In re Harper, Bankruptcy No. 91-62029.

Citation146 BR 438
Decision Date10 July 1992
Docket NumberBankruptcy No. 91-62029.
PartiesIn re Mary Ann HARPER, Debtor.
CourtUnited States Bankruptcy Courts. Seventh Circuit. U.S. Bankruptcy Court — Northern District of Indiana

Susan Goldsmith, Whiting, Ind., for debtor.

Douglas Hannoy, Indianapolis, Ind., for claimant.



I Statement of Proceedings

This Chapter 13 case comes before the Court on an Objection filed by the Debtor, Mary Ann Harper (hereafter: "Debtor") on February 3, 1992 to the Proof of Claim filed by Lomas Mortgage, U.S.A., Inc. (hereinafter: "Lomas") on January 30, 1991. Lomas as real estate mortgagee of the Debtor claims that the Debtor owes it $2,331.68 in prepetition mortgage arrears payments ($2,242.00 in regular monthly installments, plus $89.68 in late charges), and $2,389.50 in prepetition attorney's fees for a total of $4,721.18.

At a prehearing conference held on March 4, 1992, the parties agreed there were no contested issues of fact, as to the threshold issue in this contested matter, and the same should be decided as an Agreed Case by briefing the issues of law. That issue was whether the amount of attorney's fees awarded to Lomas by the state court in a prepetition default judgment and decree of foreclosure is res judicata as to the amount of fees subsequently allowable to Lomas in the Debtor's chapter 13 case pursuant to § 506(b) in the event it is found to be an oversecured creditor. See, Order dated March 5, 1992.

On April 2, 1992, Lomas filed its Memorandum of Law, and on April 30, 1992, the Debtor filed her Memorandum of Law.

II Conclusions of Law and Discussion

The threshold legal issue, stated more precisely, is whether the Bankruptcy Court is required, pursuant to Full Faith and Credit Clause (Article IV, Section 1 of the United States Constitution)1, and 28 U.S.C. § 1738,2 to give res judicata (claim preclusion) effect to said state court default judgment in determining what attorney's fees and expenses form a part of Lomas' allowed secured claim versus the Debtor's Chapter 13 estate pursuant to 11 U.S.C. § 506(b).3

Lomas' Memorandum cites Butner v. United States, 440 U.S. 48, 54-57, 99 S.Ct. 914, 917-19, 59 L.Ed.2d 136 (1979), in support of its assertion that this Court should insure that Lomas, as mortgagee, is afforded the same protection it would have under State law, if no bankruptcy had ensued. Thus, it follows, according to Lomas, that the Default Judgment for fees should be held to be res judicata in any subsequent dispute between Lomas and the Debtor.

Butner did not decide the precise issue before the Court. In Butner, the Supreme Court held that property interests are created and defined in state law, and unless some federal interest requires a different result, there is no reason why such interest should be analyzed differently simply because an interested party is involved in a bankruptcy proceeding. Thus, whether an agreement creates a lien is dependent on state law. Matter of Martin Grinding and Machine Works, Inc., 793 F.2d 592, 594 (7th Cir.1986), citing Butner. Both the Ninth Circuit in Matter of 268 Ltd., 789 F.2d 674, 677 (9th Cir.1986), and the fifth Circuit in In re Hudson Shipbuilders, 794 F.2d 1051, 1057-58 (5th Cir.1986), in the context of § 506(b) expressly and correctly rejected the proposition that the Supreme Court's decision in Butner requires the Bankruptcy Court to adhere to state law in determining allowable attorney's fees under § 506(b).

Lomas also cites Heiser v. Woodruff, 327 U.S. 726, 735, 66 S.Ct. 853, 857, 90 L.Ed. 970 (1946). In Heiser v. Woodruff, the Supreme Court recognized the general equitable powers of a bankruptcy court, and the two specific grounds on which a proof of claims based upon a prior judgment could be challenged. The two grounds are (1) want of jurisdiction of the Court which rendered it over the person or the parties or the subject matter of the suit; and (2) procurement of the judgment by fraud. Id. 327 U.S. at 736, 66 S.Ct. at 858. While Heiser recognized these two equitable grounds upon which a prior judgment could be challenged in a bankruptcy court it also expressly held that the bankruptcy court was still bound by the principles of res judicata. Id. 327 U.S. at 737, 66 S.Ct. at 858. See, Kapp v. Naturelle, Inc., 611 F.2d 703, 708 (8th Cir.1979) (Default Judgment, collecting cases); In re Morton, 43 B.R. 215, 217-18 (Bankr.E.D.N.Y.1984).

Thus, if the creditor's claim is predicated upon a pre-petition, state court judgment the claim may be attacked as invalid in the bankruptcy court on the grounds that the court rendering the judgment did not have jurisdiction over the parties or the subject matter of the suit or that the judgment was the product of fraud, collusion or duress, see, In re Fazio, 41 B.R. 865, 867 (Bankr.E.D.Pa.1984), and cases cited therein. However, if the pre-petition state court judgment based on a contract claim is otherwise valid, the court will be bound under the principles of full faith and credit and res judicata to allow the judgment to stand.

This Court has no quarrel with the general legal propositions put forth by Lomas based on Butner and Heiser. However, these two cases are far from dispositive as to the precise legal issue before the Court.

More specifically, Lomas cites Matter of Lagasse, 71 B.R. 551, 554 (Bankr.D.Conn. 1987), and In re Virginia Foundry Co., Inc., 9 B.R. 493, 497 (W.D.Va.1981) for the proposition that to the extent that a security agreement provides for attorney's fees, and to the extent that are allowed and reasonable under state law, the fees should be allowed by the bankruptcy court.

Finally, Lomas cites Werts v. Federal National Mortgage Association, 48 B.R. 980 (E.D.Pa.1985), where the Court held that fees awarded in a state court default judgment was enforceable in a subsequent bankruptcy proceeding. The Werts case is of no assistance to Lomas because it did not implicate the application of § 506(b).

The Debtor in her brief asserts that § 506(b) of the Bankruptcy Code governs an oversecured creditors' right to attorney fees, and that the exclusive federal jurisdiction provided by § 506(b) prevents the bankruptcy court from giving claim preclusive effect to a state court default judgment relating to attorney's fees awarded to the mortgagee for services rendered in connection with a state court mortgage foreclosure suit, citing, In re Korangy, 106 B.R. 82 (Bankr.D.Md.1989), and In re Hudson Shipbuilders, Inc., 794 F.2d 1051 (5th Cir.1986).

This Court has had occasion to address the issue of the res judicata (claim preclusive), or collateral estoppel (issue preclusion) effect of a prepetition, state court judgment in a subsequent bankruptcy proceeding on several occasions. Quite often these issues arise in the context of 11 U.S.C. § 523, and require the application of Brown v. Felsen, 442 U.S. 127, 99 S.Ct. 2205, 60 L.Ed.2d 767 (1979), and Grogan v. Garner, 498 U.S. 279, ___, n. 11, 111 S.Ct. 654, 658, n. 11, 112 L.Ed.2d 755 (1991). See, In re McHenry, 131 B.R. 669 (Bankr. N.D.Ind.1989); In re Hart, 130 B.R. 817 (Bankr.N.D.Ind.1991); In re Diaz, 120 B.R. 967 (Bankr.N.D.Ind.1989); In re Tomsic, 104 B.R. 22 (Bankr.N.D.Ind.1987); In re Rudd, 104 B.R. 8 (Bankr.N.D.Ind.1987); and, In re Guy, 101 B.R. 961 (Bankr. N.D.Ind.1988); In re Schlotman, Case No. 89-60856 (Schlotman v. Affeld, Adv. Pro. No. 89-6117) (J. Lindquist, unpub. opin.) (Bankr.N.D.Ind., April 26, 1990); In re Cifaldi, Case No. 92-61076, (J. Lindquist, unpub. opin) (Bankr.N.D.Ind. June 25, 1992).

When a bankruptcy court must generally give claim preclusive effect to a prior state court judgment was discussed in some detailed in the case of In re Tomsic, 104 B.R. at 22, supra, where the Court stated:

The Supreme Court in examining the "full faith and credit clause" and 28 U.S.C. § 1738 has stated, "a federal court must give to a state court judgment the same preclusive effect as would be given that judgment under the law of the state in which the judgment was rendered". Migra v. Warren City School District Board of Education, 465 U.S. 75, 80, 104 S.Ct. 892, 896, 79 L.Ed.2d 56, 63 (1984). See also, Marrese v. American Academy of Orthopaedic Surgeons, 470 U.S. 373, 105 S.Ct. 1327, 84 L.Ed.2d 274 (1985); McDonald v. West Branch, 466 U.S. 284, 104 S.Ct. 1799, 80 L.Ed.2d 302 (1984); Kremer v. Chemical Construction Corp., 456 U.S. 461, 102 S.Ct. 1883, 72 L.Ed.2d 262 (1982).
In Marrese the Court noted:
The preclusive effect of a state court judgment in a subsequent federal lawsuit generally is determined by the full faith and credit statute, which provides that state judicial proceedings, "shall have the same full faith and credit in every court within the United States . . . as they have by law or usage in the courts of such State . . . from which they are taken." 28 U.S.C. § 1738. This statute directs a federal court to refer to the preclusion law of the state in which judgment was rendered.
Marrese v. Academy of Orthopaedic Surgeons, 470 U.S. at 380, 105 S.Ct. 1327, 1331-32, 84 L.Ed.2d 274.
However, the determination of state issue preclusion rules is a very difficult and complicated matter and as the Chief Justice in his concurring opinion in Marrese, stated:
No guidance is given as to how the District Court should proceed if it finds state law silent or indeterminate on the claim preclusion question. The Court\'s refusal to acknowledge this potential problem appears to stem from a belief that the jurisdictional competency requirement of res judicata doctrine will dispose of most cases like this.
Id. 470 U.S. at 388, 105 S.Ct. at 1336, 84 L.Ed.2d at 286.
The Supreme Court in Allen v. McCurry, 449 U.S. 90, 96, 101 S.Ct. 411, 415, 66 L.Ed.2d 308, 314 (1980), indicated that only a clear congressional intent contrary to 28 U.S.C. § 1738 will permit a federal court to deny the preclusive effect of a state court judgment. In Kremer v. Chemical Construction Corp., 456 U.S. 461 at 467, 467, 102 S.Ct.

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