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Collateral Estoppel and Dischargeability Proceedings Part I

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Under the doctrine of collateral estoppel, once an issue has been actually determined by a court of competent jurisdiction, that determination is conclusive in subsequent litigation based on a different cause of action involving a party to the prior litigation.1 The doctrine of collateral estoppel is a judicially created doctrine that serves the dual purpose of protecting parties from relitigating identical issues with the same party or a person in privity and promoting judicial economy by preventing needless litigation.2 The following are the elements of collateral estoppel:

  1. The issue in the prior litigation and the issue in the dischargeability proceeding are identical;
  2. The bankruptcy issue was actually litigated in the prior action;
  3. The determination of the issue in the prior action was a critical and necessary part of the judgment in that litigation;
  4. The issue must have been determined by a valid and final judgment; and
  5. The burden of persuasion in the discharge proceeding must not be significantly heavier than the burden of persuasion in the initial action.3

    In order for collateral estoppel to apply, the party against whom it is sought to be employed must have had a fair and full opportunity to litigate the issue in the earlier case.4

    The doctrine of collateral estoppel applies in dischargeability proceedings.5 One court has stated:

    Thus, where a court of competent jurisdiction has previously ruled against a debtor upon specific issues of fact that independently comprise elements of a creditor's non-dischargeability claim, the debtor may not seek to relitigate those underlying facts in bankruptcy court.6

    The doctrine of collateral estoppel applies to state court judgments.7 Under the Full, Faith and Credit Clause of Article IV of Section 1 of the United States Constitution and Judicial Code §1738,8 a federal court is directed to refer to the law of the state in which the judgment was rendered when deciding whether to give preclusive effect to the state court judgment.9 Thereafter, considering the preclusive effect of the earlier judgment under state law, the federal court must determine whether a federal statute expressly or impliedly creates an exception to Judicial Code §1738.10

    The Issues Must Be Identical

    In order for collateral estoppel to be applicable, the issues in the two proceedings must be identical.11 Moreover, there must be factual findings on the issue involved in the dischargeability proceeding.12 In Estate of Hamilton v. Nolan,13 the District of Columbia Commission on Human Rights found that the debtor had discriminated against a former employee. The estate of the former employee commenced an adversary proceeding to have the debt declared non-dischargeable pursuant to Bankruptcy Code §523(a)(6). The court held that the doctrine of collateral estoppel was inapplicable. The Commission failed to make findings that the debtor's actions were either willful or malicious.14

    Similarly, in Aston v. Burke,15 the court declined to apply the doctrine of collateral estoppel because the issues in the state court action and the dischargeability proceeding were dissimilar.16

    In Penn-America Insurance Co. v. Himowitz (In re Himowitz),17 the plaintiff sought to have a debt declared non-dischargeable pursuant to Bankruptcy Code §523(a)(4). The bankruptcy court declined to apply the doctrine of collateral estoppel. The district court failed to make precise findings of fact, and therefore it was impossible to determine whether there was an identity of issues. No evidence was presented concerning what facts the district court utilized to enter its judgment, and no explanation was offered concerning why the court found fraud or defalcation in a fiduciary capacity.

    The Issue Must Be Actually Litigated

    Another requirement is that the issue must have actually been litigated.18 The "actually litigated" requirement has been described in the following manner:

    Issue preclusion (collateral estoppel) does not apply unless the issue to be precluded in the subsequent action was actually litigated and decided in the prior action. Only matters that were actually litigated and determined in the first proceeding cannot later be relitigated. For issue preclusion to apply, the particular issue in the prior proceeding must have been actually litigated and actually decided.19

    In Princess House Inc. v. Kraft (In re Kraft),20 the court ruled that the doctrine of collateral estoppel was inapplicable because the prior litigation did not determine whether the debtor had acted maliciously. A jury found that the debtor had interfered with the plaintiff's contractual relationships and wrongfully misappropriated trade secrets. The plaintiff commenced an adversary proceeding to have the debt declared non-dischargeable pursuant to Bankruptcy Code §523(a)(6). The court held that collateral estoppel was inapplicable because the issue of malice, as employed in Bankruptcy Code §523(a)(6), was never before the jury. Consequently, the issue of malice was never actually litigated, and collateral estoppel could not be applied to the prior judgment.

    A confession of judgment may serve as the basis for collateral estoppel in a dischargeability proceeding.21 In Nier v. Hansen (In re Hansen),22 on the eve of the trial the debtor entered into a stipulation and confession of judgment. The debtor admitted the allegations contained in the second and third claims for relief, which were predicated upon fraud. Subsequently, the debtor filed for chapter 7, and the judgment-creditor filed a complaint objecting to the dischargeability of its debt pursuant to Bankruptcy Code §§523(a)(2)(A) and 523(a)(6). The court ruled that the doctrine of collateral estoppel was applicable. The debtor actually had the opportunity to litigate the issues; however, the debtor declined not to expend the resources to litigate the issues or face the possible sanctions.

    Default Judgments Not Sufficient

    Collateral estoppel is not afforded to a prior judgment if the judgment was entered by default.23 A default judgment is not given preclusive effect because no issue has been actually litigated.24 The following observations have been made concerning default judgments and collateral estoppel:

    However, the preponderent view, and we think the better one, is that, as a general proposition, a default judgment has no collateral estoppel effect. To invoke the doctrine of collateral estoppel in default causes is not only an oppressive application of the doctrine, but also misconceives the nature of a default judgment.25

    Bankruptcy courts have declined to apply the doctrine of collateral estoppel in dischargeability proceedings when the judgment in the prior non-bankruptcy proceeding was a default judgment.26 In In re Ianelli,27 a default judgment had been entered against the bankrupt in the U.S. District Court. One of the issues before the court was whether the default judgment would be the basis for applying collateral estoppel in a dischargeability proceeding. The court answered the preceding question in the negative, and it stated:

    The threshold question in the instant case is whether the second requirement [that issue must have been actually litigated] for establishing collateral estoppel has been satisfied. The Court of Appeals for the Second Circuit has specifically endorsed this requirement. "The relevant issue (must have been) actually litigated and determined in the prior" proceeding. In the case at bar no issues were actually litigated because the prior judgment was procured by default. Consequently, the doctrine of collateral estoppel does not bar relitigation by this court of the issues included in the default judgment.28

    Similarly, in Graham v. Billings (In re Billings),29 the issue before Judge Feller was whether a default judgment could be employed as the basis for collateral estoppel in a dischargeability proceeding. Again, the preceding issue was answered in the negative. Judge Feller stated:

    Where, as here, the prior judgment obtained in the non-bankruptcy action was obtained by default, the relevant issues have not been actually litigated and accordingly collateral estoppel does not bar the defendant in the non-bankruptcy action from attempting to prove facts necessary to defeat such an action in the context of a later dischargeability proceeding.30

    A consent judgment may be the basis of collateral estoppel depending on the intent of the parties.31 In Roeder v. Brown (In re Brown),32 the court held that a consent judgment could not act as the basis for collateral estoppel. The court stated:

    The mere recitation by Roeder's lawyer that "judgment creditor acknowledges this debt is non-dischargeable in bankruptcy" may indicate the intent of the lawyer and Roeder, but it does not indicate that Brown had the same intent. Nothing in the documentation shows that Brown, who was unrepresented by counsel, understood or agreed that he would be precluded in a later bankruptcy case from asking the court to determine whether the consent judgment was dischargeable. Accordingly, the court finds that the issues sought to be precluded were not litigated by the parties in the prior state court action and cannot be given preclusive effect.33

    On the other hand, in Klingman v. Levinson,34 the Seventh Circuit held that a consent judgment could be the basis for collateral estoppel. The consent judgment involved the same issues involved in the bankruptcy case, and the defendant was represented in the prior proceeding. If parties to a consent decree indicate their intention that the decree shall terminate the litigation and determine finally certain issues, then their intention should be effectuated. The stipulation provided that the debt would be non-dischargeable. The Seventh Circuit stated:

    In the consent decree entered into in this case, the parties specifically provided that the debt owed to Ms. Klingman would not be dischargeable in any bankruptcy or similar proceeding and that in any subsequent proceeding all of the allegations of the complaint and findings of this court may be taken as trusted and correct without further proof. In this situation, it is certainly reasonable to conclude that the parties understood the conclusive effect of their stipulation in a future bankruptcy proceeding. Consequently, the consent judgment should be given collateral estoppel effect.35

    The Issue Must Be Necessarily Decided

    One of the leading treatises on federal civil procedure has made the following comments concerning issue preclusion and the necessarily decided requirement:

    Issue preclusion attaches only to determinations that were necessary to support the judgment entered in the first action. Two common explanations are offered to justify this requirement. First, the tribunal that decided the first case may not have taken sufficient care in determining an issue that did not affect the result, even though the parties vigorously litigated the issue. Second, appellate review may not be available to ensure the quality of the initial decision.36

    In Mickle v. United States (In re Mickle),37 the court declined to apply the doctrine of collateral estoppel because it was not necessary to the prior litigation for the tax court to determine whether the debtor had attempted to defraud the United States or willfully avoid or defeat the payment of taxes. The determination in the prior proceeding did not establish that the debtor acted fraudulently in filing certain tax returns or that he willfully attempted to evade or defeat any tax. Consequently, the prior judgment could not be employed as collateral estoppel to prove the elements required for a cause of action under Bankruptcy Code §523(a)(1)(C).

    Courts Have Applied Collateral Estoppel When All of the Criteria Have Been Satisfied

    In Freer v. Weinstein (In re Weinstein),38 the beneficiaries of various trusts had obtained a judgment against the debtor for breach of fiduciary duty. The parties made cross-motions for summary judgment. One of the issues before the bankruptcy court was whether the judgment was non-dischargeable under Bankruptcy Code §523(a)(4). The court ruled that the debtor was collaterally estopped from relitigating the issue as to whether he was a fiduciary because that issue was before the state court. Therefore, there were identical issues involved in both actions. The issue of defalcation was also before the state court because the jury found that the debtor had paid himself excessive commissions. The issues were fully litigated because the debtor contested the allegations for several years. The judgment was also a final judgment because all of the debtor's avenues of appeal were exhausted. Finally, the state court's determinations were essential. The plaintiffs' suit for damages and removal of the debtor as trustee were predicated upon the fact that the debtor had breached his fiduciary duty. Under these circumstances, the debtor was estopped from arguing that the requirements of Bankruptcy Code §523(a)(4) were not satisfied.


    Footnotes

    1 Federal Trade Commission v. Wright (In re Wright), 187 B.R. 826, 831 (D. Conn. 1995); Freer v. Weinstein (In re Weinstein), 173 B.R. 258, 267 (Bankr. E.D.N.Y. 1994). Return to article

    2 Meyer v. Rigdon, 36 F.3d 1375, 1379 (7th Cir. 1994). Return to article

    3 Bush v. Balfour Beatty Bahamas Ltd. (In re Bush), 62 F.3d 1319, 1322 (11th Cir. 1995); Meyer v. Rigdon, 36 F.3d 1375, 1379 (7th Cir. 1994). Return to article

    4 Grassgreen v. United States (In re Grassgreen), 177 B.R. 976, 983 (Bankr. M.D. Fla. 1995). Return to article

    5 Wilcox v. Hritz (In re Hritz), 197 B.R. 702, 705 (Bankr. N.D. Ga. 1996); Grassgreen v. United States (In re Grassgreen), 177 B.R. 976, 983 (Bankr. M.D. Fla. 1995). Return to article

    6 Schaffer v. Dempster (In re Dempster), 182 B.R. 790, 799 (Bankr. N.D. Ill. 1995). Return to article

    7 Corn v. Marks (In re Marks), 192 B.R. 379, 383 (E.D. Pa. 1996); Frantz v. Schuster (In re Schuster), 171 B.R. 807, 810 (Bankr. E.D. Mich. 1994). One court has stated:

    Collateral estoppel may be employed in cases involving dischargeability questions, however, if the precise issue was raised in the prior proceeding between the same parties in privity with them, if it was actually litigated, and if its determination was necessary to the outcome in state court.
    Irwin v. O'Bryan (In re O'Bryan), 190 B.R. 290, 295 (Bankr. E.D. Ky. 1995). Another court has stated:
    We believe that the general policy considerations which support the principle of issue preclusion in other contexts are equally present in bankruptcy dischargeability proceedings. Furtherance of judicial economy, reliance on judicial decisions, and the final resolution of disputes all favor this court giving issue preclusive effect to a prior judgment. To do so, moreover, strengthens the relationship between the relationship between state and federal courts.
    Stern v. Dubian (In re Stern), 77 B.R. 332, 335 (Bankr. D. Mass. 1987). Return to article

    8 28 U.S.C. 1738. Return to article

    9 In re Chen, 227 B.R. 614, 625 (D. N.J. 1998); Frantz v. Schuster (In re Schuster), 171 B.R. 807, 810 (Bankr. E.D. Mich. 1994). Return to article

    10 Frantz v. Schuster (In re Schuster), 171 B.R. 807, 810 (Bankr. E.D. Mich. 1994). Return to article

    11 Mickle v. United States (In re Mickle), 207 B.R. 958, 962 (Bankr. M.D. Fla. 1997); 18 Moore, James William, Moore's Federal Practice §132.02[2] (3d ed. 1997). Return to article

    12 The Estate of Hamilton v. Nolan (In re Nolan), 220 B.R. 727, 729 (Bankr. D. D.C. 1998); see, also, Penn-America Insurance Co. v. Himowitz (In re Himowitz), 162 B.R. 109 (Bankr. D. N.J. 1993). Return to article

    13 220 B.R. 727 (Bankr. D. D.C. 1998). Return to article

    14 The court stated:

    It is the plaintiff's burden to prove by a preponderance of the evidence that the debtor's actions were willful and malicious. Although the Commission found that Nolan discriminated against Hamilton, it did not find that her actions were willful or malicious. Neither willfulness nor maliciousness are elements of discrimination. Based on the record that has been submitted to this court, the plaintiff has not proven these elements by way of collateral estoppel.
    Id. at 729-30. Return to article

    15 83 B.R. 716 (Bankr. D. N.D. 1988). Return to article

    16 The court stated:

    The results in the state court action appear to have little to do with conversion. Indeed, the gist of the action is breach of contract. The jury instructions bear heavily on the nature of a contract and its breach and the jury's special verdict specifically found there to be a breach of the dental purchase contract for which damages were awarded.
    Id. at 723. Return to article

    17 162 B.R. 109 (Bankr. D. N.J. 1993). Return to article

    18 Princess House Inc. v. Kraft (In re Kraft), 192 B.R. 735, 737 (Bankr. W.D. Mo. 1996). Return to article

    19 18 Moore, James William, Moore's Federal Practice §132.03[1] (3d ed. 1997). Return to article

    20 192 B.R. 735, 737 (Bankr. W.D. Mo. 1996). Return to article

    21 Nier v. Hansen (In re Hansen), 131 B.R. 167 (D. Colo. 1991). Return to article

    22 131 B.R. 167 (D. Colo. 1991). Return to article

    23 Lee v. United States, 124 F.3d 1291, 1295-96 (Fed. Cir. 1997); Marlee Electronics Corp. v. Antonakis (In re Antonakis), 207 B.R. 201, 204-05 (Bankr. E.D. Cal. 1997); Graham v. Billings (In re Billings), 94 B.R. 803, 808 (Bankr. E.D.N.Y. 1989). Return to article

    24 Meyer v. Rigdon, 36 F.3d 1375, 1379 (7th Cir. 1994); United States v. Gottheiner (In re Gottheiner), 703 F.2d 1136, 1140 (9th Cir. 1983); Hall v. Mady (In re Mady), 159 B.R. 487, 489 (Bankr. N.D. Ohio 1993). Return to article

    25 3 Moore, James William; Vestal, Allan D.; and Kurland, Philip B., Moore's Manual Federal Practice & Procedure §30.05[5] p. 30-102 (1997). Return to article

    26 See, e.g., Hall v. Mady (In re Mady), 159 B.R. 487, 489 (Bankr. N.D. Ohio 1993); Graham v. Billings (In re Billings), 94 B.R. 803, 808 (Bankr. E.D.N.Y. 1989); In re Ianelli, 12 B.R. 561 (Bankr. S.D.N.Y. 1981). Return to article

    27 12 B.R. 561 (Bankr. S.D.N.Y. 1981). Return to article

    28 Id. at 563. Return to article

    29 94 B.R. 803 (Bankr. E.D.N.Y. 1989). Return to article

    30 Id. at 808. Return to article

    31 Roeder v. Brown (In re Brown), 162 B.R. 17 (Bankr. D. Kan. 1993). Return to article

    32 162 B.R. 17 (Bankr. D. Kan. 1993). Return to article

    33 Id. at 19-20. Return to article

    34 831 F.2d 1292 (7th Cir. 1987). Return to article

    35 Id. at 1296. Return to article

    36 18 Wright, Charles Alan, Miller, Arthur R., and Cooper, Edward H., Federal Practice & Procedure §4421 pp. 192-93 (1981). Return to article

    37 207 B.R. 958 (Bankr. M.D. Fla. 1997). Return to article

    38 173 B.R. 258 (Bankr. E.D.N.Y. 1994). Return to article

Journal Date: 
Wednesday, May 1, 2002
Bankruptcy Rule: 

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