Meyer v. RigdonMeyer v. Rigdon
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Robert Rigdon was the president of People’s State Bank of Clay County, Indiana. He was also a member of the Bank’s board of directors and owned a controlling interest in the Bank. In August of 1984, the Federal Deposit Insurance Corporation (“FDIC”) and the Indiana Department of Financial Institutions determined that the Bank was insolvent. Thereafter, the Bank was closed and the FDIC was appointed receiver of the Bank pursuant to
The district court entered a default judgment against Rigdon in the FDIC ease because he failed to respond to the complaint. Thereafter, the FDIC assigned its default judgment to Rigdon’s co-defendants (“Meyer Defendants”) under the terms of a settlement agreement dated July 24, 1989. The Meyer Defendants subsequently filed a motion in the Indiana federal court requesting the court enter a final money judgment against Rigdon based on the default judgment. The district court granted the motion and entered a money judgment against Rig-don in the amount of $1,613,181.43.
In February of 1992, Rigdon filed a bankruptcy petition under chapter seven of the Bankruptcy Code in the United States Bankruptcy Court for the Central District of Illinois. Shortly thereafter, the Meyer Defendants filed a complaint in the bankruptcy court seeking a determination as to whether Rigdon could discharge his debt arising from the Indiana federal court judgment. The Meyer Defendants subsequently filed a mo
(a) A discharge under section 727, 1141, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor from any debt—
(11) provided in any final judgment, un-reviewable order, or consent order or decree entered in any court of the United States or of any state, issued by a Federal depository institutions regulatory agency, or contained in any settlement agreement entered into by the debtor, arising from any act of fraud or defalcation while acting in a fiduciary capacity committed with respect to any depository institution or insured credit union.
Rigdon argued that
Rigdon appealed to the district court, again claiming that
Discussion
We, like the district court, review the bankruptcy court’s factual findings for clear error and its legal conclusions de novo. In re Wiredyne, Inc., 3 F.3d 1125, 1126 (7th Cir.1993). The proper construction of
Applicability of section 52S(a)(ll)
The Bankruptcy Code delineates several exceptions to the normal rule that all debts are dischargeable in bankruptcy. For instance, under
Collateral estoppel is a judge-made doctrine that serves the “dual purpose of protecting litigants from the burden of relit-igating an identical issue with the same party or his privy and of promoting judicial economy by preventing needless litigation.” Parklane Hosiery Co. v. Shore, 439 U.S. 322, 326, 99 S.Ct. 645, 649, 58 L.Ed.2d 552 (1979) (citation omitted). For collateral estoppel to apply, four elements must be met: “(1) the issue sought to be precluded must be the same as that involved in the prior litigation, (2) the issue must have been actually litigated, (3) the determination of the issue must have been essential to the final judgment, and (4) the party against whom estoppel is invoked must be fully represented in the prior action.” La Preferida, Inc. v. Cerveceria Modelo, S.A. de C.V., 914 F.2d 900, 906 (7th Cir.1990).
As Rigdon correctly points out, a default judgment is normally not given preclu-sive effect under the collateral estoppel doctrine because no issue has been “actually litigated.” In re Cassidy, 892 F.2d 637, 640 n. 1 (7th Cir.), cert. denied, 498 U.S. 812, 111 S.Ct. 48, 112 L.Ed.2d 24 (1990). However, because collateral estoppel is a common law creature, it can, of course, be pre-empted by Congressional action.
Pre-emption is essentially an issue of Congressional intent. Allis-Chalmers Corp. v. Lueck, 471 U.S. 202, 208, 105 S.Ct. 1904, 1910, 85 L.Ed.2d 206 (1985) (“The purpose of Congress is the ultimate touchstone.”) (citation omitted). In determining Congress’ intent, we initially focus on the state of the law as it existed prior to the passage of
The simple answer is that Congress wanted to expand the preclusive effect given certain prior actions in bankruptcy discharge exception proceedings. In order to invoke collateral estoppel, an issue must have been “actually litigated” in the prior action. Accordingly, default judgments are not given preclusive effect in subsequent court proceedings. Nor are most consent decrees. Consent decrees, “while settling the issue definitively between the parties, normally do not support an invocation of collateral estoppel.” La Preferida, 914 F.2d at 906 (citations omitted). “The rationale behind this general rule is that issues underlying a consent judgment generally are neither actually litigated nor essential to the judgment.” Id. (citation omitted). Collateral estoppel may only be applied to consent decrees if “ ‘the parties could reasonably have foreseen the conclusive effect of their actions.’” Klingman, 831 F.2d at 1296 (quoting 1B J. Moore, J. Lucas & T. Currier, Moore’s Federal Practice ¶ 0.444[1], at 794 (2d ed. 1984)). See also 18 C. Wright, A. Miller & E. Cooper, Federal Practice & Procedure § 4443, at 382 (1981) (“Issue preclusion does not attach unless it is clearly shown that the parties intended that the issue be foreclosed in other litigation.”). Similarly, settlement agreements not approved by a court are not given preclusive effect.
Administrative agency decisions will only be given preclusive effect under the collateral estoppel doctrine if (1) the original action was properly before the agency, (2) the same disputed issues of fact are before the court as were before the agency, (3) the
The plain language of
Any other interpretation would render
Our reading of
The second part of the bill I would like to briefly mention is the savings and loan section. These are changes to the Bankruptcy Code which close off the bankruptcy escape hatch for bank and thrift insiders whose acts of financial fraud and malice will end up adding perhaps half a trillion dollars to the Federal debt.... Banking regulators will now be able to prosecute these con artists with the needed confidence that the victories won in enforcement proceedings unll not be nullified in bankruptcy proceedings.
136 Cong.Rec. H13288,13289 (daily ed. October 27, 1990) (statement of Rep. Brooks) (emphasis added). Of course, the only way a banking regulator’s victory could be nullified is if a debtor is permitted to discharge a debt arising from his misdeeds. That is a possibility under
Our research has revealed only one case interpreting
The bankruptcy court noted that
Arguably, 523(a)(ll) adds little to the existing state of the law regarding nondis-chargeability. Since fraud can be determined to be nondischargeable pursuant to 523(a)(2) and (4), the fraudulent banker would in most cases be prevented from receiving a discharge of the resulting debt. The difference is that the issue would have to be proven in the bankruptcy court. Further, there is significant case law relative to if and when pre bankruptcy judgments based on fraud govern the issue of dischargeability. Brown v. Felsen, 442 U.S. 127, 99 S.Ct. 2205, 60 L.Ed.2d 767 (1979) [ (holding that the doctrine of res judicata, as opposed to collateral estoppel, does not apply in discharge exception proceedings)]; In re Neely, 125 B.R. 392 ([Bankr.] S.D.N.Y.1991).
Statutory construction requires this Court to assume that Congress knew the state of the law under 523(a)(2) and (4) when it nevertheless decided to addSection 523(a)(ll) to the Code. This Court’s duty is to enforce that section as adopted by Congress.
This court believes that the language of 523(a)(ll) requires that the motion at issue be granted and the Adversary stayed. To construe it otherwise would be to render it essentially meaningless and to cause dupli-cative litigation which would be wasteful of the resources of the Court and the parties. ...
Conducting a full trial on dischargeability in this forum will essentially require all the proofs which will ultimately be introduced in the District Court Case. This would not only be inconvenient to both parties and a significant waste of judicial economy, but it would also raise the specter of inconsistent judgments.
Id. We agree that in order to give meaning to
However, we do not agree with the bankruptcy judge’s subsequent statement in Harris that, “[flollowing a judgment in the District Court Case, this Court may accept or request, in its discretion, further evidence from the parties to supplement the record of the District Court Case.” Id. at 437. Under the plain language of
In summary, we conclude that Congress pre-empted the common law collateral estop-pel doctrine when it enacted
Fiduciary Capacity and Defalcation
The FDIC’s complaint alleged that Rigdon breached his fiduciary duty to the Bank “[i]n managing, conducting, supervising, and directing the bank’s making, supervising and collection of loans....” Because of Rigdon’s conduct, the FDIC alleged that it had suffered losses in its capacity as receiver of the Bank “due to nonpayment and default by debtors and guarantors on imprudently made loans.”
1. Fiduciary Duty
The existence of a fiduciary relationship is a question of federal law under
(1) any director, officer, employee, or controlling stockholder (other than a bank holding company) of, or agent for, an insured depository institution....
2. Defalcation
Rigdon contends that the FDIC’s complaint does not allege that he engaged in acts of “defalcation” within the meaning of
The leading case defining “defalcation” is Central Hanover Bank & Trust Co. v. Herbst. In that case, Judge Learned Hand noted that “[c]olloquially perhaps the word, ‘defalcation,’ ordinarily implies some moral dereliction, but in this context it may have included innocent defaults, so as to include all fiduciaries who for any reason were short in their accounts.... Whatever was the original meaning of ‘defalcation,’ it must here have covered other defaults than deliberate malversations, else it added nothing to the words, ‘fraud or embezzlement.’ ” Id. at 511. The court went on to state, however, that “[w]e do not hold that no possible deficiency in a fiduciary’s accounts is dischargeable; in [In] re Bernard, 87 F.2d 705, 707 [(2nd.Cir.1937)], we said that ‘the misappropriation must be due to a known breach of duty, and not to mere negligence or mistake.’ Although that word [misappropriation] probably carries a larger implication of misconduct than ‘defalcation,’ ‘defalcation’ may demand some portion of misconduct; we will assume arguendo that it does.” Id. at 512.
In interpreting Herbst, courts have split over the question of whether mere negligent acts may be “defalcations.” In In re Johnson, 691 F.2d 249 (6th Cir.1982), the court adopted an “objective standard for finding a defalcation.” Id. at 255. Under this standard, the bankruptcy petitioner is charged with knowledge of the law and his intent or motive is irrelevant in determining whether a debt is dischargeable. According to the court, “creating a debt by breaching a fiduciary duty is a sufficiently bad act to invoke the section 17(a)(4) exception even without a subjective mental state evidencing intent to breach a known fiduciary duty or bad faith in doing so.” Id. at 256. Nonetheless, the court held that “mere negligence or a mistake of fact” is insufficient to constitute a “defalcation.” Id. at 257.
In Carey Lumber Co. v. Bell, 615 F.2d 370 (5th Cir.1980), the Fifth Circuit interpreted the term “misappropriation” as it was used in section 17(a)(4), the predecessor of
Moreover, there is doubt as to the continued validity of the dicta in In re Bernard that misappropriation under section 17(a)(4) may not be found on the basis of “mere negligence or mistake.” In In re Hammond, [98 F.2d 703 (2d Cir.1938), cert. denied, 305 U.S. 646, 59 S.Ct. 149, 83 L.Ed. 418 (1938)] supra, a debt incurred by a bankrupt corporate director who had unlawfully taken advantage of a corporate opportunity that the corporation had been financially unable to take advantage of was held nondischargeable in bankruptcy under section 17(a)(4), despite a complete absence of evidence that the director’s wrongdoing had been intentional. More recently, in Matter of Kawczynski supra, the court wrote that “ ‘[defalcation’ has been interpreted by the Second Circuit to include innocent defaults.” 442 F.Supp. [413] at 418 [ (W.D.N.Y.1977) ]. Thus there is no requirement that a misappropriation must be shown to have been intentional in order to be covered by section 17(a)(4).
Id.
The Fifth Circuit more recently defined the term “defalcation” within the meaning of
By using the word “willful,” the Fifth Circuit has put into question the validity of the Carey Lumber dicta concerning the issue of whether a negligent act may be a “defalcation.” Black’s Law Dictionary 1599 (6th ed. 1990) defines “willful” as “[proceeding from a conscious motion of the will; voluntary; knowingly; deliberate. Intending the result which actually comes to pass; designed; intentional; purposeful; not accidental or involuntary.” According to Black’s, “[a] willful act differs essentially from a negligent act. The one is positive and the other negative.” Id.
A bankruptcy court in the Fifth Circuit recently tried to reconcile Matter of Moreno and Carey Lumber. See In re Gaubert, 149 B.R. 819 (Bankr.E.D.Tex.1992). The Gau-bert court rejected an argument made by the FDIC, based on In re Chavez, 140 B.R. 413 (Bankr.W.D.Tex.1992), that a mere breach of fiduciary duty meets the requirement for establishing a “defalcation.” The court reconciled Moreno and Carey Lumber in the following manner:
As a mere breach of fiduciary duty is negligent, the Moreno court’s use of the term “willful” takes mere breaches of duty out of the defalcation category. On the other side, the Carey Lumber decision demonstrates that a standard that is less than intent is appropriate. It is consistent with the term willful and the purposes of the Bankruptcy Code to impose a standard of recklessness.
Gaubert, 149 B.R. at 827.
The Eleventh Circuit has also recently addressed the perplexing “defalcation” question. In Quaif v. Johnson, 4 F.3d 950 (11th Cir.1993), the court stated the following:
“Defalcation” refers to a failure to produce funds entrusted to a fiduciary. In re Alvey, 56 B.R. 170 (Bankr.W.D.Ky.1985). However, the precise meaning of “defalcation” for purposes of§ 523(a)(4) has never been entirely clear. [In re] Turner, 134 B.R. 646 at 657 [ (Bkrtcy.N.D.Okl.1991)]. An early, and perhaps the best, analysis of this question is that of Judge Learned Hand in Central Hanover Bank & Trust Co. v. Herbst, 93 F.2d 510 (2nd Cir.1937). Judge Hand concluded that while a purely innocent mistake by the fiduciary may be dischargeable, a “defalcation” for purposes of this statute does not have to rise to the level of “fraud,” “embezzlement,” or even “misappropriation.” Id. at 512. Some cases have read the term even more broadly, stating that even a purely innocent party can be deemed to have committed a defalcation for purposes of§ 523(a)(4) . See [In re] McCormick, 70 B.R. [49] at 51 [(Bkrtcy.W.D.Pa.1987)]; American Ins. Co. v. Lucas, 41 B.R. 923 (W.D.Pa.1984).
Id. at 955. The Eleventh Circuit held that the conduct at issue in Quaif “was far more than an innocent mistake or even negligence.” Id. Numerous district and bankruptcy courts have also addressed the question of whether negligent acts may be “defalcations.” Most have concluded that they can.4
Nonetheless, we agree with the Sixth Circuit (and possibly the Fifth) that a
The FDIC’s complaint does not use the magic words “willful” or “reckless.” Nonetheless, we believe that it does allege more than a mere negligent breach of fiduciary duty. For instance, the complaint alleges that:
Despite receiving repeated admonitions and warnings against such practices from federal and state banking authorities and other persons who reviewed the Bank’s procedures, and in contravention of the Bank’s own policies, defendants approved and disbursed loans without adequate underlying information, or supervised and thereby permitted the approval and disbursal of loans without adequate information about the borrower, guarantor and/or the potential collateral. In this manner, loans were approved and disbursed without the following:
(i) completion of applications;
(ii) receipt of financial statements or other required credit information;
(iii) attempts to verify the accuracy of information submitted;
(iv) undertaking or receiving the results of independent credit checks;
(v) performance of independent appraisals or other means of confirming the alleged value of proffered collateral;
526, 529 (Bankr.D.Kan.1983)) (“Defalcation includes a broad range of misfeasance: ... It is the slightest misconduct, and it may not involve misconduct at all. Negligence or ignorance may be defalcation....”). But see, e.g., In re Martin, 161 B.R. 672 (9th Cir. BAP 1993) (“Because a defalcation requires more than a mere failure to use ordinary care...”); In re Reed, 155 B.R. 169, 172 n. 5 (Bankr.S.D.Ohio 1993); In re Stewart, 123 B.R. 817, 819 (Bankr.W.D.Tenn.1991).
(vi) ordering or receiving the results of title searches of assets to be pledged as collateral;
(vii) maintaining current financial information; and
(viii) making loans without adequate margin of security.
We must accept as true the FDIC’s allegation that Rigdon was told before he undertook these actions that they were impermissible. Therefore, the FDIC’s complaint does allege that Rigdon “knowingly” breached his fiduciary duty to the Bank. Since a knowing breach of fiduciary duty is more culpable than a mere negligent breach of duty, we conclude that the FDIC’s complaint does allege a “defalcation” as that term is used in section 523(a)(ll).
Conclusion
The decision of the district court, affirming the bankruptcy court’s disposition, is AFFIRMED.
Notes
. As used in this opinion, “collateral estoppel” is synonymous with the term “issue preclusion,” ” ‘which refers to the effect of a judgment in foreclosing litigation in a subsequent action of an issue of law or fact that has been actually litigated and decided in the initial action.’ ” LaSalle Nat‘l Bank v. County of DuPage, 856 F.2d 925, 930 n. 2 (7th Cir.1988), cert. denied, 489 U.S. 1081, 109 S.Ct. 1536, 103 L.Ed.2d 840 (1989) (quoting Kirk v. Board of Educ., 811 F.2d 347, 351 n. 7 (7th Cir.1987)). The term “collateral estoppel” must be distinguished from the terms “res judicata” or “claim preclusion,” which refer to ” ‘the preclusive effect of a judgment in foreclosing litigation of matters that were or could have been raised in an earlier suit.’ ” Id. The Supreme Court has held that res judicata does not apply in bankruptcy discharge exception proceedings. Brown v. Felsen, 442 U.S. 127, 99 S.Ct. 2205, 60 L.Ed.2d 767 (1979).
. New section 523(a)(12) provides: “(a) A discharge under sections 727, 1141, 1228(a), 1228(b), or 1328(b) of this title does not discharge an individual debtor from any debt — (12) for malicious or reckless failure to fulfill any commitment by the debtor to a Federal depository institutions regulatory agency to maintain the capital of an insured depository institution, except that this paragraph shall not extend any such commitment which would otherwise be terminated due to any act of such agency.”
. The National Credit Union Administration is an independent agency of the executive branch managed by the NCUAB. See
. See, e.g., Laughter v. Speight, 167 B.R. 891, 895 (W.D.Ark.1993) (quoting In re Oot, 112 B.R. 497 (Bankr.N.D.N.Y.1989)) (“Defalcation may be established even though debtor‘s failure to account for money he received while acting in a fiduciary capacity was through ignorance or negligence”); In re Hatfield, C-90-0477 MHP, 1991 WL 498925, at *3-4, 1991 U.S.Dist. LEXIS 7382, at *8, 9 (N.D.Cal.1991), aff‘d, 976 F.2d 736 (9th Cir.1992) (quoting In re Wolfington, 47 B.R. 762, 764 (Bankr.E.D.Pa.1985)) (” ‘Defalcation’ is broadly defined to include ‘the failure of a fiduciary to account for money he received in his fiduciary capacity’ regardless of the fact that such failure may have resulted from ignorance or negligence.“); In re Failing, 124 B.R. 340, 344 (W.D.Okla.1989) (citing In re Cowley, 35 B.R. 526, 529 (Bankr.D.Kan.1983)) (“Defalcation may also result from the debtor’s negligence or ignorance.”); Kwiat v. Doucette, 81 B.R. 184, 190 (D.Mass.1987) (quoting In re Gans, 75 B.R. 474, 490 (Bankr.S.D.N.Y.1987)) (“Whereas fraud under the Bankruptcy Code ‘refers to positive fraud, involving moral turpitude,’ defalcation is broadly defined to include ‘the failure of a fiduciary to account for money he received in his fiduciary capacity’ regardless of the fact that such failure may have resulted from ignorance or negligence.”); In re Smith, 72 B.R. 61, 63 (N.D.Iowa 1987) (citing In re Cowley, 35 B.R.