Ansari v. Pahlavi ( 1997 )

PUBLISHED
UNITED STATES COURT OF APPEALS
FOR THE FOURTH CIRCUIT
In Re: AHMAD ALI MASSOUD ANSARI,
Debtor.
REZA PAHLAVI; MEDINA DEVELOPMENT
COMPANY, No. 96-1519
Plaintiffs-Appellees,
v.
AHMAD ALI MASSOUD ANSARI,
Defendant-Appellant.
Appeal from the United States District Court
for the Eastern District of Virginia, at Alexandria.
Claude M. Hilton, District Judge.
(CA-95-1423-A, BK-93-11245)
Argued: April 7, 1997
Decided: May 8, 1997
Before RUSSELL, WILKINS, and MOTZ, Circuit Judges.
_________________________________________________________________
Affirmed by published opinion. Judge Motz wrote the opinion, in
which Judge Russell and Judge Wilkins joined.
_________________________________________________________________
COUNSEL
ARGUED: Steven Brett Ramsdell, TYLER, BARTL, BURKE &
ALBERT, P.L.C., Alexandria, Virginia, for Appellant. Robert Hough-
wout Loftus, MCCANDLISH & LILLARD, P.C., Fairfax, Virginia,
for Appellees. ON BRIEF: Thomas P. Gorman, TYLER, BARTL,
BURKE & ALBERT, P.L.C., Alexandria, Virginia, for Appellant.
_________________________________________________________________
OPINION
DIANA GRIBBON MOTZ, Circuit Judge:
The question presented here is whether the district court properly
held that a default judgment entered by a Virginia state court was
entitled to collateral estoppel effect in a subsequent federal bank-
ruptcy case. Because the law of the state where the original litigation
occurred controls the preclusive effect of its judgments in federal
court and because Virginia law would allow collateral estoppel in
these circumstances, we affirm the judgment of the district court.
I.
In April 1990, Reza Pahlavi, the son and heir of the former Shah
of Iran, and his corporation, Medina Development Company (collec-
tively "Pahlavi"), filed suit against Pahlavi's former financial adviser,
Ahmad Ali Massoud Ansari ("Ansari"), in the Circuit Court of Fair-
fax County, Virginia. Pahlavi asserted that Ansari had committed
fraud and breached his fiduciary duties, and sought an accounting and
damages. After the parties engaged in discovery, in February 1991,
that court issued an order finding that Ansari did act as a fiduciary for
Pahlavi and referring the case to a commissioner for an accounting.
The parties continued to engage in discovery and the Commis-
sioner held numerous hearings. However, Ansari's dilatory tactics
stalled any accounting. Eventually, on October 24, 1991, the state
court issued an opinion letter, in which it found that Ansari had will-
fully disregarded multiple discovery orders and entered a default
judgment for Pahlavi. The state court referred the case back to a com-
missioner for a calculation of compensatory damages; in doing so, the
court ordered that all of the allegations in Pahlavi's complaint be
taken as true.
2
Following more hearings, the commissioner issued a detailed
report recommending that Pahlavi be awarded over six million dollars
in compensatory damages. On September 2, 1992, after considering
exceptions to that report, the state court confirmed it and awarded
Pahlavi $7,277,425.56 in compensatory damages. Two months later,
the state court held an evidentiary hearing as to punitive damages and
at its conclusion awarded Pahlavi an additional $2,000,000 in punitive
damages. The final decree awarding the compensatory and punitive
damages was entered on February 26, 1993.
A month later, in March 1993, Ansari filed a petition for voluntary
bankruptcy under Chapter 7. Pahlavi then filed this adversary pro-
ceeding in the bankruptcy case, seeking a declaration that the dam-
ages awarded in the state court judgment were non-dischargeable in
the bankruptcy action.
The bankruptcy court granted Pahlavi summary judgment as to the
compensatory damages award, finding that the award was entitled to
collateral estoppel effect in the bankruptcy proceedings. The court
concluded that the default judgment established that Ansari's debt to
Pahlavi arose from fraud or defalcation, which Ansari committed
while acting as a fiduciary to Pahlavi. Thus, the court held that the
compensatory damage award was nondischargeable under 11 U.S.C.
§ 523(a)(4) (1994), which prohibits the discharge of any debt "for
fraud or defalcation while acting in a fiduciary capacity." The court
denied summary judgment as to the punitive damages award, finding
that it needed further evidence to determine whether that award was
also nondischargeable. The bankruptcy court then entered final judg-
ment as to the compensatory damage award, staying all other claims
pending resolution of the appeal of its determination on that issue. On
appeal, the district court affirmed.
II.
Ansari maintains that the bankruptcy court and the district court
erred in applying the collateral estoppel doctrine. He asserts that state
court default judgments cannot act as collateral estoppel in subse-
quent federal bankruptcy dischargeability proceedings.
We have previously explored the proper approach to this question,
explaining:
3
In Grogan v. Garner, [498 U.S. 279, 284 & n. 11 (1991)]
the Supreme Court concluded explicitly that principles of
collateral estoppel apply in dischargeability proceedings in
bankruptcy. In determining the preclusive effect of a state-
court judgment, the federal courts must, as a matter of full
faith and credit, apply the forum state's law of collateral
estoppel. . . . "Congress has specifically required all federal
courts to give preclusive effect to state-court judgments
whenever the courts of the State from which the judgments
emerged would do so."
Hagan v. McNallen (In re McNallen), 62 F.3d 619, 624 (4th Cir.
1995) (quoting Allen v. McCurry, 449 U.S. 90, 96 (1980)). Thus, in
order to determine whether the bankruptcy court correctly applied
collateral estoppel principles, we must examine the law of Virginia,
where the judgment relied upon originated.
A.
The Virginia Supreme Court recently defined the elements of col-
lateral estoppel in TransDulles Center, Inc. v. Sharma, 472 S.E.2d
274 (Va. 1996):
For [collateral estoppel] to apply, the parties to the two pro-
ceedings, or their privies, must be the same; the factual issue
sought to be litigated actually must have been litigated in the
prior action and must have been essential to the prior judg-
ment; and the prior action must have resulted in a valid,
final judgment against the party sought to be precluded in
the present action. Glasco v. Ballard, [452 S.E.2d 854, 855
(Va. 1995)]. Additionally, collateral estoppel in Virginia
requires mutuality . . . .
TransDulles, 472 S.E.2d at 275.
Ansari does not dispute that the state court default judgment
against him meets the majority of Virginia's requirements for collat-
eral estoppel: identical parties, a valid, final judgment, and mutuality.
Ansari argues, however, that because the state court judgment was a
4
default judgment entered as a discovery sanction, the parties never
"actually litigated" Ansari's fiduciary status or whether a defalcation
occurred, and, in any event, determination of those issues was not "es-
sential" to the state court's judgment.
In TransDulles, the Virginia Supreme Court discussed at length
whether and under what circumstances a default judgment can be
regarded as "actual litigation" of "essential" issues in a prior action for
collateral estoppel purposes. Therefore, TransDulles controls our
inquiry here.
In TransDulles, a landlord brought suit against a tenant for posses-
sion of commercial property and for delinquent rent and fees.
TransDulles, 472 S.E.2d at 275. The tenant did not appear in court at
the scheduled trial, and the landlord "presented testimonial evidence
and exhibits in the tenant's absence." Id. The trial court entered a
default judgment against the tenant for back rent and fees, as well as
awarding possession to the landlord. Id. The tenant did not appeal and
the judgment became final. Id. A year later the landlord sued the ten-
ant again for the rent that had accrued under the lease since the previ-
ous judgment. The state court refused to apply collateral estoppel to
the issue of the tenant's liability for the rent, and entered judgment for
the landlord; it held that "a default judgment does not actually litigate
issues for the purposes of collateral estoppel." Id.
On appeal to the Virginia Supreme Court, the tenant argued that,
as evidenced by the Restatement of Judgments, "[a] default judgment
cannot be used for collateral estoppel purposes, because no issues are
``actually litigated.'" Id. at 276 (quoting United States v. Ringley, 750
F. Supp. 750, 759 (W.D. Va. 1990), and citing Restatement (Second)
of Judgments § 27 cmt. e (1982)). The Virginia Supreme Court, how-
ever, expressly rejected the "view typified by the Restatement."
TransDulles, 472 S.E.2d at 276. It concluded that "Virginia law does
not support a blanket exemption from the application of collateral
estoppel in the case of a default judgment." Id. The tenant also con-
tended that because he had not personally appeared in court before
entry of the default judgment, no issue had been actually litigated.
Again, the Virginia Supreme Court "disagree[d] with the tenant's
argument." Id. Rather, it reasoned that because "documentary evi-
dence was presented ex parte in the district court hearing" the neces-
5
sary issues had been actually litigated. Id. Accordingly, the
TransDulles court concluded that the default judgment did act as col-
lateral estoppel in the second action, and reversed the trial court's
contrary holding.
With controlling Virginia law in mind, we turn to the case at hand.
B.
In order to prove a debt is non-dischargeable under§ 523(a)(4) of
the Bankruptcy Code, a creditor must prove the debtor committed "[1]
fraud or defalcation [2] while acting in a fiduciary capacity." 11
U.S.C. § 523(a)(4). Ansari argues that neither of these issues were
actually litigated in state court, let alone "essential" to the state court's
judgment. He maintains that the only issue litigated in state court, and
essential to its judgment, was whether he violated the court's discov-
ery orders. Ansari is mistaken.
The question of whether Ansari acted as a fiduciary for Pahlavi
was actually litigated and resolved early in the case. Pahlavi continu-
ally asserted that Ansari was his fiduciary and submitted documents
and depositions to support this position. On February 7, 1991 -- eight
months before entry of the default judgment -- the state court issued
an order expressly finding that Ansari acted in a fiduciary capacity:
"Ansari . . . was the fiduciary for the Complainant, Reza Pahlavi . . .
at all times relevant to the Bill of Complaint." For this reason, the
court granted Pahlavi's motion to refer the case to a commissioner for
an accounting. Thus, the parties litigated Ansari's status as a fiduciary
before the state court and that court decided the issue.
Similarly, the parties litigated, and the state court resolved, the
question of Ansari's defalcation. A defalcation under 523(a)(4) is
"misappropriation of trust funds or money held in any fiduciary
capacity; [or the] failure to properly account for such funds." In re
Niles, 106 F.3d 1456, 1460 (9th Cir. 1997) (quoting Black's Law Dic-
tionary 417 (6th ed. 1990)). "[A] ``defalcation' for purposes of this
statute does not have to rise to the level of ``fraud,' ``embezzlement,'
or even ``misappropriation.'" Quaff v. Johnson, 4 F.3d 950, 955 (11th
Cir. 1993) (citing Central Hanover Bank & Trust Co. v. Herbst, 93
F.2d 510, 512 (2d Cir. 1937) (Learned Hand, J.)).
6
Pahlavi initiated the state court proceedings a year and a half
before the entry of the default judgment. Prior to the default, multiple
depositions were taken, many documents exchanged and the court and
commissioner held numerous hearings in which Ansari appeared in
person or by counsel. The principal focus of this effort was whether
and to what extent Ansari, acting as Pahlavi's fiduciary, had
defrauded Pahlavi or misappropriated funds from him. Only when it
became clear that Ansari had refused to comply with discovery orders
did the court broaden its inquiry into violations of its orders. In sum,
there was much more evidence before the state court in this case than
in TransDulles, and the parties here certainly engaged in more exten-
sive and two-sided litigation of the relevant issues.
Further, determination of these issues -- whether Ansari was a
fiduciary and whether he misappropriated funds -- was essential to
the state court's judgment. The TransDulles court held that "the ten-
ant's personal liability was essential to the district court judgment"
because "[t]hat court could have merely awarded the landlord posses-
sion of the premises without imposing personal liability for rent and
fees, but it did not." 472 S.E.2d at 276. Similarly, the state court here
could have punished Ansari's discovery violations by imposing a fine
based upon the time lost by Pahlavi's attorneys or the court, but it did
not. Rather, it assessed compensatory damages against Ansari based
on the exact amount that Ansari, as a fiduciary, was found to have
misappropriated from Pahlavi. Thus, as in TransDulles, "the factual
issue[s] existing in the present proceeding[fraud and fiduciary capac-
ity], w[ere] a necessary part of the judgment in the prior proceeding."
Id.
Moreover, even if the state court in this case had heard no evidence
of fraud or defalcation before entering its default judgment against
Ansari, the court's subsequent consideration and findings of punitive
damages would certainly suffice for collateral estoppel purposes. The
court awarded punitive damages to Pahlavi after finding "proof of
misconduct or actual malice or such recklessness or negligence as to
evince a conscious disregard of the rights of others." The state court's
holding under this standard clearly includes the lesser finding of
defalcation.
Ansari does not contend to the contrary. What Ansari argues is that
findings made during the punitive damages proceedings cannot act as
7
collateral estoppel because, pursuant to the terms of the default judg-
ment, all allegations in the complaint were taken as true. This argu-
ment overlooks the fact that in awarding punitive damages the state
court did not rely solely on the allegations in the complaint. Rather,
the court held a two-day hearing in which Pahlavi, Ansari, and other
witnesses testified. At the conclusion of the hearing, the court
weighed "the credibility of the witnesses to determine which version
of what was testified to was persuasive," and recognized that "there
[were] diametrically opposed positions on what occurred during
almost ten years." The court expressly found"Mr. Pahlavi's evidence
more credible" and found "misconduct," specifically "a pattern of
conduct that occurred practically from the outset of the relationship
between Mr. Pahlavi and Mr. Ansari."
Pahlavi and Ansari engaged in vastly more "actual litigation" of the
critical issues in this case than did the landlord and tenant in
TransDulles. The state court's findings on these issues were as essen-
tial to its judgment here as they were in TransDulles. Thus, the state
court judgment in this case clearly meets the TransDulles require-
ments for collateral estoppel.
C.
Before concluding our discussion of collateral estoppel, we note
that our conclusion finds support in decisions from two of our sister
circuits and is in no way contrary to our holding in M & M Transmis-
sions, Inc. v. Raynor (In re Raynor), 922 F.2d 1146 (4th Cir. 1991).
Recently, the Fifth, Eleventh, and Ninth Circuits have held that
when a party has appeared and litigated a matter, a default judgment
subsequently entered for discovery violations can act as collateral
estoppel in a later case. See Gober v. Terra + Corporation (In re
Gober), 100 F.3d 1195, 1205-06 (5th Cir. 1996) (fact that state court
default judgment was entered "only after Gober had repeatedly
impeded the course of the proceedings by refusing to comply with
discovery and by defying court orders" bolstered court's conclusion
that the bankruptcy court "properly afforded collateral estoppel
effect" to the state default judgment); United States v. Robinson, 62
F.3d 1319, 1325 (11th Cir. 1995) ("Where a party has substantially
participated in an action in which he had a full and fair opportunity
8
to defend on the merits, but subsequently chooses not to do so, and
even attempts to frustrate the [proceedings] a district court [may]
apply the doctrine of collateral estoppel to prevent further litigation
of the issues resolved by the default judgment in the prior litiga-
tion."); FDIC v. Daily (In re Daily), 47 F.3d 365, 368 (9th Cir. 1995)
("A party who deliberately precludes resolution of factual issues
through normal adjudicative procedures may be bound, in subsequent,
related proceedings involving the same parties and issues, by a prior
judicial determination reached without completion of the usual pro-
cess of adjudication.").
Nor is Raynor contrary to our conclusion here. Raynor, like the
case at hand, dealt with whether a state court default judgment for
fraud could be used as collateral estoppel in a later bankruptcy dis-
chargeability proceeding under 11 U.S.C. § 523(a)(2)(A) (1994). See
922 F.2d at 1148. There we refused to give a North Carolina state
court default judgment collateral estoppel effect on the issue of fraud
because "[t]he record of the state court proceedings discloses that the
issue of fraud was not actually litigated. Raynor was not aware of the
proceeding. The court's findings of fact and conclusions of law sup-
porting its judgment were prepared by [plaintiff's] counsel. The
record contains no transcript of the evidence or depositions." Id. at
1149.
Critical differences distinguish this case from Raynor. First, and
most obviously, while Virginia law governs this case, North Carolina
law controlled in Raynor. North Carolina, unlike Virginia, has never
rejected the majority view stated in the Restatement that "[a] default
judgment cannot be used for collateral estoppel purposes, because no
issues are actually litigated." Restatement (Second) of Judgments § 27
cmt. e (1982). Indeed, examination of the briefs in Raynor indicates
that no party suggested that North Carolina's law of collateral estop-
pel differed from the principle set forth in the Restatement. Further-
more, even if Virginia law had been applicable in Raynor, it is not at
all clear that the result there would have been different. This is so
because in Raynor, unlike the case at hand, the parties engaged in lit-
erally no litigation on the issue of fraud. See Raynor, 922 F.2d at
1149. Moreover, none of the policy concerns addressed by the Fifth,
Eleventh, and Ninth Circuits in Gober, 100 F.3d at 1206, Robinson,
62 F.3d at 1325, and Daily, 47 F.3d at 368 would justify application
9
in Raynor of collateral estoppel. Thus, Raynor provides no assistance
to Ansari here.
III.
Ansari advances two other non-meritorious arguments for reversal.
First, he maintains that the bankruptcy court made a crucial factual
error in describing the timing of the state court's imposition of puni-
tive damages. The bankruptcy court denied summary judgment as to
the punitive damages award because it found punitive damages "were
granted post-petition and were not enacted at that time." Ansari
argues that this statement demonstrates that the bankruptcy court
thought that only the punitive damages were awarded after the default
judgment ("post-petition"), when actually both the compensatory and
punitive damages were awarded after the entry of the default judg-
ment. The bankruptcy court's reference to "post-petition" may only
have been intended to signify that the punitive damages were awarded
separately and after the compensatory damages. Even if the bank-
ruptcy court did confuse the timing of the punitive damage award, the
treatment of that award is not before us. The bankruptcy court evi-
denced no confusion as to the timing of the compensatory damage
award and even if it had, Ansari has failed to demonstrate how such
confusion would affect any legal conclusion at issue here.
Finally, Ansari asserts reversal is required because the bankruptcy
court erroneously referred to "res judicata" in its oral ruling instead
of collateral estoppel. The bankruptcy court did mention the wrong
legal doctrine. Res judicata prohibits relitigation of an identical legal
claim. See Keith v. Aldridge, 900 F.2d 736, 739 (4th Cir. 1990). Col-
lateral estoppel, by contrast, bars relitigation of the same issue. See
Raynor, 922 F.2d at 1149. Pahlavi's claim in the bankruptcy court --
that Ansari's debt to him is nondischargeable -- is certainly different
from Pahlavi's claim in state court -- that Ansari defrauded Pahlavi
and breached fiduciary duties owed to Pahlavi. Thus the correct pre-
clusion principle in this case is collateral estoppel, and not res judi-
cata.
However, the bankruptcy court's error in terminology is of no con-
sequence since the court did not erroneously apply res judicata princi-
10
ples. The bankruptcy court did not hold that the state court default
judgment barred the parties from relitigating the legal claim of dis-
chargeability. Instead, the court properly applied collateral estoppel
principles, holding that the state court had previously decided the
legal issues of fiduciary status and fraud, and prohibiting the parties
from relitigating those issues. Therefore, the bankruptcy court actu-
ally performed a collateral estoppel analysis, albeit characterizing it
as res judicata. Because the bankruptcy court applied the correct anal-
ysis, its only error was one of semantics and provides no basis for
reversal.
AFFIRMED
11