponte considering the Protective Order as a possible accommodation and issuing it to minimize the prejudice to pro se defendants from choosing between an adverse inference or incriminating themselves in the pending criminal investigation - a dilemma that is difficult for any defendant let alone defendants proceeding pro se. Considering the nature of the proceeding, the civil action here seeks to permanently enjoin the defendants from, inter alia, promoting and implementing an alleged tax fraud scheme that may subject them to criminal liability. The defendants' deposition testimony and answers to interrogatories in this action could thus very well incriminate them in a criminal case because both arise from the same factual nucleus. Moreover, the denial of a stay and the issuance of the Protective Order facilitate the giving of testimony and strike a fair balance between the parties by allowing the civil action to go forward while at the same time accommodating the defendants' rights by permitting them to present evidence in their defense without having that evidence incriminate them in a subsequent criminal prosecution.\
The court finds, however, that the Protective Order is contrary to law in two respects. First, there is no evidence in the record that the pro se defendants have yet asserted their Fifth Amendment rights against self-incrimination in this case or intend to do so (see Gov't Mem. at 5 n.2), and thus it was premature for Magistrate Judge Go to issue the Protective Order without considering "how and when the privilege was invoked." 4003-4005 5th Ave., 55 F.3d at 84. If the defendants decide to assert their Fifth Amendment rights and risk an adverse inference despite the issuance of the Protective Order, the Protective Order would not "further the goal of permitting as much testimony as possible to be presented" and it [*26] would thus not be appropriate to shield whatever discovery the government is able to obtain from use in other proceedings. Id. On the other hand, if the defendants would have asserted their Fifth Amendment privilege but voluntarily testify in reliance on the Protective Order, see Andover Data Serv., 876 F.2d at 1084, the Protective Order would serve the important purposes of facilitating testimony and accommodating defendants' rights and "good cause" would exist for its issuance under Rule 26(c).
Magistrate Judge Go must therefore determine whether the defendants intend to assert their Fifth Amendment privilege against self-incrimination in the absence of the Protective Order, and if so, whether the defendants are willing to voluntarily testify in reliance on the Protective Order and undertake the risk that the Protective Order might be overturned or modified at a subsequent time. See Andover Data Serv., 876 F.2d at 1083-84. Only if the answers to both of those questions are yes should the Protective Order remain in place.
Second, the court agrees with the government that the Protective Order is contrary to law because it is not narrowly tailored to achieve its goal of "minimiz[ing] the prejudice to defendants by having to choose between risking an adverse inference being drawn against them in this action and waiving their Fifth Amendment rights." (Discovery Order at 10; see Gov't Mem. at 12-14.) The Protective Order states that, with respect to the defendants, "the discovery obtained in this action may be used solely for purposes of this litigation." (Discovery Order at 9-10.) Because the Protective Order does not differentiate between discovery sought from the defendants that may implicate their Fifth Amendment rights and the discovery sought from third parties — which has involved multiple depositions to date (Gov't Disc. Mot. at 4) — the Protective Order is overbroad and does not adequately consider "the potential for harm or prejudice to" the government. 4003-4005 5th Ave., 55 F.3d at 84. By shielding all discovery obtained in this litigation from use in any other proceedings against the defendants, the Protective Order imposes an unnecessary burden on the government to protect the disclosure of discovery obtained from third parties, for which the defendants could not assert their Fifth Amendment privilege. Therefore, to the extent the Protective Order remains in place, it must be limited to discovery sought from and provided by the defendants that potentially implicates their Fifth Amendment rights, including but not limited to deposition testimony, responses to interrogatories, and/or document productions in response to the government's requests.7
In order to remedy the overbroad nature of the Protective Order and certain ambiguities identified by the government (see Gov't Mem. at 13-14), the Protective Order is modified as follows:
Discovery obtained in this action from the defendants may be used solely for the purposes of this litigation or for impeachment purposes in another proceeding or in connection with a perjury prosecution arising out of the defendants' deposition testimony. Other than for these limited purposes, discovery obtained from the defendants may not be shown, distributed, or disseminated to any other person by the government. However, the government may use information derived from this action against other individuals or entities in any other proceeding.
This modification of the Protective Order adequately addresses the potential for harm or prejudice to the government by limiting its scope to only discovery that potentially implicates the defendants' Fifth Amendment rights, while maintaining the goals of facilitating testimony and minimizing prejudice to the defendants.