In re McDonald

• Decision Date: 21 May 1987
• Docket Number: Bankruptcy No. 385-30352-A-7,Adv. No. 386-3309.
• Citation: 73 BR 877
• Parties: In re Daniel E. McDONALD and Phyllis S. McDonald, a/k/a D.E. McDonald, Debtors. J.T. HAILE, Jr., Bert M. Jones, J. Truett Gill and Ed R. Fowler, Plaintiffs, v. D.E. McDONALD, Defendant.
• Court: U.S. Bankruptcy Court — Northern District of Texas

73 B.R. 877 (1987)

In re Daniel E. McDONALD and Phyllis S. McDonald, a/k/a D.E. McDonald, Debtors.

J.T. HAILE, Jr., Bert M. Jones, J. Truett Gill and Ed R. Fowler, Plaintiffs, v. D.E. McDONALD, Defendant.

Bankruptcy No. 385-30352-A-7, Adv. No. 386-3309.

United States Bankruptcy Court, N.D. Texas, Dallas Division.

May 21, 1987.

Aubrey J. Fouts, Carr, Evans, Fouts & Hunt, Lubbock, Tex., for plaintiffs.

David C. Cowden, Grand Prairie, Tex., for debtors/defendant.

OPINION

HAROLD C. ABRAMSON, Bankruptcy Judge.

The Court writes to announce its decision in the above-referenced adversary proceeding.¹ On April 14, 1986, J.T. Haile, Bert M. Jones, J. Truett Gill, and Ed R. Fowler ("Complainants") brought this complaint to determine the dischargeability of a $2,300,000.00 judgment debt. The Debtor, Daniel E. McDonald ("Debtor"), was found to have conspired to fraudulently convert properties of the Complainants in a jury trial to the Federal District Court and the judgment was affirmed by the Fifth Circuit Court of Appeals.²

The Court of Appeals describes the underlying facts in its Opinion affirming the judgment. This Court need not repeat those facts and will only briefly summarize the events that led to the judgment. The Complainants owned a business which operated grocery and convenience stores. They experienced "cash flow" difficulties and sought financing. The Debtor, through several entities and with the aid of James M. Malone and Leslie Hackler, purportedly entered into an arrangement with the Complainants to provide the desired financing. The arrangement was in fact a scheme to take control of the Complainant's business and transfer assets to the control of the Debtor and his confederates. No financing was ever arranged or obtained for the Complainants, but the assets of their business were used for several transactions which benefitted the Debtor and were unrelated to the purported objective of the arrangement. Also, approximately $2,000,000.00 was transferred by James Malone from the business accounts of the Complainants into a Dallas bank account. This money subsequently disappeared. The business, stripped of assets and heavily indebted, was in bankruptcy by 1981.

At the several hearings the Court has held on this matter, the Complainants have alleged this judgment debt to be excepted from discharge under § 523(a)(2) and (a)(6). Yet, their complaint cites only § 523(a)(2). However, because the nature of the complaint is sufficiently clear from the pleading and its incorporated attachments, the Court accepts the complaint as raising both the § 523(a)(2) and (a)(6) objections. In re Vaughn, 462 F.Supp. 1040 (N.D.Tex.1978); In re McGuff, 3 B.R. 66 (Bankr.S.D.Cal.1980); Bankr.R. 7008; Bankr.R. 7009. Moreover, even though Complainants' complaint specifically cites only § 523(a)(2), the parties have addressed the § 523(a)(6) issue and tried it to the court by consent. See D. Frederico Co. v. New Bedford Redevelopment Authority, 723 F.2d 122 (1st Cir.1983); Bankr.R. 7054(a). In essence, the Complainants contend that a debt for "fraudulent conversion" is a non-dischargeable debt.

The Court has before it the Complainants' claim for affirmative relief in the trial Court,³ the jury issues and answers, the judgment of the trial Court and the Opinion of the Court of Appeals affirming that judgment. The transcript of the trial was offered into evidence, but when the Debtor declined to make use of it, the Court released the transcript back to the custody of the Complainants. Complainants urge that collateral estoppel bars the Debtor from contesting the facts essential to their § 523 claims and that based on those facts they are entitled to judgment.

This Court was presented with a somewhat similar situation in Matter of Church, 69 B.R. 425 (Bankr.N.D.Tex.1987). In Church, the Court applied a complicated four part analysis of a judgment debt to determine the collateral estoppel effect of the judgment and the nature of the debt. The inquiry asks: (1) whether courts of the state whose court rendered the subject decision would apply collateral estoppel in a subsequent case, (2) whether the record meets the federal test for the application of collateral estoppel,⁴ (3) whether the prior non-bankruptcy trial was conducted without a view to predetermine dischargeability issues, and (4) whether each component of the judgment debt should be excepted from discharge.

The judgment that forms the basis of the Complainants' case was rendered by a Federal Court exercising diversity jurisdiction. The preclusion law applied in this case is based upon federal common law because the prior judgment was rendered by a Federal Court. Stovall v. Price Waterhouse Co., 652 F.2d 537 (5th Cir.1981); Aerojet-General Corp. v. Askew, 511 F.2d 710 (5th Cir.) reh. den. 514 F.2d 1072 (5th Cir.), cert. den. 423 U.S. 908, 96 S.Ct. 210, 46 L.Ed.2d 137 (1975). Thus, federal common law supplies the standards for the first part of the Court's inquiry above.⁵

These standards are the substance of the second part of the Court's inquiry. Thus, analytically speaking, a Federal Court judgment alleged as a ground for excepting a debt from discharge, is not tested under the full faith and credit statute because federal common law determines the finality and scope of the judgment. Federal common law determines the collateral estoppel effect of a prior judgment according to the three prong test set out in White v. World Finance of Meridian.⁶ See Johnson v. United States, 576 F.2d 606 (5th Cir.1978); Cotton States Mut. Ins. Co. v. Anderson, 749 F.2d 663 (11th Cir.1984).

The Court now takes up the three part test of White v. World Finance of Meridian. The special interrogatories submitted to the jury by the Federal District Court⁷ asked, inter alia, whether the Debtor conspired with James Malone and Leslie Hackler to convert the assets of the Complainants by use of fraudulent representations.⁸

It is true that the jury found that neither James Malone nor Leslie Hackler were acting as the agents of the Debtor. However, the jury also found that the Debtor adopted and ratified their actions and misrepresentations and that he engaged in a conspiracy to convert the Complainants property by use of the representations found by the jury to be both fraudulent and made with "such gross indifference to the rights of another as will amount to a willful or wanton act done intentionally and without just case or excuse."

When the Debtor appealed the judgment, the Court of Appeals for the Fifth Circuit rejected the Debtor's argument stating:

In appealing from the judgment, the principal point made by the sole appellant, McDonald, is that, as a matter of law, he was not liable for the conspiracy found by the jury because he did not participate in any conspiracy, and in any event, the conspiracy which it was alleged he had joined was not one "to convert the assets" of the claimants.

The point is almost frivolous. Our recital of the facts reveals that upon the basis of a preponderance of the evidence the jury was warranted in finding that McDonald, Malone, and Hackler informally and by conduct entered into a common understanding with common purposes, shared by each of them, to use false representation both to defraud the claimants and to convert the claimants\' property to the conspirators\' own use, without the claimants\' consent, and that the conspirators engaged in many overt actions to effectuate their design.

* * * * * * There was ample proof that the appellant McDonald and his confederates, Malone and Hackler, in unison applied, appropriated, and used the claimants\' property for the benefit of the confederates without the consent of the claimants..... There is no merit whatsoever to appellants\' contention that the answer given by the jury to the conspiracy question is inconsistent with jury answers to other questions relating to alleged agency relationships between McDonald and Malone. . . . Often one who is neither a principal nor an agent is a conspirator. . . .

McDonald v. Haile, Cause No. 82-1023, slip op. at 12-15 (5th Cir. August 29, 1983 table).

An examination of jury issues and answers set out in Appendix "A" demonstrates that there can be no doubt that the findings of the jury relating to the misrepresentations made by the conspirators satisfy the criterion for "actual fraud" as that term is used in 11 U.S.C. § 523(a)(2)(A). Compare with In re Hunter, 780 F.2d 1577 (11th Cir.1986). Nor can there be any doubt that the conduct of the conspirators was malicious and the cause of injury to the claimants. See Matter of Quezada, 718 F.2d 121 (5th Cir.1983); In re Cecchine, 780 F.2d 1440 (9th Cir.1986).⁹

It is apparent after examining the record that the factual issues in this discharge proceeding and the issues determined in the prior non-bankruptcy proceedings are identical. It is likewise certain that the issues determined in the prior proceedings were actually litigated and necessary to the resulting judgment. The predicate elements for excepting the debt owed the claimants from discharge under 11 U.S.C. § 523(a)(2)(A) and (a)(6) are all set out plainly in the jury issues and responses. The judgment of the District Court states that James Malone and the Debtor are jointly and severally liable to the claimants for the damages assessed by the District Court based upon the jury findings. The Court of Appeals thoroughly considered the Debtors arguments against the judgment, rejected them, and affirmed the judgment. The bankruptcy court holds that the federal test for the application of collateral estoppel is satisfied.

The Court inquired of Debtor's counsel whether the District Court trial was fair, and the response was in the affirmative. Under the third prong of the Church analysis, the Bankruptcy Court takes a global view of the prior proceedings to determine whether bankruptcy was anticipated and a non-dischargeable judgment debt sought by the creditor....