The founder and former CEO of an investment firm that specializes in debt instruments was arrested Tuesday on federal charges alleging he falsified financial records to fraudulently inflate the value of the funds he managed, allowing him to charge investors millions of dollars in unauthorized fees.

Brendan Ross, 47, of La Canada Flintridge, who founded Direct Lending Investments in 2012, was taken into custody by special agents of the FBI, according to the U.S. Attorney’s Office.

He pleaded not guilty during an arraignment hearing Tuesday and released on a $2 million bond. An Aug. 24 status conference was set.

In conjunction with the unsealing of the criminal case, the U.S. Securities and Exchange Commission filed a civil complaint against Ross, alleging he defrauded investors.

The arrest stems from a grand jury indictment handed down July 30 that charges Ross with 10 counts of wire fraud based on a scheme he allegedly executed between late 2013 and early 2019 to defraud investors in funds managed by DLI, a firm he still owns. Each of the 10 wire fraud counts carries a sentence of up to 20 years in federal prison.

Ross resigned as CEO in March 2019, and soon after the SEC filed a civil complaint against DLI, which resulted in the appointment of a court-ordered receiver in early April 2019, prosecutors said.

By the summer of 2017, only five years after Ross founded DLI, the firm had over $1 billion in assets under management, according to court papers, which state that Ross directed DLI to invest the funds’ assets in, among other things, a company that loaned money to small businesses and retailers.

The DLI funds made money when the loans performed, meaning that the borrowers made timely payments. The indictment alleges that, rather than disclose some of the loans were not performing, Ross falsified monthly reports to make it appear borrowers were making payments.

The so-called payments actually came from fee rebates given by the company originating the loans. By lying about the true status of the loans, Ross caused DLI to overstate the value of these loans on the funds’ books and fraudulently inflate the funds’ value, according to the indictment.

Specifically, Ross allegedly caused the monthly asset values of the funds to be cumulatively inflated by more than $300 million over the course of about four years. By fraudulently inflating the value of the funds, Ross was able to collect millions of dollars in fees he otherwise would not have been able to charge to clients, according to the indictment.

To further his scheme and help conceal it, Ross arranged for the sale of $55 million of the loans to a third-party buyer in the summer of 2017, prosecutors allege. Ross once again inflated the value of the loans by lying about their status, falsely telling the buyer that borrowers had been making payments on many of these loans, according to the indictment.

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