The New York Attorney General's Office has launched a fraud lawsuit against a former operations head at a Manhattan real estate firm, alleging that he and other employees orchestrated a scheme to illegally deregulate hundreds of rent-stabilized apartments in order to reap larger profits on the free market.

The lawsuit, filed in Manhattan Supreme Court, also says that the former operations head, David Drumheller, and a former employee of the same real estate firm not named as a defendant, together hauled in $1.2 million in kickbacks from contractors used in the scheme.

The suit—which in part seeks to enjoin Drumheller from doing future business in the state related to rent-stabilized apartments—details one type of scheme used to pull rent-stabilized apartments out of the their lower, regulated rents so that tenants could be charged far more.

Drumheller has denied wrongdoing, while the real estate firm has said it was unaware of his alleged actions and has been cooperating with authorities.

In the larger picture, it is part of ongoing city battle over affordable housing and real estate profits, including efforts to deregulate an increasing number of rent-stabilized apartments, sometimes legally and sometimes not. According to news reports, the city has lost tens of thousands of more affordable, rent-regulated apartments over the decades, and abuses of the system happen but are infrequently revealed.

In the lawsuit—brought in part by Attorney General Letitia James pursuant to her parens patriae authority to remedy persistent violations of the city's Rent Stabilization Law and Rent Stabilization Code—James and her staff detail an alleged scheme that centered on Drumheller and others at the real estate firm Newcastle Realty Services calculating in advance how much money had to be spent on an apartment's renovations before Newcastle could increase its rent past the threshold deregulation amount.

Today that threshold amount for New York City apartments stands at $2,774.76, and it has gone up incrementally over the years.

Drumheller, during years when he was the head of operations at Newcastle, and at least one other employee would work with contractors to set labor costs for renovations at the artificial, calculated amount needed to enable the rent to be raised beyond the required thresholds, the complaint says.

In turn, James claims, the contractor would reap a windfall, earning far more than the amount it should have been paid. And Newcastle—which, according to the complaint, serves as managing agent for some 2,500 apartments across the city—would be able to lift the apartment out of rent regulation.

On Friday, Ronn Torossian, a spokesman for Newcastle, said in email that the real estate investment and operations firm “has been cooperating with the attorney general for over a year,” and “we stand with the NYAG in ferreting out bad actors.”

The AG's office did not name Newcastle as a defendant in the lawsuit. In addition, the other former Newcastle employee who allegedly received, along with Drumheller, contractor kickback payments, is not named. That other former employee is referred to in the complaint as “Agent 1.”

In his email, Torrossian also wrote that “as noted in paragraph 87 of the complaint, 'Drumheller and Agent 1 actively worked to conceal the existence of their kickback scheme and never reported the existence of the kickback scheme to any tenants, to anyone else at Newcastle, to any of the owners of Newcastle-managed buildings, or to any purchasers of Newcastle-managed buildings.'”

Moreover, he noted that “Drumheller was fired years ago, and the other employee was fired immediately upon NYAG's disclosure of the wrongdoings.”

Roger Stavis, a Mintz & Gold partner representing Drumheller, said in an email Friday that Drumheller “acted appropriately and lawfully at all times,” and that “we intend to vigorously defend against these false allegations.”

In a news release from Thursday announcing the lawsuit, James said that “engaging in fraud with respect to renovations is a decades-old, devious practice designed to take advantage of tenants throughout New York.”

She added that “my office will work to reregulate the units lost to this fraud, and to ensure that individuals like Drumheller are no longer in a position to abuse the rent regulation system.”

According to the AG's office's 38-page complaint, “the mechanics” of the fraudulent apartment deregulation scheme, which allegedly continued from 2012 to 2016, “were simple.”

“Once a Newcastle-managed apartment became vacant, Drumheller, in consultation with others, determined what [renovations] budget was necessary to achieve high-rent deregulation.”

They knew, the complaint explains, that under rent-stabilization laws “owners and their agents may increase legal regulated rents based on a formula that takes into account the purported cost of improvements”—known as Individual Apartments Improvements, or IAIs—“made to each apartment.”

“Drumheller repeatedly engaged in price fixing before even determining a scope of work or discussing the job with the contractor,” the suit also says, adding that “captured contractors,” which Newcastle used repeatedly and knew well, would be given work “without any input or bidding.”

Moreover, Drumheller and other Newcastle employees sometimes “created false change orders on contractor letterhead in order to claim maximum Individual Apartment Improvements; and they created job proposals on captured contractor letterhead to give the appearance that the captured contractors legitimately bid for the jobs.”

The effect of the scheme, the complaint also explains, was that sometimes similar renovations to similar apartments in the same building had vastly different price tags.

In one example of the alleged scheming described in the complaint, “in 2015 Drumheller set a price for labor of $24,000 for the renovation of a one-bedroom apartment—Apartment 3C—at 86 Fort Washington Avenue in Manhattan.”

“The scope of work was the same as scopes of work for all such renovations, including Apartment F3 that [the contractor] had renovated three years earlier, and the size of Apartment 3C was equivalent to that of F3 at 612 West 144th Street, yet Newcastle paid [the contractor] $18,500 less,” the complaint states.

It then adds that “the difference was that the legal regulated rent for Apartment 3C was already high before the renovation ($1,817.20), and thus Drumheller budgeted less for an IAI. The IAI increased the legal regulated rent to $2,903.72.”

The lawsuit, which was filed May 30, brings claims against the defendants—Drumheller and his closely held company, JBD Realty Services LLC—that include fraud, unjust enrichment and repeatedly violating rent-stabilization laws, according to the AG's office news release.

Among the remedies sought against defendants is enjoinment against Drumheller from engaging in unlawful acts and practices, disgorgement of kickback money, and restitution to tenants.