USCA1 Opinion

July 1, 1992

UNITED STATES COURT OF APPEALS

FOR THE FIRST CIRCUIT
____________

No. 91-1976
IN RE:

604 COLUMBUS AVENUE REALTY TRUST,

Debtor,
_________
CAPITOL BANK & TRUST COMPANY,
Appellee,
v.

604 COLUMBUS AVENUE REALTY TRUST,

Appellant.
__________
No. 91-1977
IN RE:

604 COLUMBUS AVENUE REALTY TRUST,

Debtor,
_________

FEDERAL DEPOSIT INSURANCE CORPORATION,

AS RECEIVER/LIQUIDATING AGENT OF
CAPITOL BANK & TRUST COMPANY,
Appellant,
v.
604 COLUMBUS AVENUE REALTY TRUST, ET AL.,
Appellees.
____________
ERRATA SHEET

The

opinion of

this

court issued

on

June 19,

1992,

is

amended as follows:
On page

10, line 11 after block quote - add "and" after the

word "taxes."
On page

43, line

6 after block

quote - "Court"

lower case.June 19, 1992

____________________
No. 91-1976

IN RE:

604 COLUMBUS AVENUE REALTY TRUST,

Debtor,

__________

CAPITOL BANK & TRUST COMPANY,

Appellee,

should be

v.

604 COLUMBUS AVENUE REALTY TRUST,

Appellant.

__________

No. 91-1977

IN RE:

604 COLUMBUS AVENUE REALTY TRUST,

Debtor,

__________

FEDERAL DEPOSIT INSURANCE CORPORATION,

AS RECEIVER/LIQUIDATING AGENT OF

CAPITOL BANK & TRUST COMPANY,

Appellant,

v.

604 COLUMBUS AVENUE REALTY TRUST, ET AL.

Appellees.

____________________

APPEALS FROM THE UNITED STATES DISTRICT COURT

FOR THE DISTRICT OF MASSACHUSETTS

[Hon. A. David Mazzone, U.S. District Judge]

___________________

____________________

Before

Torruella, Circuit Judge,

_____________
Weis* and Bownes, Senior Circuit Judges,
_____________________

____________________

Robert Owen Resnick with

____________________

whom John F. Cullen,

_______________

George J. Nad
_____________

and Cullen & Resnick were on brief for 604 Columbus Avenue.
________________

Michael H. Krimminger with whom Richard J. Osterman, Jr., Ann

_____________________
_________________________ ____
Duross,
______

and Richard N. Gottlieb

____________________

were on

brief for

Insurance Corporation.

____________________
____________________

Federal Depo

_____________________
*Of the Third Circuit, sitting by designation.

BOWNES, Senior Circuit Judge.

____________________
a failed

loan

transaction that

advice,

"[n]either a

appeals

require

applicability of

us

This

well illustrates

borrower, nor
to

receiver

borrower an
institution.

when it

seeks

be."1

inter
_____

alia,
____

These
the
the

(FDIC) in its capacity

to enforce

obligation formerly

Polonius'

defenses available to

Federal Deposit Insurance Corporation

as

a lender

determine,

certain federal

is a case involving

against

held by a

a bankrupt

failed financial

PROCEDURAL PATH
PROCEDURAL PATH
This

case arises from

Avenue Realty Trust ("the

the Capitol

the default by

Trust") on payment of a

Bank and Trust Company ("the

the Trust's default, the

the 604 Columbus

Bank").

loan from
Following

Bank commenced mortgage foreclosure

proceedings on the properties

securing its loan, among which

were the property owned by the Trust itself and properties of

the

Trust's

principal

beneficiary,

Millicent

C.

Young

("Young").2
To
Trust

forestall the

foreclosures

by the

Bank, both

the

and Young filed for protection under Chapter 11 of the

____________________
1.

W. Shakespeare, Hamlet, act I, sc. iii at 75.

2. The Bank also had a mortgage on a property owned by the

Young Family Trust, of which Millicent Young was sole
beneficiary. The Young Family Trust was a named plaintiff in
the adversary proceeding in the bankruptcy and district
courts below. For purposes of convenience, we refer to Young
and the Young Family Trust collectively as "Young."
-6-

Bankruptcy Code in the United States Bankruptcy Court for the

District
Young

of Massachusetts.

as

against

co-plaintiff,
the

Bank,

In

1988, the

initiated an

its

principal

September 1990, the bankruptcy

approximately

May

$140,000 in

Trust, with

adversary

secured

proceeding

creditor.

court awarded the

damages

on claims

In

plaintiffs

of fraud

and

deceit, conversion, and breach of contract, plus interest and

attorney's

fees.

The

improperly applied
incurred by

bankruptcy court found

loan proceeds to payment

the Trust

similar expenses.

financing fees,

that the Bank

of "soft costs"

interest, taxes and

It also found

that an officer of the Bank

extracted kickback payments from

the loan proceeds in return

for his assistance in

securing approval of the loan.

its power of equitable subordination

pursuant to 11 U.S.C.

510(c), the bankruptcy court subordinated

claim on the Trust's
Trust's

an amount equal

plus interest and attorney's

fees.

from the

of a

Trust's

Bank to
estate

the Bank's secured

bankruptcy estate to the claims

other creditors by

the Trust
equivalent

to

Under

of the

to the damages,

It ordered the

transfer

security interest in

the total

of

the

the

damages,

interest and attorney's fees.

During the pendency of an appeal of this judgment to the
district

court,

Massachusetts

the

Bank

banking officials.

-7-

was

declared
The FDIC

unsound
was

by

appointed

receiver, and in February

1991 was substituted as defendant-

appellant in the district court.

In

August

1991,

the

district

court

affirmed

in

substantial part the bankruptcy court's rulings on the merits

of the Trust's claims and

equitable subordination of part of

the Bank's secured claim.

was

It ruled, however, that

the FDIC

entitled to raise the defenses available to it under the

doctrine of estoppel established in

D'Oench, Duhme & Co. v.

________________________

FDIC, 315 U.S. 447 (1942), and 12 U.S.C.

____

1823(e).

Invoking

the D'Oench doctrine, the district court vacated that part of

_______
the

bankruptcy court's

judgment

secret agreement by one of

that was

premised on

the

the Trust's principals to provide

kickbacks to a Bank officer.

Both the

Trust and the

FDIC appeal various

aspects of

the judgments of both the bankruptcy and district courts.

affirm

the judgment of the

We

bankruptcy court, as modified by

the district court.

BACKGROUND AND FACTS
BACKGROUND AND FACTS
Before stating the facts,

we think it useful

to review

the dual

role

of the

FDIC in

bank failures.

Our

recent

decision in Timberland Design, Inc. v. First Service Bank For

_________________________________________________
Savings,
_______

932

F.2d

46,

48

(1st

Cir.

1991),

provides an

excellent summary of the FDIC's different functions:

As receiver, the FDIC manages the assets of the
failed bank on behalf of the bank's creditors and
shareholders.
In its corporate capacity, the FDIC
is responsible for insuring the failed bank's
-8-

deposits.
Although
there are
many options
available to the FDIC when a bank fails, these
options generally fall within two categories of
approaches, either liquidation or purchase and
assumption. The liquidation option is the easiest
method,
but
carries
with
it
two
major
disadvantages.
First, the closing of the bank
weakens confidence in the banking system. Second,
there is often substantial delay in returning funds
to depositors.
The preferred option when a bank fails, therefore,
is the purchase and assumption option. Under this
arrangement, the FDIC, in its capacity as receiver,
sells the bank's healthy assets to the purchasing
bank in exchange for the purchasing bank's promise
to pay the failed bank's depositors. In addition,
as receiver, the FDIC sells the "bad" assets to
itself acting in its corporate capacity. With the
money it receives, the FDIC-receiver then pays the
purchasing
bank enough money to make up the

difference between what it must pay out to the

failed bank's depositors, and what the purchasing
bank was willing to pay for the good assets that it
purchased.
The FDIC acting in its corporate
capacity then tries to collect on the bad assets to
minimize
the
loss
to
the
insurance fund.
Generally, the purchase and assumption must be
executed in great haste, often overnight.
Id. at 48 (citations omitted).
___
Turning to

the

case at

extensive findings of fact

hand, we

first summarize

of the bankruptcy court.

the

See In
___ __

re 604 Columbus Avenue Realty Trust, 119 B.R. 350 (Bankr. D.

____________________________________
Mass.

1990)

("Bankruptcy

transaction

at

issue in

efforts of Young and

Court
these

Opinion").
appeals

loan

originated in

the

several business associates to purchase

two buildings

located at 604-610 Columbus

Massachusetts

("the

restaurant operated on

The

Columbus

Avenue

Avenue in Boston,

properties"),

and

the premises known as "Bob the Chef."

-9-

Young

was

company.

the

owner

Among her

of

business

contracting
partners

and

construction

was Carl

Benjamin

("Benjamin"), who served as her financial adviser.

In

October

availability for

1985, Young

and

Benjamin

learned of

purchase of the Columbus Avenue properties.

Young and Benjamin, along with two other partners,

enter into

a business relationship through

purchase the Columbus Avenue properties,

the

properties as condominiums,

share

the

agreed to

which they would

renovate and resell

resell the

restaurant, and

the profits from the condominium sales and sale of the

restaurant.

In November 1985, Young and Benjamin offered the

owner of the Columbus Avenue

properties $1.2 million for the

buildings and the restaurant.

Young's

attorney,

Steven Kunian

("Kunian"), suggested

that she and her partners seek financing for the purchase and
renovation of

the Columbus Avenue properties

Kunian had represented

transactions.

the Bank

In December

terms

of a

loan from the

other

partners.

The

from time to

1985,

time on

Benjamin negotiated

Bank on
Bank

from the Bank.

behalf of

was

loan
the

Young and the

represented

in

these

negotiations by a loan officer, Arthur Gauthier, and a member

of the

Bank's Board of Directors,

Weiner also
was

served on the Bank's

responsible for the approval

Sidney Weiner ("Weiner").

Executive Committee, which
of loans.

Although not a

salaried employee of the Bank, Weiner was paid director's and

-10-

consultant's

fees, and

was regarded

by Gauthier

and other

bank employees as having primary authority for negotiation of

the loan to Young and her partners.
Loans larger

than $25,000 required the

Bank's Executive
for

when

Gauthier presented the proposal

the loan for the Columbus

before
1986.

Committee.

the Executive

approval of the

Avenue properties three times

Committee approved

it on

January 15,

Final approval by the Executive Committee was achieved

Young

agreed to

collateral for the

pledge

loan.

her

residence as

Weiner was one

of the

additional
Executive

Committee members who voted to approve the loan.

Some

time

before

approve the loan,

only

the

Executive

Weiner told Benjamin

Committee

voted

that the loan

to

would

be approved on the condition that Benjamin agree to pay

Weiner personally
approval

for his assistance in

of the loan.

securing the Bank's

In exchange for this kickback, Weiner

helped the loan proposal reach the Executive Committee, voted

to approve

the loan, and influenced

to vote in

favor of the

other

members

of

Weiner's kickback

the

loan.

There

other Committee members

was no evidence

Executive Committee

were

arrangement with Benjamin when

to approve the loan.

aware

that
of

they voted

The bankruptcy court found that $26,300

was paid to Weiner.

Attorney
borrowers

Kunian

represented

at the closing on

both

the loan on

the

Bank

and

the

February 27, 1986.

-11-

Kunian

suggested

Columbus
closing
with

that Young

and

Avenue properties through

the 604

Young as

Columbus Avenue
its trustee.

her

associates hold

a realty trust.
Realty Trust

Young was

beneficial interest

in the

trust, while

partners, including

Benjamin, was made a

the

At the

was created,

given 62.5%
each of

of the

her three

12.5% beneficiary.

To secure the loan from the Bank, Young executed on behalf of

the Trust a "Commercial Real Estate Promissory Note," a "Loan
and

Security Agreement"

Security

Agreement

("L&SA"),

("L&SA Addendum"),

Loan Agreement" (referred to

Agreement").

The

an "Addendum

Bank, in

and

to Loan

&

a "Construction

collectively as the "First Loan

turn, agreed to

lend the

Trust

$1,500,000.
The Bank used a
following provisions:

standard-form L&SA, which contained the

SECTION 6.

BANK'S RIGHT TO SET-OFF

6.01
The Borrower agrees that any deposits or
other sums at any time credited by or due from the
Bank to the Borrower, or any obligor or guarantor
of any liabilities of the Borrower in possession of
the Bank, may at all times be held and treated as
collateral for any liabilities of the Borrower or
any such obligor or guarantor to the Bank.
The
Bank may apply or set-off such deposits or other
sums against said liabilities at any time.
. . . .
SECTION 8.

EXPENSES:

8.01 The Borrower shall pay or reimburse the Bank

on demand for all out-of-pocket expenses of every
nature which the Bank may incur in connection with
this Agreement and the preparation thereof, the
-12-

making of any loan provided for therein, or the

collection of the Borrower's indebtedness under
this Agreement . . . . [T]he Bank, if it chooses,
may debit such expenses to the Borrower's Loan
Account or charge any of the Borrower's funds on
deposit with the Bank.
The
which

parties also

established

advancement of

the

the

executed
following

proceeds

$1,200,000 at the closing to

of

the

Columbus Avenue

an Addendum

of

schedule
the

loan

to this

L&SA,

for the

Bank's

to

Trust:

the

pay for the Trust's acquisition

properties

and

the restaurant;

further $200,000 for construction-related expenditures at the

Columbus

Avenue

properties,

requisitions approved

by the

but

only

upon

itemized

Trust, its architect,

and the

bank; and $100,000 for the "soft costs" incurred with respect
to

the

loan.

"Soft

construction costs
closing

costs"

of the

covered

renovation

the

effort, and

fees, interest, taxes, and insurance.

promissory

note, the

Trust

mortgage on the Columbus

gave the

various

Bank,

non-

included

To secure its
inter alia,
_____ ____

Avenue properties and a conditional

assignment of rents from the properties in favor of the bank.

Young,

in

her

individual

mortgages on her

capacity,

also

gave

the

Bank

residence and two other properties owned or

held on her behalf.

At

the

closing,

the

Bank

disbursed

approximately

$1,250,000, of which nearly $1,200,000 was paid to the owners

of the

Columbus Avenue properties, and

was paid to the Bank

the remaining amount

itself for the costs of the

loan.

The

-13-

Bank

also created a checking account through which it was to

disburse the remaining amounts of the loan.

A signature card

was

names of

created for

Benjamin,

the

account bearing

the

and another partner of the Trust.

the signature

card had

disbursement by

access to

the Bank.

Those listed on

loan proceeds

Young was

Young,

upon their

apparently not

aware

that Benjamin's signature was on the card.

The bankruptcy
repay the

court found that the

loan on the

Trust's ability to

Columbus Avenue properties

hinged on

several assumptions that Young and her partners understood or

reasonably should
these

have understood

assumptions

anticipated

was

in First

costs completely and

of Young and her
Trust

that

at the closing.

$100,000

Loan Agreement

could generate

the

soft

would not

would have to be

partners.

for

One

of

costs

cover those

supplemented by funds

Another assumption was

funds necessary

that the

to complete

the

condominium project by selling the restaurant.

The Bank advanced the
loan
the

approximately
closing,

Gauthier to

account,

but did

violation
agreement.

of

$250,000

in three

directed

remainder of the proceeds of

large
pay

within
payment.

Weiner

these advances

so without

the procedures

specified

in

found that

Trust's

of Young

and in

the First

Loan

the Bank

paid

$102,305.54 out of loan proceeds

-14-

of

personally

into the

the approval

The bankruptcy court

itself a total of

forty-seven days

the

to cover

soft costs, thereby exceeding by $2,305.54 the amount of soft

costs contemplated in the

First Loan Agreement.

$26,300

was

without

Young's knowledge

used

to

withdrawn by

make

thereafter,
attempted

kickback

Young

Benjamin

from

The

the loan

account

or authorization, which
payments

learned

of

to

unsuccessfully to expel him

was then

Weiner.

Benjamin's

sum of

Sometime

conduct,

and

from the Trust and to

get him to give up his beneficial interest in it.

When

the six-month

expired in August 1986,

term

First Loan

Agreement

the Trust could not repay

the loan.

It therefore negotiated a
the first
1986,

$1,750,000,
guarantees
the

loan.

signed a

which

Agreement").

to those

In addition,

On

promissory note

was secured

by

the

as the First Loan Agreement.

Trust, executed

identical

second six-month loan to refinance

(the "Second Loan

the Trust

of the

September 12,

to the

same mortgages

and

Young, on behalf of

new L&SA

that contained

in

the L&SA

accompanying the

the Addendum to

Bank for

provisions

the L&SA in the

previous
Second

Loan Agreement provided, inter alia, the following scheme for

_____ ____
disbursement:

The
Bank
shall
advance the
loan
proceeds
approximately as follows:
a.
$1,500,000.00 at
closing for acquisition of real estate and personal
property[;] b. $190,000.00 for construction costs
. . . [;] c.
$60,000.00 for soft costs incurred
with respect to the loan.
At the closing of the Second Loan Agreement, $1,580,151.11 in
loan proceeds were disbursed to pay the $1,524,516.11 balance
-15-

remaining

on

the

First

Loan

agreement

and

$55,635

in

origination and attorney's fees for the new loan.

Four months later,
property

at 610

in January 1987, the

Columbus Avenue for

Trust sold the

$692,400 and

paid the

Bank this amount in order to reduce the outstanding principal

balance of the Second Loan Agreement.
however,
was

when the Second Loan

unable to repay it.

"Agreement to

The

In

March

1987,

Agreement came due, the Trust

Bank therefore entered into an

Extend Mortgage and

Note" with the

Trust, in

exchange for an extension fee.

The bankruptcy court
Second Loan
from the

found that during the term

Agreement and

loan proceeds

its extension, the

$169,406.12 for various

of the

Bank withdrew
soft costs,

including

closing

fees,

interest,

extension, taxes, and attorney's

charges

fees.

for

the

loan

This amount exceeded

the "approximately" $60,000 in soft costs originally provided

for in the second L&SA Addendum by $109,406.12.
The Second Loan Agreement, as extended, came due on June
10, 1987.
September

The

Trust

1987, the

found

that

unable to

Bank began

mortgages it held as
court

was

make

foreclosure of

security for the loan.

the

included, inter alia:

_____ ____

reasons

payment.

for

the

In

the various

The bankruptcy
Trust's

default

the inability of the Trust to sell the

restaurant, and the attendant loss of cash needed

the condominium renovations

to finance

originally planned; the

further

-16-

deprivation of cash needed for the project as a result of the

kickback

payments;

$109,406.12 in
soft

costs.

and

the

proceeds from the

Bank's

overapplication

second loan to

of

payment of

The bankruptcy court also concluded that it was

the Trust's failure

to sell the restaurant,

Bank's overapplication

of loan

rather than the

proceeds for soft

costs and

the kickback

payments,

that

was by

far

the

single

most

important reason for the failure of the project.

DECISIONS OF THE BANKRUPTCY AND DISTRICT COURTS
DECISIONS OF THE BANKRUPTCY AND DISTRICT COURTS
In bankruptcy
the

Bank entered

court, the
into and

Trust and Young

administered

alleged that

the loans

for the

improper purpose of extracting a kickback from loan proceeds.

They also
from

alleged that the Bank

the two

loans

to

plaintiffs alleged fraud

of contract by

the Bank.

improperly applied proceeds

the payment

of

soft

costs.

and deceit, conversion, and

They

also argued that

The
breach

the Bank's

inequitable conduct warranted the subordination of the Bank's

secured claim

in the Trust's

all of the Trust's

bankruptcy estate to

other creditors.

In addition,

those of
the Trust

and Young requested an order invalidating entirely the Bank's

mortgages on their properties.
The bankruptcy
awarded the
$26,300
made

court conducted

Trust $138,011.66 in

was assessed

as damages

to Weiner by Benjamin.

a seven-day trial.

damages.
for the

Of

It

this amount,

kickback payments

The kickback damages were based

-17-

on claims of conversion,
Massachusetts law.
represented

the

bankruptcy court
the loan proceeds
by

the two

breach of contract and

The remaining
total

amount

fraud under

$111,711.66

of

soft

found to have been

in

costs

damages
that

the

improperly removed from

by the Bank in violation of the limits set

loan agreements

i.e.,

Loan Agreement and $109,406.12

$2,305.54 on

the First

on the Second Loan Agreement.

This award was premised on claims of conversion and breach of

contract.

The

bankruptcy

$138,011.66

damages award

court
be

also

ordered

supplemented by

reasonable attorney's fees, which

that

the

an award

of

it found were warranted as

an element of the conversion damages under Massachusetts law,

and

also

of post-judgment

interest

at

the contract

rate

specified in the loan agreements.

Invoking its powers
to

11

U.S.C.

subordinating
priority and
to the full
fees.
Trust's

It

510(c),
the

the

Bank's secured

court

entered

claim

to

general unsecured claimants in

amount of the
further directed

estate a

amount equal

of equitable subordination pursuant

portion

to the

total

of its

damages.

of

an amount equal
attorney's

Bank transfer

security

order

the claims

damages, interest and

that the

an

to the

interest in

The bankruptcy

an

court

refused, however, to issue an order entirely invalidating the

mortgages held by the Bank.

-18-

While
judgment

the

Bank's

was pending,

liquidating agent of

appeal
the FDIC

the bankruptcy

breach

of

of

its

damages.

bankruptcy

the Bank, and substituted

for the Bank

The FDIC continued the Bank's appeal

court's

judgment as

and

fraud

to the

claims,

as

bankruptcy court's equitable

secured interest

in an

In addition, the

amount

conversion,
well

equal to

FDIC raised two

argued

D'Oench
_______

counterpart, 12

U.S.C.

doctrine

1823(e)

or

precluded

its

the total

special federal

aspect of the damages claims.

the

as

subordination

defenses as to each
that

court's

receiver and

contract,

challenge to the

the

was appointed

as defendant-appellant.
of

of

its

The FDIC
statutory

the bankruptcy

court's award of damages on the kickback arrangement, insofar

as

this claim was based on a secret agreement between Weiner

and Benjamin.
in due

The

FDIC also argued that the

course status

accorded it

entirely barred the Trust's

special holder

under federal common

law

claims for damages and equitable

subordination against it in its receivership capacity.

The Trust and Young,

applicability of the
well

as the

first

on the other hand,

federal defenses urged by the

FDIC's right

time on

challenged the

appeal.

to raise

They

court's refusal to grant

FDIC, as

these defenses

also contested

for the

the bankruptcy

them an order invalidating entirely

the Bank's mortgages on their properties.

-19-

In

August

1991,

bankruptcy court's

the

district

rulings on the merits

conversion and breach of contract

Bank's improper
soft

costs.

court

affirmed

the

of the plaintiffs'

claims with respect to the

application of loan proceeds

for payment of

Although the district court found that the FDIC

was entitled to raise its federal defenses for the first time
on

appeal, it rejected the

common law holder in due

claims

against it

FDIC's argument that the federal

course doctrine barred the

in its

capacity as the

Bank's receiver.

The district court also affirmed the equitable

of

the

FDIC's secured

claim on

the

Trust's

subordination

Trust's estate

in an

amount equal to the

$111,711.66,

plus

damages on the soft costs

post-judgment

however, the bankruptcy court's

interest.

claims, i.e.,
It

reversed,

inclusion of attorney's fees

as part of the overall amount of the FDIC's claim

subject to

equitable subordination.
The district court vacated the bankruptcy court's
of

$26,300

between

Benjamin

entitled

based

on

and Weiner.

the kickback
Finding that

arrangement
the

FDIC was

to raise the D'Oench doctrine for the first time on

_______

appeal, the
secret

of damages

award

court held that

agreement

doctrine.

squarely

It therefore

the kickback arrangement

within

the

coverage

of

was a
the

reduced the equitable subordination

against

the FDIC by an amount equal to the kickback damages.

Because

it found that the fraud claims based on the kickback

-20-

arrangement
rejected
loan

could

not stand

against

the

FDIC, the

court

the Trust and Young's arguments that it declare the

agreements

and

the

mortgages

on

the

plaintiffs'

properties

void

as illegal

contracts in

public policy.

-21-

contravention of

THE ISSUES ON APPEAL AND STANDARD OF REVIEW

THE ISSUES ON APPEAL AND STANDARD OF REVIEW
In their appeals to
Trust press
appeals of
court.4

this court,3 both the FDIC

substantially the
the bankruptcy

The

same arguments made

court's judgment to

and the
in their

the district

FDIC argues that because it was the receiver of

an insolvent bank, federal

claims of conversion,

common law barred the plaintiffs'

breach of contract, and fraud, as well

as the equitable subordination of the FDIC's secured interest

in the Trust's estate.
against it in
costs
due

The FDIC maintains that

its receivership

capacity based

any damages
on the

soft

claims were barred by the federal common law holder in

course doctrine,

and that

the

equitable subordination

against it in an amount equal to those damages is contrary to

federal common law.
bankruptcy court,
Bank

The FDIC also attacks the rulings of the

affirmed by

misappropriated

soft

equitable subordination
damages caused
challenges

by the

the district

the district court,

costs

monies, as

of its secured claim

well

as

the

to reflect the

Bank's misappropriation.
court's affirmance

that the

It further

of an

award of

____________________
3.

Following

the district court's judgment,

both the FDIC

and the Trust docketed separate appeals with this court. The
FDIC's appeal is No. 91-1977; the Trust's is No. 91-1976.
4. Young is not a party to the Trust's appeal. Neither the
Trust nor
Young has
challenged the
district court's
affirmance of the bankruptcy court's refusal to void the
mortgages on their properties.
-22-

post-judgment interest

on the $111,711.66 in

damages on the

soft costs claims.

The Trust, on
court erred by

the other hand, argues

applying the D'Oench

_______

time

on appeal.

does

not

bar its

erred

recovery on

first

its

claims relating

to the

The Trust also maintains that the district

when

incorrectly included
amount of

doctrine for the

The Trust insists that the D'Oench doctrine

_______

kickback scheme.
court

that the district

it

held

that

the

bankruptcy

attorney's fees as part

the FDIC's security interest

court

of the overall

subject to equitable

subordination in favor of the Trust and other creditors.

In

an

appeal

from

a district

bankruptcy court's decision,

bankruptcy

court's

review

we "independently review[]

court's decision, applying

of

a
the

the clearly erroneous

standard

to

findings

conclusions of law."
(1st Cir. 1991).
880

F.2d

of

fact

novo

review

to

In re G.S.F. Corp., 938 F.2d 1467, 1474

__________________

(1st

Cir.

determinations of law subject

standard

de

See also In re Navigation Technology Corp.,

________ _________________________________

1491, 1493

Foley, 776 F.2d

_____

and

1989) (bankruptcy

to de novo review);

379, 381 (1st Cir. 1985)

of review

applied

to

court's
Briden v.
_________

(clearly erroneous

bankruptcy court's

factual

findings).

-23-

DISCUSSION
DISCUSSION
I.
DISTRICT COURT REVIEW OF THE FDIC'S FEDERAL DEFENSES FOR
THE FIRST TIME ON APPEAL
Before
underlying

considering
its

the

damages award

Trust's
against

state
the

law

Bank, we

claims
first

address

the

FDIC's

arguments

established under federal law

in

due

course and

plaintiffs'
against it

and

two

doctrines

resulting

these federal defenses,

barred

equitable

as the Bank's receiver.

merits of

special

defenses

the federal common law holder

D'Oench
_______

claims

that

all of

the

subordination

In order to address the

we must,

as a

threshold

matter, determine whether the FDIC was entitled to raise them

for the first time in the district court in its appeal of the
bankruptcy court's judgment.
The district court based its decision to permit the FDIC
to assert

its federal defenses exclusively

Institutions
("FIRREA"),
(codified

Reform, Recovery
Pub.

at 12

L.

No.

U.S.C.

on the Financial

and Enforcement

101-73,

103

1811-1833e),

Stat.

Act of
183

1989
(1989)

which provides

pertinent part:
(13)

Additional rights and duties

(A) Prior final adjudication
The Corporation shall abide by any final
unappealable
judgment
of
any court
of
competent jurisdiction
which was rendered
before the appointment of the Corporation as
conservator or receiver.

-24-

in

(B)
Rights and
receiver

Remedies of

conservator or

In the event of any appealable judgment,

the Corporation as conservator or receiver
shall
(i) have all the rights and remedies
available
to the
insured depository
institution (before the appointment of
such conservator or receiver) and the
Corporation in its corporate capacity,
including removal to Federal court and
all appellate rights; and
(ii) not be required to post any bond in
order to pursue such remedies.
12 U.S.C.A.
that

1821(d)(13)(A)-(B).

the bankruptcy court's

asserted by the FDIC in

district court found

judgment in favor

was "appealable" within the meaning

reasoned that the federal

The

of

of the Trust

1821(d)(13)(B).

It

defenses against the Trust's claim

its receivership capacity were among

"the rights and remedies available to . . . the [FDIC] in its

corporate capacity."
"rights and

The district court

remedies" granted

the FDIC in

concluded that the

its receivership

capacity included the right to raise its federal defenses for

the

first time

analysis

on its

on appeal.
reading

The

district court

of FIRREA's

text and

based this
legislative

history.5
____________________
5. As evidence of Congress' special solicitude for the
preservation of the rights of the FDIC in its receivership
capacity, the district court emphasized FIRREA's provision of

an automatic stay in any litigation to which the FDIC becomes

a party.
See 12 U.S.C.
1821(d)(12). It also highlighted
___
language in FIRREA's legislative history explaining the need
for the automatic stay: "The appointment of a conservator or
-25-

The district court acknowledged that this interpretation

of

1821(d)(13)(B) conflicted

Eleventh

Circuits,

interpretation

of

both

of

with that of
which

FIRREA.

In

have

the Fifth
rejected

and
this

Olney Savings
& Loan
________________________

Association v. Trinity Banc Savings Association, 885 F.2d 266

_______________________________________________
(5th

Cir.

1989),

1821(d)(13)(B)

the

did not

Fifth
in

Circuit

any way

modify the

rights of the FSLIC in its receivership

assured the

FSLIC standing to pursue

ruled

that FIRREA did not

D'Oench
_______

doctrine for the first time

In
1506

substantive

capacity, but merely

all appeals previously

available to it only in its corporate capacity.

it held

that

Accordingly,

entitle the FSLIC to

on appeal.

raise the
Id. at 275.
___

Baumann v. Savers Federal Savings & Loan Assoc., 934 F.2d

_______________________________________________
(11th Cir. 1991), cert. denied, ___ U.S. ___, 1992 U.S.
____________

LEXIS

2709, 60

followed Olney,
_____

U.S.L.W. 3780

(1992), the

Eleventh Circuit

and rejected the argument

Trust Corporation

("RTC") that

to raise the D'Oench doctrine.

_______

of the Resolution

1821(d)(13)(B) entitled it
Id. at 1511.
___

Eleventh Circuit expressly rejected

In Baumann, the
_______

the interpretation of

____________________
receiver can often change the character of the litigation;
the stay gives the FDIC a chance to analyze pending matters
and decide how best to proceed." H.R. Rep. No. 54(I), 101st
Cong., 1st Sess. 331 (1989), reprinted in 1989 U.S.C.C.A.N.
_____________
86, 127. The district court further relied on two decisions
of the Texas Court of Appeals holding that
1821(d)(13)(B)
permits the FDIC to raise the D'Oench doctrine for the first
_______
time on appeal. See FDIC/Manager Fund v. Larsen, 793 S.W.2d
___ ___________________________
37 (Tex. Ct. App.), writ granted, 34 Tex. Sup. Ct. J. 91
____________
(1990); FSLIC v. T.F. Stone-Liberty Land Assocs., 787 S.W.2d
_________________________________________
475 (Tex. Ct. App. 1990).
-26-

1821(d)(13)(B) advanced
The

Baumann
_______

court

by the district court

concluded

that

to

read

in this case.
the

statute

otherwise

would

substantive

be

rights,

existing statutes
the

to

grant

federal

because neither

FIRREA

granted the RTC in

receiver

new

nor previously

its corporate capacity

power to raise arguments

for the first

We

Olney
_____

time on appeal.

Id.
___
think

that

interpretation
hold that the

of

the

and

1821(d)(13)(B) is

district court

allowing the FDIC

Baumann
_______

courts'

the proper

one, and

erred when it

read FIRREA

in its receivership capacity to

federal defenses for the first time on appeal.

as

raise its

We agree with

the distinction drawn by Baumann: "the right at issue in this

_______
case is not

the right of the [federal receiver]

to argue [a

federal defense], which is unquestioned, but rather the right

of

the [federal receiver] to raise an argument for the first

time on appeal."
accords
raise

Id. at 1512.
___

the FDIC
the

same

in its

receiver is

receivership capacity

defenses

corporate capacity.

It

Section 1821(d)(13)(B) merely

available

to

the

standing to
FDIC

does not establish that the

entitled to raise

its federal defenses

in

its

FDIC as
for the

first time on appeal.

Although FIRREA does not grant
right to
claims

raise its special

for the first time

the FDIC as receiver the

federal defenses to
on appeal, we

-27-

the Trust's

must also consider

whether there is any alternative basis

on which the district

court

to raise

could have

defenses.

FDIC

The FDIC argues that even if

not grant it
district

permitted the

the right

court

to raise its

nonetheless

had

its federal

1821(d)(13)(B) does
federal defenses,

the

discretion,

in

the
its

capacity as an appellate court, to address these defenses for

the first time on appeal.
The
argument.

FDIC

relies

There,

principally

the

Eleventh

on

Baumann
_______

Circuit

discretion as an appellate court permitted

federal

receiver's D'Oench
_______

time on

appeal.

that

the

Id. at
___

RTC had

held

The court

the

this

that

its

it to address the

doctrine argument for

1513.

not had

for

the first

stressed the fact

opportunity to

present its

argument in the trial court because it had not become a party

to the suit until after the entry of final judgment.
order to
raising a
Baumann
_______

prevent
defense
court

the

RTC from

it had

being

"penalized

no opportunity

concluded that

it

would

Id.
___

In

for

not

to present,"

the

be appropriate

to

exercise its discretion to exempt the RTC in its receivership

capacity from its general
for the

first time of

also adopted Baumann's

_______

rule precluding argument of issues

appeal.

Id.
___

The Fifth

Circuit has

approach in similar circumstances

which the federal conservator or

an appeal after the final

in

receiver becomes a party to

judgment of the trial court.

See
___

Resolution Trust Corp. v. McCrory, 951 F.2d 68, 71 (5th Cir.

__________________________________

-28-

1992) (citing Baumann

_______

and Union Fed. Bank v. Minyard,

____________________________

919

F.2d 335, 336 (5th Cir. 1990)).

It is

the general rule

in this circuit

that arguments

not raised in the trial court cannot be raised for

time on appeal.
v. Shaw, 908
________

the first

See, e.g., Boston Celtics Ltd. Partnership

___ ____ ________________________________
F.2d

1041, 1045

(1st

Cir. 1990);

Brown v.
_________

Trustees of Boston Univ., 891 F.2d 337, 359 (1st Cir. 1989),
_________________________

cert. denied, ___

____________

U.S. ___,

other circuit courts of

that an

has the discretion,

Like

in exceptional

to reach issues not raised below.

States v. La Guardia, 902

_____________________
In

3217 (1990).

appeals, however, we have recognized

appellate court

circumstances,

110 S. Ct.

F.2d 1010, 1013

See United
___ ______

(1st Cir. 1990).

United States v. Krynicki, 689 F.2d 289, 291-92 (1st Cir.

_________________________

1982),

we

outlined

appropriate exercise

the

criteria

of our

These criteria include,

for

determining

discretion to hear

the

new issues.

inter alia, whether the new issue is

_____ ____

purely legal, such that the record pertinent to the issue can
be developed

no further;

meritorious;

whether

judicial economy

whether the party's

reaching

because

the

the same

presented in other cases; and

issue
issue

claim appears
would

is likely

circumstances

of

this

exceptional to have permitted

for

the first

time

to

be

whether declining to reach the

argument would result in a miscarriage of justice.

The

promote

case

were

Id.
___

sufficiently

the district court to consider

on appeal

-29-

the

merits of

the

federal

defenses

raised by

The question
Trust's

development

the

was purely

of

the

receivership capacity.

and

record;

judged

by

defenses barred the

required no

further

the

FDIC's

federal

district

court's

the

of the FDIC's D'Oench argument

_______

kickback

promoted

legal

factual

were colorable,

acceptance

in its

of whether various federal

claims

defenses

the FDIC

claims;

judicial

by a ruling on

the FDIC's

to bar damages on

economy

would

have

been

the merits of

the applicability of

federal defenses, given the

increasing volume of

litigation involving federal receivers and/or conservators in

this circuit;
prevent the

and

finally, it

FDIC from raising

would

have been

its federal defenses

had no such opportunity to assert them before the

court.

unfair

when it

bankruptcy

As Baumann and McCrory make clear, it is not uncommon

_______
_______

for a federal receiver or conservator to become a party

litigation after the final
prevent

to

the FDIC from

circumstances would

judgment of the trial court.

raising its federal

vitiate much of the

to a
To

defenses in such

purpose of allowing

these defenses in the first place.

II.

THE D'OENCH DOCTRINE AS A BAR TO THE TRUST'S RECOVERY ON

_______
THE KICKBACK CLAIMS
We

next

review the

question

of

whether the

D'Oench
_______

doctrine,

or

its

statutory

counterpart,

12

U.S.C.

-30-

1823(e),6

bars

scheme and

the Trust's

any equitable

claims

based

on the

kickback

subordination against the

FDIC as

receiver.
In

D'Oench, the
_______

brought by

the FDIC

Supreme

Court

to collect

on a

note, in which the FDIC was the

original lender,
agreements

the borrower

outside

held

The

Supreme

doctrine of equitable
using

a "secret

was not

entitled to rely

contained

announced a

in

on

the lender

315 U.S. at 460-

federal

estoppel preventing the

agreement" with

____________________

suit

successor in interest to the

the documents

Court

borrower's promissory

bank's records to defeat the FDIC's claim.

61.

that in

the original

common

law

borrower from
lender as

6.

As amended by FIRREA,
1823(e) provides:
No agreement which tends to diminish or defeat the
interest of the Corporation in any asset acquired
by it under this section . . . , either as security
for a loan or by purchase or as receiver of any
insured depository institution, shall be valid
against the Corporation unless such agreement
(1) is in writing,
(2) was executed by the depository institution
and any person claiming an adverse interest
thereunder,
including
the
obligor,
contemporaneously with the acquisition of the
asset by the depository institution,
(3) was approved by the board of directors of
the
depository
institution or
its loan
committee, which approval shall be reflected
in the minutes of said board committee, and
(4) has been, continuously, from the time of
its execution, an official record of the
depository institution.
We treat
1823(e) as the statutory codification of the
D'Oench doctrine.
See Capizzi v. FDIC, 937 F.2d 8, 9 (1st
_______
___ ________________
Cir. 1991); FDIC v. P.L.M. Int'l, Inc., 834 F.2d 248, 253
____________________________
(1st Cir. 1987).
-31-

defense

to the FDIC's demand for

not require
"The

test

that the
is

whether

payment.

borrower have the

the note

was

Id.
___

D'Oench did
_______

intent to
designed

to

defraud:
deceive

creditors or the public authority, or would tend to have that

effect.

It would be sufficient in this type of case that the

maker lent

himself to a

scheme or

arrangement whereby

the

banking authority . . . was or was likely to be misled."

Id.
___

at 460.
The
expanded

contours
since

of

the

the

D'Oench
_______

Court's

doctrine,

original

which

decision,

have

are well-

established in this circuit.

See Timberland Design, 932 F.2d

___ _________________

at 48-49;

FDIC v. Caporale,
________________

931 F.2d 1, 2

(1st Cir. 1991);

FDIC v. P.L.M. Int'l, Inc.,

___________________________

834 F.2d 248,

252-53 (1st Cir.

1987).

Although the D'Oench

_______

decision involved the

FDIC in

its corporate capacity, "courts have consistently applied the

doctrine to those situations where the FDIC was acting in its
capacity

as receiver."

(citing cases).

Timberland Design,
_________________

932 F.2d

also adopted the

position of

We have

great majority of the circuits that

affirmative

claims as

well as

upon secret agreements."

to claims
tort or
U.S.

Id.
___

involving secret
in contract.

86 (1987)).

the

D'Oench "operates to bar

_______

defenses which
In

at 49

are premised

addition, D'Oench applies

_______

agreements that sound

either in

Id. at 50 (citing Langley v. FDIC, 484

___
_______________

And finally,

have actual knowledge of

the fact that

the FDIC may

the secret agreement is irrelevant:

-32-

"The proper focus under D'Oench is

_______
the

time

it was

entered into,

public authority."
Applying
district

whether the agreement, at

would

tend to

mislead the

Id.
___

the principles

court held

that

enunciated in

D'Oench estopped
_______

Timberland, the
__________
the Trust

raising against the FDIC its affirmative claims based

kickback

scheme.

It found

from
on the

that the record established that

the Trust, through its agent Benjamin, had "lent itself" to a

kickback scheme

with the Bank.

The district court concluded

that the unwritten agreement and subsequent kickback payments

between

Weiner

and

Benjamin

were

"secret

agreement"

should not

have been

squarely within the coverage of D'Oench.

_______
The
applied
argues

Trust contends
for the

that D'Oench
_______

district

court for

several

reasons.

It

that its tort claims of conversion and fraud stand on

a factual basis independent

of the kickback arrangement, and

that these claims therefore cannot be barred by D'Oench.

_______

For

similar reasons

the Trust argues that its breach of contract

claim must also be upheld because the removal of $26,300 from

the

loan proceeds was

written loan

a breach of the

agreement, and

kickback arrangement.
certain recognized

In

not a

express terms of the

breach of

the unwritten

the alternative, the Trust invokes

exceptions

to the

D'Oench doctrine:
_______

it

claims (1) that it is a non-negligent victim of "fraud in the

factum,"

and (2), that the

district court should have found

-33-

that

it

was

deception

innocent

of

because Benjamin

agent at the time

any
was

intentional
not acting

or
as the

he removed loan proceeds for

negligent
Trust's

the kickback

payments.

which

A.

The Scope of the Kickback Agreement

___________________________________

We

find little

in the

counsel appears in part

argument.7
that

merit

because

As we
its

Trust's first

to have abandoned during oral

understand it, the

fraud

and

argument,

Trust's contention is

conversion

claims

are

"not

premised
apply.

upon"

the

According

kickback
to the

Trust, "the

merely explains why Capitol

[Trust's]
are

assets,

arrangement,

whereas the

to

is that the bankruptcy

these

kickback arrangement

misappropriations themselves

604 Columbus Avenue Realty Trust at 27.

respect

cannot

Bank chose to misappropriate the

the basis of the [Trust's claims]."

Trust's position

D'Oench
_______

claims,

as

well

Brief for Appellant

The problem with the
court's findings in
as

its

equitable

____________________
7.

When pressed to explain why

the D'Oench doctrine did not

_______
apply to all the Trust's claims relating to the secret
agreement between Benjamin and Weiner, counsel for the Trust
placed exclusive reliance on the argument that the Trust was
an innocent party that had not knowingly made itself a party
to the kickback arrangement with Weiner. Counsel stated that
"if the Trust had in fact entered into an oral agreement,
then you would be right; D'Oench would clearly apply. But
_______
the bankruptcy court did not find that fact. The bankruptcy
court found that Benjamin was liable to the Trust for the
twenty-six thousand dollars as well as the Bank. . . . [I]t
seems to me to be a very, very broad application of D'Oench
_______
where a borrower has not lent themselves [sic] in any fashion
to this agreement."
-34-

subordination of $26,300

in lieu

explicitly

the

premised

Bankruptcy Court

of

id. at 377
___

to the

alternative basis for the

The

Trust's

were in

fact

arrangement.

See
___

371 (conversion); id.

___

(equitable subordination).

elaborate as to how

those relating

favor.8

kickback

Opinion, 119 B.R. at

at 374 (fraud);
does the Trust

on

of damages,

Nor

other facts, independent

kickback arrangement,

provide an

bankruptcy court's findings in its

tort

claims

fall

squarely

under

D'Oench: "D'Oench bars . . . affirmative claims . . . as long

_______
_______
as those claims arise out of an alleged secret arrangement."
___________________________________________
Timberland, 932 F.2d at 50 (emphasis added).
__________
The
breach

Trust next
of contract

argues that

claim against the

misappropriated from the Trust's

was a violation of

D'Oench does
_______

not bar

Bank for

its

the $26,300

account because this breach

the written terms of the

loan agreement.

It relies on Howell v. Continental Credit Corp., 655 F.2d 743

__________________________________
(7th Cir.
D'Oench
_______
.

. .

1981),

which held

that

the FDIC

cannot

invoke

"where the document the FDIC seeks to enforce is one

which

facially manifests

bilateral obligations

serves as the basis of the [promisor's] defense."

(emphasis omitted).

Seizing on the language

and

Id. at 746
___

of Howell, the
______

____________________
8. The Trust's attempts to distinguish Weiner's conduct from
the tortious conduct of the Bank are completely without
merit.
The Trust prevailed on its tort claims against the
Bank in bankruptcy court on a respondeat superior theory, and
cannot now evade the precepts of D'Oench by intimating that
_______
these tort claims against the Bank had nothing to do with the
kickback arrangement masterminded by Weiner.
-35-

Trust advances much

the same

argument with

breach

claim as

asserted

of contract

D'Oench's
_______

application to

"bilateral obligations"

its
of the

respect to

in its

tort claims,

the

challenge to

i.e., that

loan agreement, and

not the

secret kickback

agreement, are the

contract claim.

Once again, the Trust's argument ignores the

opinion of the bankruptcy

the
claim

basis for its

the

breach of

court, which expressly stated that

$26,300 judgment for the Trust on the breach of contract

was

founded

on

the

kickback

arrangement.

See
___

Bankruptcy Court Opinion, 119 B.R. at 375.

The Trust's reliance

on Howell is also misplaced.

______

The

Trust's

breach

existence of
other hand,

of

contract

claim required

proof

a secret kickback arrangement.

involved the

lease that expressly

lessee.

Seventh Circuit

ruled

See
___

of a

obligations on

Howell, 655 F.2d

______

that the

FDIC, as

the

Howell, on the
______

FDIC's attempted enforcement

imposed bilateral

the lessor and

of

both

at 747.

The

successor to

the

lessor, could not assert D'Oench to bar the lessee's contract

_______
defenses.
were

Id.
___

In

Howell, the
______

lessee's contract

defenses

not premised on any secret agreement, but were based on

the failure

of the

conditions of the

original lessor
lease.

Id.
___

to fulfill

The limited

the express

exception to the

-36-

D'Oench
_______

doctrine

crafted by

Howell does
______

not apply

to the

Trust's breach of contract claim.9

B.

Fraud In The Factum

___________________

The Trust

further

claims

exceptions to the D'Oench

_______
first

that

two

addressed

Langley v. FDIC, 484

_________________
to

the

recognized

doctrine apply to this case.

exception is fraud in the factum.

decision in

other

issue

of

the

The

The Supreme Court's

U.S.

86

FDIC's

(1987),

right

D'Oench's statutory counterpart, 12 U.S.C.

_______

to

while
invoke

1823(e), is also

applicable to analysis of fraud in the factum as a bar to the

application of D'Oench.
_______
between

the

renders

real defense
loan

agreement out
inducement,
does

not

In Langley, the Court distinguished

_______

agreement

of

1823(e),

which
preclude

the

that their

had been procured

fraud

in the

entirely

void

and a

renders the
FDIC's

Langley, 484 U.S. at 93-94.

_______
note makers

of

and

loan agreement
assertion

of

which

takes

defense of fraud

the

in the

voidable but
1823(e).

After reviewing the claim by the

participation in a

by misrepresentations as

character of the property

factum,

land transaction
to the size

and

involved, the Court concluded that

____________________
9.

Since

Howell, the Seventh Circuit has cautioned note

______
makers from the over-hasty invocation against the FDIC of the
exception to D'Oench contemplated by that decision: "Lesson
_______
Number One in the study of law is that general language in an

opinion must not be ripped from its context to make a rule

far broader than the factual circumstances which called forth
the language." FDIC v. O'Neil, 809 F.2d 350, 354 (7th Cir.
_______________
1987).
-37-

the

note

makers'

inducement.
properly

argument was

invoke

think

purposes of

1823(e) to

that

the

D'Oench.
_______

the

fraudulently

procures

Court's

fraud in

without

nature or contents.

distinction

for

the inducement

and

borrower's

that borrower's

the context

in the factum as a

asserted when the

the

by the note

Id. at 94.
___

We have characterized fraud

that may be

(1st Cir.

fraud in

applies with equal force in

real defense

instrument

of

bar the assertion

Langley
_______

1823(e) between

fraud in the factum

of

claim

Accordingly, the Court found that the FDIC could

makers of their fraud defense.

We

original lender

signature

knowledge

to

of its

an
true

See FDIC v. Caporale, 931 F.2d 1, 2 n.1

___ _________________

1991) (noting

that in

factum, "the instruments would

the case of

fraud in

the

be void rather than voidable,

leaving no title

capable of

transfer to the

also E. Allan Farnsworth, Contracts

____
_________

FDIC.").

See
___

4.10 (1982) (describing

fraud in the factum as arising in the rare situation in which

the

defrauded party "neither knows nor has reason to know of

the character of the proposed agreement . . . .").

The

Trust

defendant

analogizes

in FDIC v. Turner,
______________

There, the defendant

the name

its

869 F.2d 270

signed a blank

of the debtor

In addition, the

the

guaranty

was

that

of

the

(6th Cir. 1989).

guaranty form to

and the amount of

later added.
original

situation to

which

the guaranty were

name of the

subsequently

lending bank on
obliterated

with

-38-

correction fluid
Id.
___

at 272.

version

of

When
the

defense of fraud
that

the

and substituted with that

the FDIC

loan

to enforce

guaranty, the

in the

defendant

sued

was

factum.

of another bank.

defendant

The

defrauded

this altered
raised

Sixth Circuit
as

to

the

the

agreed

guaranty's

essential

terms,

and

held

that

the

precluded

from interposing D'Oench to

_______

FDIC

was

therefore

bar the defense.

Id.
___

at 275-76.
Review

of these

cases

convinces us

that the

Trust's

claim was one of fraud in the inducement, and not of fraud in

the factum.

The bankruptcy court found that the Bank, acting

under Weiner's
that

supervision, falsely represented to the Trust

the consideration for the first loan was limited to the

consideration

itemized in

the

original

agreement.10

Bank's misrepresentation did not go to the very

the

proposed

terms.
claim
it

Unlike

loan agreement,
the note

but

only

to its

maker in Turner,
______

The

character of
underlying

the Trust

cannot

that when it executed the promissory note to the Bank,

was "unaware of the nature of the documents [it] signed."

Caporale,
________

931 F.2d

at 2,

n.1.

The Bank,

through Weiner,

____________________
10. The bankruptcy court also found that the damages against
the Bank for both the Trust's tort and contract claims were
limited
to the
$26,300 in
additional "consideration"
extracted from the proceeds of the First Loan Agreement. It
declined to declare the First Loan Agreement unenforceable
because of the illegal consideration, reasoning that to do so
would "penaliz[e] the Bank in the full amount of the loan, an
amount .
. . grossly disproportionate
to the amount
converted."
-39-

induced

the

Trust

misrepresenting
however,

the

no fraud

D'Oench because
_______
Trust

did

to

consideration
in the

the

loan

agreement

involved.

There

factum precluding

there is

not fully

obligation it

execute

no

evidence to

understand

the

assumed by entering

by
was,

application of

suggest that

basic nature

of

the loan agreement.

the
the
The

Bank's extraction of additional $26,300 in consideration from

the Trust

did

not fundamentally

alter

the nature

of

the

instruments themselves.
C.
The
that

it

Innocence As A Defense to D'Oench

_________________________________
second exception to D'Oench claimed by the Trust is
_______
was

completely

negligent deception.

FDIC

kickback

payments to

negotiated

Weiner

court

scheme.
both
____

improperly

the Trust

Emphasizing

Benjamin and

intentional

that it could

or
not

transferred the
knowledge of

The Trust maintains

concluded

that

involved itself in

that the

the Bank

and

without the

other beneficiaries of the Trust.

established that

any

scheme or arrangement" which misled

because Benjamin

the district

of

The Trust contends

have "lent [itself] to a

the

innocent

bankruptcy court

were liable

on the

the

the
that

record

the kickback
found that
conversion

count,

the Trust

acting

as its

$26,300 in

claims that Benjamin

agent

or for

its

loan proceeds from

could not

benefit when

have been
he

removed

the Trust's accounts

to make

kickback payments.

-40-

As authority for its claim of

to

D'Oench,
_______

the

Trust

cites

Resolution Trust Corp., 907 F.2d

_______________________
1990), which in

turn relies

Ninth Circuit, FDIC v. Meo,

____________
Yet

in

Baumann,
_______

innocence as an exception
a

footnote

to

Vernon v.
__________

1101, 1106 n.4

(11th Cir.

on an earlier
505 F.2d 790

the Eleventh

Circuit

decision of
(9th Cir.

expressly

the

1974).
rejected

Vernon's suggestion of the continued viability of a "complete

______
innocence" exception:
longer tenable

"it is clear that this exception is no

because lack

of bad faith,

recklessness, or

even negligence is not a defense in D'Oench cases."

_______
at 1516.

See also
___ ____

FSLIC v. Gordy, 928 F.2d 1558,

______________

934 F.2d
1567 n.14

(11th Cir.

1991) (observing that innocence

in light of Supreme
an outdated

doctrine of Meo,
___

Court decision in Langley, "is

_______

understanding" of D'Oench).
_______

based on

Baumann emphasized
_______

that such an exception would be contrary to the broad purpose

of D'Oench to
_______
the

federal

prevent a private party from enforcing against

authority

"any

obligation

not

specifically

memorialized in a written document such that the agency would

be aware of the obligation when
the institution's records."
In

Timberland,
__________

this

conducting an examination of

Baumann, 934 F.2d at 1515.

_______
court

also

stressed

the

purpose of D'Oench to protect a federal receiver even

_______

basic
"where

the only element of fault on the part of the borrower was his
or her failure to reduce the agreement to writing."
at

49 (citation omitted).

We agree with

-41-

932 F.2d

the Baumann court

_______

that the borrower's state of mind

"proper
time

is irrelevant, because the

focus under D'Oench is whether the agreement, at the

_______

it was entered into,

would tend to

mislead the public

authority."
Id.
___

at

50.

Our earlier

cases

have never

recognized the

"complete innocence"

exception to D'Oench alluded

_______

Trust, and we reject

the invitation to

to by the

adopt it now as

the

law of this circuit.

Our conclusion
exception
Trust's

to

that

D'Oench is
_______

argument.

professed

by

As

i.e., a

not
we

the Trust

"complete innocence"
D'Oench
_______

there is

is

no "complete

entirely

understand
not

innocence"

dispositive of
it, the

the kind

the

"innocence"

of

paradigmatic

formerly recognized as an

exception to

borrower entering into an

unrecorded side

agreement innocent of any intentional or negligent deception.

Rather,

the

argument

Trust's

that

the

claim

of

actions

attributed to the Trust

of

"innocence"
Benjamin

is

really

should

and that the Trust did

not

an
be

not actually

lend itself to the kickback arrangement.

The factual
did not
found
the

record belies

act on behalf

the assertion

of the Trust.

that Benjamin

The bankruptcy

court

that it was Benjamin alone who negotiated the terms of

First

associates.

Loan

Agreement

It was Benjamin

on

behalf

of

Young

who at the same time

and

her

agreed to

the

kickback arrangement that secured Weiner's assistance in

-42-

obtaining approval

of the

At

the First Loan

the

the closing of
Trust

executed

was

loan by the

formally

authorizing

found that

for

Benjamin to

Benjamin was also

Trust's funds in

Agreement

created

Trust's loan proceeds account.

at which time

signature

withdraw

card

funds from

was
the

The bankruptcy court further

given authority to

other accounts at

the restaurant and

Executive Committee.

access the

the Bank, including

another for

rental income

one

from the

Columbus Avenue properties.

It seems
authority

clear that Benjamin acted

of the

Trust

and its

negotiation and execution

Trust, therefore,

principals throughout

of the First Loan

cannot disclaim all of

with respect to the kickback agreement.

willing to

concede that "one

acting as an
kickback

with

Agreement.

Weiner."

The

Indeed, the Trust is

Benjamin was

when he entered
Brief

the

Benjamin's actions

could argue that

agent of the [Trust]

scheme

with the ostensible

for

into the

Appellant

604

Columbus Avenue

Realty Trust at 32.

the Trust "lent [itself]

the banking

In these circumstances,

to a scheme or

arrangement whereby

authority . . . was or was likely to be misled."

D'Oench, 315 U.S. at 460.11

_______
____________________
11.

Our ruling is

consistent with the

decision in FDIC v.
________
Kasal, 913 F.2d 487 (8th Cir. 1990), cert. denied, ___ U.S.
_____
_____ ______
___, 111 S. Ct. 1072 (1991). In its reply brief, the Trust
draws on language from a dissenting opinion in Kasal for the
_____
general proposition that "it is a perversion of justice to
hold the borrowers responsible for funds misappropriated by a
bank officer."
Id. at 496 (Heaney, J., dissenting).
In
___
-43-

Because
applied

under

find

that

the D'Oench doctrine

_______

equitable
kickback

we

subordination
agreement, we

the

to bar the

against
do

district

the

not reach

court

correctly

Trust's claims and

Bank

based

the FDIC's

on

the

arguments

1823(e).

III. THE FEDERAL HOLDER IN DUE COURSE DOCTRINE AS A BAR TO

THE TRUST'S CLAIMS AND EQUITABLE SUBORDINATION AGAINST THE
FDIC IN ITS RECEIVERSHIP CAPACITY

We turn next to the FDIC's principal argument on appeal:

that the district court
common

law holder

erred when it held that

in due

course doctrine

Trust's claims against the

and

the

interest

equitable
in

the

addresses this
against the
and

breach of

Trust's

proceeds

for

payment

costs.12

The

FDIC has

does

of

the

bankruptcy

argument to

the bankruptcy

claims for
of

bar the

secured
The

conceded in this

FDIC

court's judgment
Trust's conversion

misapplication of

interest, taxes

not bar the Trust's claims based

FDIC's

estate.

$111,711.66 on the

contract

did not

FDIC in its receivership capacity

subordination

Bank for

the federal

and

other

case that

loan
soft

D'Oench
_______

on breach of the soft

____________________
Kasal, the borrower was totally unaware of a misappropriation
_____
from his accounts by a bank officer. In this case, Benjamin,
a representative of the Trust, both negotiated and carried
out the misappropriations from the Trust's account.
12. The FDIC also argues that the federal holder in due
course doctrine bars the Trust's fraud claim arising from the
kickback agreement.
Because we have already held that the
Trust's claims based on the kickback agreement were barred by
the D'Oench doctrine, we need not address this aspect of the
_______
FDIC's holder in due course argument.
-44-

costs provisions of

the two loan

agreements.

Instead,

the

FDIC insists that policy concerns similar to those underlying

the

D'Oench
_______

federal

doctrine militate

holder in

receivership
purchase

due course

capacity

and

in

when,

assumption

favor

of expanding

doctrine to
as

the FDIC

here, there

transaction

by the

the

in its

has

been

no

FDIC

in

its

corporate capacity.
A.

Origins of the Federal Holder in Due Course Doctrine

____________________________________________________

In order to evaluate the strength of the policy concerns

that

the FDIC asserts as the basis for extending the federal

holder

in

due

course

doctrine

to

the

FDIC

in

the

circumstances of this case, we first examine this doctrine as

it

has emerged

in cases

involving purchase

and assumption

transactions by the FDIC in its corporate capacity.

The

germinative

federal

holder

in

opinion
due

(1982).

acquired a
transaction
makers
FDIC

In Gunter,
______

the

basis

was

of

of,

U.S.

its corporate capacity

after a purchase

failed

the

Gunter v.
__________

Cir.), cert. denied, 459

____________

and assumption

Tennessee bank.

brought suit for rescission

on

development

doctrine

the FDIC in

promissory note
involving a

the

course

Hutcheson, 674 F.2d 862 (11th

_________
826

in

of the note

inter
_____

alia,
____

The

note

held by the
fraudulent

misrepresentation by the
at 866.

The FDIC

directors of the failed

bank.

counterclaimed for payment of the

the district court,

asserting that

Id.
___

note in

1823(e) barred the note

-45-

makers' claims,

and arguing in the

alternative that federal

common law gave it a defense against claims of fraud of which

it lacked knowledge.

Id. at 866-67.
___

Although the Gunter court

______
1823(e) to bar
the

rejected the application of

the note maker's fraud

FDIC's argument that a

claims,13 it accepted

federal common law

rule of non-

liability against these claims was necessary in order for the

FDIC

to accomplish

its statutory

objectives.

In reaching

this conclusion, the Gunter court applied the Supreme Court's

______
test for determining whether

the implementation of a federal

program would be frustrated without the adoption of a uniform

federal

rule.

See United States v. Kimbell Foods, Inc., 440

___ ____________________________________

U.S. 715 (1979).

stressed the
confidence
the

Applying Kimbell Foods, the Gunter

______________
______

FDIC's duty

to promote

"the stability

in the nation's banking system,"

preferred

status

of

the

purchase

court
of and

id. at 870, and

___
and

assumption

transaction as a means of accomplishing this duty because "it

avoids the

specter of closed

daily banking services."

banks and the

interruption of

Id.
___

____________________
13.

The Gunter court found it necessary to reach the merits

______
of the FDIC's federal common law argument because it found
that the note maker's fraud defenses were not precluded by
1823(e).
Gunter, 674 F.2d at 867.
This analysis of
______
1823(e) as not barring a claim of fraud in the inducement was
subsequently disapproved by the Supreme Court in Langley.
_______
See Langley, 484 U.S. at 93-94.
___ _______
-46-

The

court

noted that

speed was

of

the essence

in a

purchase and

assumption transaction

because of the

need to

preserve the going concern value of the bank:

[T]he FDIC must have some method to evaluate its
potential liability in a purchase and assumption
versus its potential liability from a liquidation.
Because of the time constraints involved, the only
method of evaluating potential loss open to the
FDIC is relying on the books and records of the
failed bank to estimate what assets would be
returned by a purchasing bank and to estimate which
of those assets ultimately would be collectible.
Id.
___

After

settled

considering the

impact

of the

federal rule

on

commercial expectations ordinarily governed by state

law, the

court concluded

that protection of

the FDIC

from

unknown fraud claims "far outweighed" any potential damage to

these expectations.
The
holder

court
in

Id. at 872.
___

therefore

due course

announced a

rule applicable

federal
to

common

the FDIC

law

in its

corporate capacity:
[A]s a matter of federal common law, the FDIC has a
complete defense to state and common law fraud
claims on a note acquired by the FDIC in the
execution of a purchase and assumption transaction,
for value, in good faith, and without actual
knowledge of the fraud at the time the FDIC entered
into the purchase and assumption agreement.
Id. at 873.
___

Gunter thus expanded federal common

______

law to bar

fraud claims by the note makers that would not otherwise have
been barred by the D'Oench doctrine or
_______

1823(e).

872 & n.14 (noting that D'Oench doctrine and

_______

See id. at
___ ___

1823(e) embody

a "more limited" policy of protecting the FDIC).

-47-

This court has adopted the rule of Gunter.

______
Indus. Realty, Inc. v. Noe,
__________________________
curiam).

814 F.2d 1 (1st Cir.

1987) (per

See also FDIC v. Bracero & Rivera, Inc., 895 F.2d

_________ _______________________________

824, 828-29

(1st Cir.

due

doctrine's

course

corporate capacity).

1990) (dicta acknowledging

availability

Other

federal common law holder

to

the

principles

in order

personal defenses.

FDIC

holder in
in

its

circuit courts have expanded the

in due course doctrine to

personal defenses against the FDIC, and have

law

See Southern
___ ________

to

distinguish

bar all

looked to state
between real

and

See Campbell Leasing Inc. v. FDIC,

___ ______________________________

901

F.2d 1244, 1249 (5th Cir. 1990);

FDIC v. Wood, 758 F.2d 156,

____________

161 (6th Cir.) (the FDIC "takes the note free of all defenses
that

would not

cert. denied,
____________
Boulder, 911
_______

prevail against a

holder in

474 U.S. 944 (1985).

F.2d 1466, 1474-75

due course."),

See also FDIC v. Bank of

________ _______________

(10th Cir. 1990)

(en banc)

(adopting
credit

federal

rule

of

transferability

protecting

FDIC

in

its

purchase and
Ct.

1103

rationale
consistent

of letters

corporate

of

capacity during

assumption), cert. denied, ___ U.S. ___, 111 S.

____________

(1991).

In all

of

for a federal holder

with

these cases,

the underlying

in due course

rule has been

that articulated

by

Gunter:
______

to

promote

purchase and assumption transactions.

See Wood, 758 F.2d

___ ____

160-61 (federal

rule necessary because

"the

essence of

speed");

holder in due course

a

purchase and

Campbell Leasing,
_________________

901

assumption transaction
F.2d

at

1248-1249

at

is

(same

-48-

analysis); Bank of Boulder, 911 F.2d at 1474-75 (uniform rule

_______________
of

transferability necessary because

of time constraints of

purchase and assumption).

B.

Application Of The Federal Holder in Due Course

___________________________________________________
Doctrine To The FDIC As Receiver
________________________________

The FDIC argues

that the federal

holder in due

rule should be available to it in its capacity

receiver.
whether
least

The FDIC insists that

a purchase

as the Bank's

in order for

and assumption or

course

it to decide

a liquidation

is the

costly approach to disposing of the assets of a failed

bank, it must be able to make that decision based on absolute

reliance

on

defenses.

the

bank's

The FDIC

records,

unimpeded

also asserts that if the

by

personal

federal holder

in due course doctrine is limited exclusively to purchase and

assumption
variety

transactions,

of

it

newly-developed

resolution of bank failures

both

liquidation

Accordingly, the
holder

in due

and

FDIC urges

will

"hybrid"

to

employ

transactions

for the

that include elements drawn from

a

purchase

that we

course doctrine

receivership capacity,

be unable

and

assumption.

hold that

applies to

the federal

the FDIC

regardless of whether

in its

a purchase and

assumption transaction is consummated.

To
cases

support its
in

which the

allowed to invoke
to bar

argument,
FDIC in

the FDIC

relies on

its receivership

the federal holder in due

the makers of

promissory notes from

-49-

several

capacity was

course doctrine
asserting their

personal defenses.
by the

FDIC

But these cases

as receiver

transaction.14

For example,

was appointed receiver

for a

after
_____

involved notes acquired

a purchase

assumption

in Campbell Leasing,
________________

of a failed

the FDIC

Texas bank and

purchase and assumption transaction

established bridge bank, NCNB.

and

arranged

with a federally-

901 F.2d at 1247.

During the

purchase and assumption, NCNB acquired a promissory note that

had

previously been

maker against the

failed bank.

bank, the FDIC, along

on

the

note

the subject

maker's

of a

lawsuit by

As receiver

with NCNB, moved for

claims

and

on

of the

the note
failed

summary judgment
counterclaim

for

enforcement of the note, arguing that the D'Oench and federal

_______
holder in due

course doctrines barred

all the note

maker's

____________________
14. The cases cited by
the FDIC either involved the
application of the federal holder in due course doctrine to
assets acquired by the FDIC as receiver following a purchase
and assumption transaction, or were not directly decided
under the holder in due course rule. See FDIC v. McCullough,
___ __________________
911 F.2d 593 (11th Cir. 1990), cert. denied, ___ U.S. ___,
____________
111 S. Ct. 2235 (1991); In re CTS Truss, Inc. v. FDIC, 868
_______________________________
F.2d 146 (5th Cir. 1989); Firstsouth, F.A. v. Aqua Constr.
__________________________________
Inc., 858 F.2d 441 (8th Cir. 1988). In McCullough, the court
____
__________
observed that both the FDIC and FSLIC as receiver are
"clothed under federal common law with the same defenses that
would be accorded a holder in due course under state law."

911 F.2d

at 603.

Yet

in McCullough, the note on which the

__________
federal receiver was seeking to recover had earlier been
acquired by the failed savings institution in a purchase and
assumption transaction. Id. at 596. CTS Truss involved the
___
_________
enforcement by the FDIC as receiver of an asset acquired by
it in its corporate capacity, 868 F.2d at 147, and was
decided under
1823(e) rather than the federal holder in due
course doctrine. Id. at 150. As for Firstsouth, the federal
___
__________
common law rule at issue was the D'Oench doctrine, and not
_______
the more expansive holder in due course doctrine recognized
by Gunter. Firstsouth, 858 F.2d at 443.
______
__________
-50-

claims and affirmative

defenses.

Id.
___

The district

court

granted summary judgment for the FDIC and NCNB, and the Fifth
Circuit affirmed the judgment on

appeal.

The court observed

that it could find

no logical reason to limit federal holder in due
course protection to the FDIC in its corporate
capacity, to the exclusion of its receivership
function.
In its corporate capacity, the FDIC is
obligated to protect the depositors of a failed
bank, while the FDIC as receiver must also protect
the bank's creditors and shareholders.
In both
cases, the holder in due course doctrine enables
the FDIC to efficiently fulfill its role, thus
minimizing the harm to depositors, creditors, and
shareholders. . . .
We conclude that the FDIC
enjoys holder in due course status as a matter of

federal common law whether it is

corporate or receivership capacity.

acting in

its

Id. at 1249 (citations omitted).

___
The

FDIC argues

that

because the

federal holder in due course doctrine

it

in

its

Leasing,
_______

receivership

the

have been available to

capacity in

the logical next step

protections of

cases

is to apply

like

Campbell
________

the doctrine to

the FDIC in its receivership capacity regardless of whether a

purchase and assumption transaction has
to

the FDIC,

course

this extension

rule is

of the

necessary to

occurred.

According

federal holder

enable it

to

in due

decide properly

whether a liquidation or purchase and assumption is the least

costly means of dealing with the failed bank.
In

its

briefs in

neglected

to

addressed

this argument.

this appeal,

mention the

one

however, the

decision

that has

FDIC has
directly

In FDIC v. Laguarta, 939 F.2d 1231

________________
-51-

(5th

Cir. 1991),

the FDIC

argued that

it was

entitled to

invoke the federal holder

in due course doctrine to

bar any

defenses against enforcement of a promissory note acquired by

it directly in

its capacity

as receiver.

After observing that the FDIC's

argument had

been raised in a

Id. at
___

1233-35.

federal holder in due course

"belated supplemental brief,"

the Fifth Circuit dismissed it peremptorily in a footnote:

Here the FDIC sues only in its capacity as receiver
for the institution which made the loan and is
payee in the note sued on, and the FDIC does not
assert, nor does the record establish, that the
loan or note has ever been transferred or was ever
part of a purchase and assumption transaction. To
the extent that it precludes defenses beyond those
precluded by D'Oench, Duhme, the federal holder in
______________
due course doctrine is inapplicable to such a
situation. Gunter . . . . See Campbell Leasing .
______
___ ________________
. . .
Indeed, a major policy goal underlying the
federal common-law holder in due course doctrine is
to facilitate purchase and assumption transactions
of failed financial
institutions in lieu
of
liquidations. Campbell Leasing; Gunter.
________________ ______
Id. at 1239 n.19 (citations partly omitted).
___
We

likewise reject

the

FDIC's attempt

to expand

the

federal holder in due course doctrine far beyond its original

purpose

of

promoting purchase

that preserve the going concern

the

policy

considerations

adoption of a federal
when,

assumption transactions

value of the bank.

that

originally

to enforce

an obligation in

does

further

the

None

prompted

holder in due course rule

as in this case, the

not

and

of
the

are present

FDIC as receiver is seeking only

a liquidation.

federal

policy

A
of

liquidation
"bringing

to

-52-

depositors sound, effective,

the

[nation's]

liquidity

banking

of bank

and uninterrupted operation

system

deposits."

with

resulting safety

Campbell, 901
________

F.2d at

of
and
1248

(quoting S. Rep. No. 1269, 81st Cong., 2d Sess., reprinted in

____________
1950 U.S.C.C.A.N. 3765, 3765-66).

Likewise, there is no need

for speedy evaluation of the assets of a

and therefore
federal

rule

little justification
that

would

at

872

(applying the

federal common
rely
to

for adoption of

displace

expectations controlled by state

failed institution,

law.

settled

as heavily on the books

commercial

Cf. Gunter, 674

___ ______

Kimbell Foods test

______________

law rule).

a broad

Furthermore, the

for

F.2d

adoption of

FDIC does

not

and records of the failed bank

estimate its total loss in a

liquidation as it must in a

purchase and assumption.15

____________________
15. This distinction between
the cost
liquidation versus that
in a purchase

estimate
of a
and
assumption

transaction was noted in Gunter:

______
The maximum liability of the FDIC in a liquidation
is fixed by the $100,000-per-depositor insurance
limitation.
In a
purchase
and assumption
transaction, however, the FDIC agrees to repurchase
any unacceptable assets from the purchasing bank
and cannot rely on the statutory limitation of its
liability. Hence to make the [cost test currently
codified at 18 U.S.C.
1823(c)(4)(A)], the FDIC
must have some method of estimating its potential
liability under a
purchase and assumption to
compare
it to
the maximum
liability in
a
liquidation.
Gunter, 674 F.2d at 870 n.10.
This analysis belies the
______
FDIC's assertion that if the federal holder in due course
doctrine were limited solely to assets sold through a
purchase and assumption, the federal receiver could not
reliably estimate the cost of a liquidation as compared to
that of a purchase and assumption.
-53-

However
receivership

desirable
capacity to

affirmative defenses
already

it

may
be

be

able to

by the maker

eliminated by

for

the

FDIC

bar counterclaims

of a promissory

D'Oench and
_______

in

1823(e), such

its
or

note not
a broad

principle of federal common law cannot find its justification

in

the

federal

applied by

holder

the courts.

in due

course

The district

analysis of the FDIC's federal holder in

doctrine

currently

court's well-reasoned
due course argument

aptly summarizes some of its deficiencies:

The holder in due course doctrine normally allows
innocent purchasers of negotiable instruments to
rely on such instruments when they are acquired for
value. The FDIC is granted this status so it can
quickly scan a bank's balance sheet to negotiate
its sale.
Thus, the FDIC is not held up to an
obligation to scrutinize the assets of a failed
bank before it agrees to execute a purchase and
assumption. . . .
The exigencies of a purchase and assumption
transaction also differentiate the holder in due
course doctrine from D'Oench. D'Oench is concerned
_______
_______
with the integrity of a bank's records
the FDIC
can only be charged for claims apparent from a
search of the bank's files.
The holder in due
course doctrine, on the other hand, relieves the
FDIC even from claims apparent on the face of the
Bank's records. . . .
The reach of the federal
holder in due course doctrine being much wider than
even the extraordinary remedy of D'Oench, the
_______
circumstances in which it is applied should be
correspondingly limited.
The FDIC nonetheless insists that
the federal
purchase
complicate

holder in due

and

assumption
the

resolution

the unavailability of

course rule in

the absence

would

"immeasurably

of

receiverships"

-54-

of a

delay
and

and

create

"delays
FDIC's

and

difficulties [that]

ability to complete

same breath,
federal

however, the

greatly

impair the

its statutory mission."

FDIC complains that

In the

the existing

rule is problematic because it "substantively alters

the receiver's
favor"

could

evaluation of the alternative transactions in

of purchase and assumptions.

both ways.

The federal

fashioned

precisely

for

The FDIC cannot have it

holder in due
the

purpose

purchase and assumption transaction.

869-71.

It was

course doctrine

never intended

of

expediting

was
the

See Gunter, 674 F.2d at

___ ______

as

a panacea

intended to

relieve the FDIC of all the "difficulties" arising from state

law

defenses

assets.
decision
will

We

counterclaims during

decline to

the

address the FDIC's

liquidation of
argument that

not to extend the federal holder in due course rule

impair

transactions
both a

and

its ability
i.e.,

to

conduct

transactions

liquidation and a

certain new

that involve

purchase and

"hybrid"

elements of

assumption

because

this case does not involve such a "hybrid."

We

therefore

invoke the federal

to

bar

the

hold that

the FDIC

was not

common law holder in due

Trust's

claims

of

breach

entitled to

course doctrine
of

contract

and

conversion as to the soft costs damages.16

____________________
16. Because the FDIC is not entitled to holder in due course
status under the federal common law rule, we need not decide
whether the Trust's soft costs claims would be barred by
Massachusetts holder in due course law.

-55-

IV. FEDERAL COMMON LAW AS A BAR TO EQUITABLE SUBORDINATION

OF THE FDIC'S SECURED CLAIM AGAINST THE TRUST
The

FDIC

next

argues

that

to

allow

subordination of part of its secured claim

to

federal

common

law.

The

FDIC

equitable

would be contrary
asserts

that

the

availability of the equitable subordination remedy against it

would

frustrate federal

fulfilling its
from bankrupt
failed

banks.

subordination

policies intended

statutory duty to recover

to assist

it in

the maximum amount

borrowers during the liquidation

of assets of

The FDIC also insists that to allow equitable

against it

would be

inappropriate where

the

misconduct leading to the equitable subordination was that of

the

Bank and its officers,

and not of

the innocent federal

receiver.
Section
authorizes
equitable

510(c)
a

of

the

bankruptcy

Bankruptcy

court

subordination."17

The

to

Code

apply

specifically

"principles

judicially-developed case

law of equitable subordination is of long standing.

King,

Collier

on

Bankruptcy

of

510.01

(15th

See 3 L.
___
ed.

1992)

_______________________
____________________
17.

11 U.S.C.
510(c) provides:
Notwithstanding subsections (a) and (b) of this section,
after notice and a hearing, the court may
(1)
under
principles
of
equitable
subordination, subordinate for purposes of
distribution all or part of an allowed claim
to all or part of another allowed claim or all
or part of an allowed interest to all or part
of another allowed interest; or
(2) order that any lien securing such a
subordinated claim be transferred
to the
estate.
-56-

("Collier").

The

rearrange the

priorities

place all or
status.

doctrine

part of
The

permits a

of creditors'

bankruptcy court
interests,

the wrongdoer's claim

generally-recognized

subordination, adopted by this

test

and

to
to

in an

inferior

for

equitable

court, is set forth in

Mobile Steel Co., 563 F.2d 692, 703 (5th Cir. 1977):
________________
(i) The claimant must have engaged in some type of
inequitable conduct.
(ii)
The misconduct must have resulted in injury
to the creditors of the bankrupt or conferred an
unfair advantage on the claimant.

In re
_____

Id.
___

(iii)
Equitable subordination
not be inconsistent with the
Bankruptcy Act.

of the claim must

provisions of the

at 699-700 (citations omitted).

See also In re Giorgio,

___ ____ _____________

862 F.2d 933, 938-39

(1st Cir. 1988) (applying Mobile Steel

_____________

test); 3 Collier at
of whether this
court,

Before reaching

test was properly applied by

we first

against a

510.05[2].

determine

the issue

the bankruptcy

whether equitable

subordination

federal receiver should be prohibited

as a matter

of federal common law.

Only
directly

one decision in the federal

addressed

against the

FDIC.

the

issue

of

courts of appeals has

equitable

subordination

See In re CTS Truss, Inc.,

___ ______________________

(1989), withdraw'g, 859

__________

F.2d 357

Truss,
_____

corporate capacity filed

claim

the FDIC in its

in

bankruptcy court

documents made by

on

the debtor.
-57-

868 F.2d 146

(5th Cir. 1988).

certain

notes and

The debtor

In

CTS
___

a proof of
security

objected to

the

proof

of

claim, arguing

equitably

subordinated

creditors

because the

conduct against
as receiver.

that
to

the

the FDIC's
claims

failed bank

all

had engaged

the debtor prior to

Id. at 147.
___

of

claim

should be
the

other

in wrongful

the FDIC's intervention

The bankruptcy and district courts

held that the FDIC's claims could not be subordinated because

the "FDIC was a transferee innocent of any misconduct against
CTS."

Id.
___
The

Fifth

decision, but

Circuit

affirmed

the

on different grounds,

bankruptcy

holding that

court's
equitable

subordination against

the FDIC would have

two distinct reasons.

First, the court found that "[e]ven if

the Bank's

actions could be imputed

been improper for

to the FDIC,

we do not

believe that the unusual remedy of equitable subordination is

appropriate
148.

to the facts alleged

by the [debtor]."

Id. at
___

Applying the Mobile Steel test, the court held that the
____________

debtor had failed to allege facts that

demonstrated that the

bank's conduct towards it

would have justified the equitable

subordination of a claim

on the debtor's assets subsequently

acquired by the FDIC.

Id. at 148-49.
___

The court disregarded

the issue of the FDIC's "innocence" in assuming the assets of

the

failed bank,

bank's actions

focussing

fit "within

instead on
any of

whether the

the classic

failed

patterns of

-58-

conduct that have led the courts to fashion the extraordinary

remedy of equitable subordination."
The other ground for the
Truss was the
_____
implicitly,
claims.

D'Oench
_______

Id. at 149-50 &

___

that the debtor had

because it

Fifth Circuit's holding in CTS

___

availability to the
the

defenses to

doctrine
n.8.

bar

Id.
___

debtor would

at

149.

debtor's

"[e]ven

FDIC.
if

the bank's conduct

would

It

found

be shielded
that

from

1823(e)

claims against the Bank, and

therefore have

against the
that

the

and,

The court thought it "likely"

the FDIC

"squarely" covered the debtor's

concluded

to

1823(e)

deliberately decided against raising its

realized that

these claims

FDIC of

its indebtedness premised on

these claims.

that the

Id. at 148.18
___

Id.
___

been unable
at

principles

150.
of

to raise
The

court

equitable

subordination otherwise permitted

conduct

to

constrained

transferee such

to hold

that

the imputation of wrongful

as

the

FDIC,

[ 1823(e)] forbids

we would

be

that result."

Id.
___
The Fifth

Circuit's decision

several principles

that are

in CTS Truss
_________

establishes

useful to consideration

of the

____________________
18. The court also noted that to the extent the debtor's
claims of fraud and breach
of an oral promise
were
"allegations [that] would justify disallowance or an offset
against the Bank's secured claim, they would prevent the
assertion of a claim of equitable subordination." Id. at 149
___
(citing Mobile Steel for the proposition that "claims should
____________
be subordinated only to the extent necessary to offset the
harm done by the inequitable conduct").
-59-

FDIC's

argument

in this

case.

CTS Truss stands

__________

for the

proposition that equitable subordination against the

FDIC is

barred when the claims on which the request for subordination

is premised cannot

be asserted against

the FDIC because

of

federal law.
preclude

On the other hand, CTS Truss does not entirely

_________

the possibility

interest acquired by the

failed

bank.

The

of equitable

FDIC because of the conduct

Fifth

reasoning of the bankruptcy

not be

subordination of

Circuit

declined to

because it was

of any misconduct" against the debtor.

Instead,

the court

"classic

of

the

focussed

FDIC's

pattern[]"

under the test

adopt

on the

predecessor

necessary

issue
in

could

Id. at 147.
___

of whether

interest

for equitable

in Mobile Steel.
____________

the

"a transferee

innocent

conduct

of the

court below that the FDIC

equitably subordinated

an

fit

the
the

subordination

Because it found

that the

bank's conduct in relation to the debtor in CTS Truss did not

_________
fit that
the

pattern, the

issue of whether it

actions of the

bank to

Fifth Circuit never

directly reached

would be appropriate
the FDIC for

to impute the

purposes of

equitable

subordination.
In

this case,

the FDIC

asks that we

adopt a

rule of

federal common law preventing the

equitable subordination of

the

receiver

secured claim

of

a federal

as a

result

of

misconduct by a failed bank.

We reject this approach because

we think that the analysis of

the Fifth Circuit in CTS Truss

_________

-60-

demonstrates

that such a broad rule of federal common law is

unnecessary to protect a federal receiver.

As

evidence of a federal policy to protect the value of

assets acquired by the FDIC in its receivership capacity, the

FDIC cites the developing federal
D'Oench
_______

and federal holder in

common law embodied in the

due course doctrines.

As an

additional example of Congressional intent to protect it, the

FDIC also points to the recent amendments in FIRREA extending
the

coverage

of

1823(e)

Drawing on these examples,

of

federal

logical

rule

extension

receivership

to

the

this

capacity.

as

the FDIC urges that

barring equitable
of

FDIC

policy to

Otherwise,

receiver.19
the adoption

subordination
protect
the

FDIC

it

is

in

its

warns,

the

"absence of a federal rule barring equitable subordination of

the

receiver's

materially

claims

against

and adversely restrict

bankrupt

borrowers

will

the receiver's ability to

resolve bank receiverships at the lowest cost to the public."

Brief

for Appellant

Trust Company at 32.

FDIC As

Receiver for Capitol

Bank and

____________________
19. FIRREA amended 1823(e) by extending its coverage to "any
asset . . . acquired by [the FDIC] . . . either as security
for a loan or by purchase or as receiver of any insured
________________________________
depository institution . . . ." (Emphasis added).
Before
______________________
FIRREA,
1823(e) applied only to the FDIC in its corporate
capacity, and it was only through decisions applying the
D'Oench doctrine that the FDIC as receiver was protected from
_______
unrecorded agreements. See Timberland, 932 F.2d at 49.
___ __________
-61-

The

problem

demonstrates,

with

this

is that the

rule precluding equitable

in

those

cases in

argument,

adoption of a

federal common law

the debtor's

claims

receiver were already barred under D'Oench,

_______

if

the

based on

debtor's request
claims not

against the

1823(e), or, if

by the receiver after a

assumption, the federal

CTS Truss
__________

subordination would be superfluous

which

the asset was acquired

as

purchase and

holder in due course doctrine.

for

equitable

already barred

by

Only

subordination were
the FDIC's

federal

defenses would a federal common law rule preventing equitable

subordination
acquired
FDIC's
would

be necessary

by the

FDIC

to protect

in its

the value

receivership

of assets

capacity.

The

suggestion that the absence of such a common law rule

"undercut the

federal common

policy underlying

law D'Oench Duhme

_____________

course doctrines"

is plainly

the well-established

and federal holder

hyperbole.

in due

rule precluding

equitable subordination against the FDIC would in fact work a

significant
in

expansion of the protections already afforded it

its receivership

Claims or
assert

capacity under

defenses that a borrower

against

meaningless

if

the

federal

the

equitable subordination

D'Oench and
_______

might otherwise properly

receiver

borrower
would

1823(e).

would

entered

be

bankruptcy

be unavailable

even

rendered
because
if

the

would

be

borrower prevailed on these claims or defenses.

-62-

The
consistent

FDIC
with

maintains
the

that

policy

such
of

result

enhancing

the

federal

receiver's

ability to

cost to the

public.

recovery

on the

objective

resolve bank
Yet

assets

failures at

the lowest

if the maximization of

the FDIC's

of

failed

bank

of federal statutory and common

then all claims

___

or defenses against

assets would by now

common law.

was

the FDIC's recovery

As our discussion of D'Oench,

_______

is certainly

on

statutes or

1823(e) and the

course doctrine makes clear,

true that

sole

law in this area,

have been barred by federal

federal holder in due

the

federal law affords

while it

the FDIC

broad

protection against the claims and defenses of borrowers, that

protection has never amounted to total immunity.

Cf. FDIC v.
___ _______

Jenkins, 888 F.2d 1537, 1546 (11th Cir. 1989) ("Of course, it
_______
would

be

convenient

to the

FDIC

to

have

an arsenal

of

priorities, presumptions and defenses to maximize recovery to

the

insurance fund, but

must grant
maximize

this does

all of these tools

deposit insurance
that

equitable

subordination would

FDIC

the absence

as receiver to the

absence

of a

transactions.

Cf.
___

of

that courts
its effort to

recovery.").
a

federal rule

impair the

in due

Nor are

we

preventing

operation of

same extent that,

federal holder

impair the FDIC's ability

to the FDIC in

fund

convinced

not require

the

for example, the

course doctrine

would

to conduct purchase and assumption

Gunter,
______

674

-63-

F.2d

at

870

(principal

justification
absence

for

would

federal

"make

the

common

law rule

was

that

its

FDIC's

task

executing

its

of

statutory mandate . . . nearly impossible").

the

FDIC's

recovery

justification for

alone

has

never

the adoption of

Maximization of

been

a rule of

an

adequate

federal common

law.
The FDIC also argues

that equitable subordination would

never be appropriate when it was only the wrongful conduct of

the failed bank

and its

officers, and not

of the

innocent

federal receiver, that provided the bankruptcy court with the

basis for

subordination.20

left undecided by CTS Truss:

_________

This argument raises

the issue

whether it would be appropriate

to impute the misconduct of officials of a failed bank to the

federal receiver for purposes of equitable subordination.
While the question
inequity that
misconduct
adoption

would

to the
of a

is a

close one, we

result from

imputing

federal receiver

federal common

think that
bank

would be

law rule that

any

officials'

outweighed by
would entirely

prevent the debtor/borrower or its creditors from benefitting

from the remedy

of equitable subordination.

The

FDIC would

____________________
20.

The

FDIC relies for

this argument, inter alia, on the

___________
reasoning of the lower courts' decisions in CTS Truss that
_________
there would be "no
basis for equitably adjusting the
distribution of the bankrupt's assets because the claimant
________
never engaged in misconduct." Brief for Appellant FDIC at 34
(citing district court decision in CTS Truss).
As we have
_________
noted, the Fifth Circuit expressly declined to ground its
decision on this rationale.
-64-

not necessarily

be the only "innocent"

the adoption of such

other

"innocent"

possibility
equitable
receiver.

a rule.
creditors

of recovery

from

subordination
The

FDIC

creditor affected by

Many of
would

the debtor/borrower's
be

the estate

was

barred

should

also

deprived

in bankruptcy

against
be

of

the

subjected

any
if

federal
to

the

constraints of equity.
CTS Truss
_________
federal

prevents

receiver

based

equitable subordination
on

claims

or

against

defenses

of

a
the

debtor/borrower

that are

federal statutory and

not identified
those

barred

by the

FDIC's established

common law protections.

any additional policy

The

FDIC has

considerations, beyond

already supporting its preexisting federal protections

against borrowers' claims, that would favor the adoption of a

new federal common law rule giving the federal
greater

protection

bankruptcy.21

in

the

event

Accordingly, we

of

receiver even

the

borrower's

find that there

is no basis

____________________
21. The FDIC maintains that in this case the statutory
limitation on its liability as a receiver justifies the
denial of
equitable subordination.
See
12 U.S.C.
___
1821(i)(2). This fact-specific argument is not pertinent to
our consideration of whether it is necessary to adopt a rule
of federal common law barring equitable subordination against
the federal receiver.
We also note that we doubt that the
diminution of the secured claim of the federal receiver
resulting from equitable subordination would be a "liability"
against the FDIC within the meaning of this provision. Texas
_____
American Bancshares, Inc. v. Clarke, 954 F.2d 329 (5th Cir.
____________________________________
1992), a case involving the priority of payments by the FDIC
to creditors of
a failed bank after a
purchase and
assumption, is not material to the issue before us.
-65-

for totally
from

exempting the FDIC in

the remedy of

its receivership capacity

equitable subordination

permitted under

the Bankruptcy Code.

We hold

that

equitable

subordination

may

be

sought

against a federal receiver as long as this claim survives the

test

imposed

by

CTS Truss.
__________

The

claim

of

equitable

subordination is valid only if, (1) the claims or defenses on

which the borrower's claim

for subordination is premised are

not already barred by the FDIC's recognized protections under

federal
claims

law,
or

and, (2)

if the

defenses against

misconduct alleged

the

in these

receiver's predecessor

in

interest falls within "any of the classic patterns of conduct

that have

led courts to fashion the

equitable subordination."

extraordinary remedy of

CTS Truss, 868 F.2d at 148.

_________

V.
THE BANKRUPTCY COURT'S
TRUST'S SOFT COSTS CLAIMS

JUDGMENT ON

THE MERITS

OF THE

The district court correctly determined that the federal

holder

in

due

course

doctrine

conversion and

breach of

misapplication

of

loan

did

not

bar

the Trust's

contract claims stemming

proceeds

Having decided that equitable

to

soft costs

from the
payments.

subordination is not barred as

a matter of federal common law against a federal receiver, we

must now consider the
bankruptcy

court's

FDIC's challenge on the merits

rulings in

favor

of the

Trust

to the
on the

-66-

breach

of contract,

conversion and

equitable subordination

claims relating to the soft costs overages.22

A.

Breach of Contract and Conversion

_________________________________

The FDIC challenges

the district court's

affirmance of

the ruling of the bankruptcy court that the Bank breached the
loan agreements
that

exceeded

$111,711.66.

by removing
the
It

agreed-upon
contends

standard-form L&SA used for

Trust

to

pay

authorized the
account

all
Bank

any monies

from the loan

expenses

proceeds amounts

limits for

that

the

soft

provisions

costs

by

of

the

each loan agreement required the

incurred

to withdraw

from

necessary to

repay

by

the

any of

Bank,
the

and

Trust's

those expenditures.

The FDIC places particular emphasis on sections 6.01 and 8.01

of the

L&SA, which provide,

inter alia, that

_____ ____

"the Borrower

agrees that any deposits or other sums . . . may at all times

be

held and treated as collateral for any liabilities of the

Borrower . . . ."; that "the

the Bank

on demand for

Borrower shall pay or reimburse

all out-of-pocket expenses

of every

nature . . . ."; and that "the Bank, if it chooses, may debit

____________________
22. The merits of the Trust's claims arising from the
kickback arrangement are not at issue because the district
court properly applied D'Oench to vacate that part of the
_______
bankruptcy's court's judgment and equitable subordination
award in favor of the Trust that was premised on the kickback
claims.
-67-

such expenses to the Borrower's Loan Account or charge any of

the Borrower's funds on deposit with the Bank."23
The FDIC

argues that

court

concluded

costs

provided

both the district

erroneously that
in the

addendum to

agreement prohibited the Bank

the

and bankruptcy

allocations of

the

L&SA in

soft

each loan

from removing from the Trust's

loan account additional amounts necessary to cover soft costs

expenses

once

the original

estimates

were

contends that both the Bank and the Trust

costs allowances

in both loan

agreements

exceeded.

It

knew that the soft

$100,000 in

the

First Loan

Agreement

Second Loan
soft costs
payments
was

and

Agreement
expenses.

"approximately"

would be

$60,000

inadequate to pay

According to the

in

the

all the

FDIC, by withdrawing

for soft costs in excess of these amounts, the Bank

within its rights under the express terms of both L&SAs.

More importantly, the FDIC argues, the Bank never intended to

relinquish its rights under the L&SAs to complete recovery of
unpaid

expenses

by

limiting

itself

to

the

soft

costs

allowances included in the addenda to the L&SAs.

Following the lead of the parties and both courts below,
we treat Massachusetts law as controlling in this case.

This

circuit has recognized that when interpreting contracts under

Massachusetts

law, "[i]n

the

search for

plain meaning,

____________________
23. The FDIC also relies on several similar
the construction loan agreements.

provisions of

-68-

court

should consider

light

of]

instrument,

all

the

which

'every phrase
other

must

be

and clause

phraseology
considered as

. .

contained
a

. [in
in

the

workable

and

harmonious means for carrying out and effectuating the intent

of the parties.'"

Boston Edison Co. v. FERC, 856

__________________________

F.2d 361

(1st Cir. 1988) (quoting J.A. Sullivan Corp. v. Commonwealth,

___________________________________
494

N.E.2d

374, 378

(Mass.

1986)).

The

principles

of

interpretation applied by the Massachusetts courts conform to

those of

the leading commentators.

greater weight than general

294

Specific terms are given

language.

See Lembo v. Waters,

___ ________________

N.E.2d 566, 569 (Mass. App. Ct. 1973) ("'If the apparent

inconsistency is between a clause that is general and broadly

inclusive

in

character and

one

that is

more

limited and

specific in its coverage, the latter should generally be held

to
the

operate as a modification and

pro tanto nullification of

former.'") (quoting 3 A. Corbin, Contracts

_________

(1960)).
greater

Separately
weight than

negotiated

or added

standardized terms

547, at 176

terms are

or other

given

terms not

specifically negotiated.

See Carrigg v. Cordeiro, 530 N.E.2d

___ ___________________

809, 813 (Mass. App. Ct.

1988) ("If . . . there

and inconsistency

between a

is conflict

printed provision and

one that

was inserted by the parties especially for the contract

they

are then

making, the

latter should

former.") (citations omitted).

-69-

prevail over

that
the

Applying these principles to

case, we
holding

conclude
that

that the

the

Bank

the Bank's conduct in this

courts

below were

breached both

loan

correct

in

agreements

by

withdrawing from the Trust's accounts payments for soft costs

that

exceeded

provisions of

the
the

agreed-upon allocations.
standard

agreements gave the

form

L&SA used

Although the
in

both

loan

Bank broad authority to recover its out-

of-pocket expenses, each L&SA was supplemented by an addendum

prepared by the parties
of
L&SA

loan proceeds recoverable by the Bank as soft costs.

of the

costs and the

construction funding.

L&SA Addendum to
would

follows:
to

loan proceeds

were to

remaining $200,000 in

costs exceeded

Bank

The

Addendum to the First Loan Agreement provided that only

$100,000

for

that specifically limited the amount

The

that $100,000

be applied

proceeds would be

Bank's withdrawals

used

of soft

allocation by $2,305.54.

The

the Second Loan Agreement provided that the

"advance

the

loan

proceeds

approximately

. . . $60,000 for soft costs incurred with

the loan."

to soft

as

respect

The Bank's withdrawals of soft costs exceeded

this "approximate" allocation by $109,406.12.

We reject the FDIC's arguments that the soft cost limits

were

merely

estimates.

The

loan

contemplated that while a portion

be used

agreements

clearly

of the loan proceeds would

for the soft costs, the balance of the proceeds were

to be applied

by the Trust to the costs

of the construction

-70-

project

that was the objective of the entire transaction.

finding

that the Bank breached these provisions does not, as

the FDIC maintains, necessarily conflict with the

court's determination that
$100,000 soft
would have

bankruptcy

both parties understood

costs allocation

to be supplemented

in the First

that the

Loan Agreement

by payments from

the Trust's

funds.
The FDIC correctly points out that when the Trust failed
to

cover the entirety of soft costs expenses incurred by the

Bank, the Bank

had the authority

to recover these

expenses

from any of the Trust's accounts under the general provisions

of the L&SAs used in each
Bank

chose

to

exercise

loan.
that

Yet the means by which

authority

that

is,

the
by

immediately recovering all its

the

loan

costs

otherwise

earmarked

for

construction

countermanded the specifically-agreed upon allocation

of loan
As

proceeds

excess expenses directly from

proceeds between soft costs

the district

court

provisions of the L&SAs

and construction costs.

correctly noted,

while the

general

and the construction loan agreements

gave the Bank discretion to apply the Trust's payments on the

________
loan as it saw
the

fit, these provisions did not

untrammelled right

willy-nilly."
judgment

We

to advance

therefore affirm

"give the Bank

and apply

loan proceeds

the bankruptcy

court's

for an amount equivalent to the total of the excess

withdrawals made by

the Bank towards soft costs payments for

-71-

both loans

i.e., $2,305.54 for the First Loan Agreement and

$109,406.12 for the Second, for a total of $111,711.66.

The FDIC also challenges the finding of the courts below
that the Bank

was also

liable for conversion

$111,711.66 removed

from the

Conversion consists

of the wrongful exercise

of the

loan proceeds for

extra

soft costs.

of dominion or

control

over the personal property

of another.

See 14A D.
___

Simpson & H. Alperin,

Massachusetts Practice: Summary of the

______________________________________

Law
___

In

1771 (1974).
show

order

that

at

to recover

plaintiffs

must

conversion

they had either actual possession or the right to

immediate possession or control

Id.
___

See also
___ ____

the

time

for conversion,
of

the

alleged

of the property in question.

Mechanics Nat'l Bank of Worcester v. Killeen,

_____________________________________________

384 N.E.2d 1231, 1240 (Mass. 1979).

The

FDIC argues

that the

Bank's withdrawal

of excess

soft costs payments did not constitute conversion because the

Trust never had an immediate
over the loan proceeds.
satisfy the
the Trust,

control

It contends that the Trust failed to

conditions of
inter alia,
_____ ____

right to possession or

the loan agreement

to provide itemized

that required
requisitions of

its construction expenses prior to the Bank's disbursement of

any

proceeds.

conditions
acquired

Because

precedent,
a

right

to

of
the

its

failure to

FDIC

control

reasons,
or

these

the Trust

never

possession

proceeds disbursed for construction purposes.

-72-

satisfy

of any

loan

Thus, the FDIC

concludes, when the Bank

disbursed loan proceeds for payment

of construction costs and then applied these payments to soft

costs

payments,

the Bank

could

not

have converted

those

funds.
The

problem

with

the

FDIC's

reasoning

is

that

it

misstates the factual circumstances of this case that explain

why
___

the

Bank

construction.

chose

to

disburse

loan

proceeds

for

The FDIC ignores the finding by the bankruptcy

court that Bank officers, under Weiner's orders, deliberately

violated the conditions precedent of the First Loan Agreement
in order to expedite

the advancement of loan proceeds.

Bankruptcy Court Opinion, 119 B.R. at 360-61.

court also found
removed
for

that portions of

The bankruptcy

those proceeds were

then

by Benjamin to make kickback payments to Weiner.

the Second

that

See
___

the

Loan Agreement,

conditions

the bankruptcy

precedent

for

As

court found

construction

fund

disbursement were in fact complied with by the Trust.

Id. at
___

367.

monies

to

The record
the

demonstrates that the Bank advanced

Trust's

loan

construction work, only

account

after

the

completion

to apply these loan proceeds

of

to the

payments of soft costs.

We reject

the FDIC's

argument

that the

Trust had

no

right

to

possess and

agreements once

control

the

proceeds of

they were deposited to

both

loan

the Trust's account.

There is no basis in the record for the claim that violations

-73-

by the Trust of the conditions precedent entitled the Bank to

disburse funds

for construction

Trust interest,

and at

these proceeds for

costs, begin to

charge the

time withdraw

portions of

the same

soft costs payments.

Both courts

below

correctly concluded that the Bank, by withdrawing amounts for

soft

costs

beyond

the

agreed-upon

limits

of

both

loan

agreements, thereby converted funds belonging to the Trust.

B.

Equitable Subordination
_______________________

Because

we

have

determined

correctly found that the

barred

against

the FDIC

second

element

of the

misconduct

of

the

Bank

patterns of conduct that

that

the district

Trust's soft costs claims

by federal
CTS Truss
__________
fit

law,

we focus

analysis:

"within

any

court

were not
on the

whether

the

of

the classic

have led the courts to

fashion the

extraordinary remedy of equitable subordination."

CTS Truss,
_________

868 F.2d at 148.24

The FDIC argues that even if the district court properly
upheld the Trust's breach

of contract and conversion claims,

equitable subordination was nonetheless erroneous because the

Trust failed to establish
Steel test:
_____
to soft

two of the elements of

the Mobile
______

that the Bank's overapplication of loan proceeds

costs was misconduct sufficient to

of equitable subordination, or that this

support an award

misconduct resulted

____________________
24. We disregard the FDIC's
arguments that it is an
"innocent" receiver, having rejected this line of reasoning
in Part IV, supra.
_____
-74-

in injury to the

Trust's other creditors.

F.2d

Mobile Steel,
____________

at 938-39;

claims that to permit

563 F.2d

See
___
at

Giorgio, 862
_______
692.

It also

equitable subordination of its secured

claim would result in a double recovery by the Trust.

Although the

remedy of equitable subordination has been

applied

relatively

infrequently,

towards

misconduct

arising in

fiduciary

of

the

debtor

it

is

three

misuses

usually

situations:
his

position

directed
when
to

a
the

disadvantage of other creditors; when a third party dominates

or controls the debtor to the disadvantage of others; or when
a

third party defrauds the

(citing 3 Collier at

other creditors.

510.05).

Id. at 148-49
___

See also A. DeNatale and P.

___ ____

Abram, The Doctrine of Equitable Subordination as Applied to

______________________________________________________
Nonmanagement Creditors, 40
________________________
("DeNatale & Abram").

Bus.

Law.

417, 430-45

This court has summarized

(1985)

briefly the

purpose of the remedy:

The case law does not suggest that the doctrine of
equitable subordination gives the bankruptcy court
a general license to weigh the moral quality of
_______
each debt or to compare creditors in terms of moral
worth; rather it indicates that the bankruptcy
court may equitably subordinate those debts, the
creation of which was inequitable vis-a-vis other
_______________
creditors.
It permits a bankruptcy court to take
_________
account of misconduct of one creditor towards
another, just as that court often can take account
of a creditor's misconduct towards the debtor when
______
considering whether to allow, or to disallow, a
claim.
Thus,
most
cases
involving
"equitable
subordination" also involve corporate insiders or
fiduciaries who have obtained unfair advantages
over other creditors through, for example, fraud.

-75-

Where a bankruptcy court has subordinated the debt

of a creditor who was not an insider, it has done
so on the ground that that conduct was egregious
and severely unfair in relation to other creditors.
Giorgio, 862 F.2d at 939
_______

(citations omitted and emphasis

in

original).
Whether the creditor is
debtor is
that

fundamentally important

courts apply

creditor.
(5th

to

creditor's
that

and

courts.

allegations of

See also
___ ____

the creditor

has

Claims

an insider

are

Fabricators, 926 F.2d

___________

if the claimant
egregious
overreaching

is not

misconduct

of scrutiny

is

necessary."

1458, 1465

Abram at

424 ("The

increased in the precise

power and

control

over the

arising from dealings between a

rigorously

scrutinized by

at 1465.

On the other

an insider, "then
such

of the

misconduct against

DeNatale &

duty of fair dealing is

debtor's affairs.").
debtor

to the level

See In re Fabricators, Inc., 926 F.2d

___ ________________________

Cir. 1991).

degree

an insider or fiduciary

as

fraud,
Id.

hand,

evidence of
spoliation

(citing

In

the

re

more
or
N&D

___
Properties, Inc., 799 F.2d
________________
In re Friedman,
______________

____________

726 (11th Cir. 1986)).

126 B.R.

63, 71-72 (Bankr.

See also
___ ____

9th Cir.

1991)

(same principle).
Rather than decide the question of whether
a

fiduciary or

based its

decision to

finding that
severely

insider of

the Trust, the

bankruptcy court

award equitable subordination

the Bank's conduct was

unfair to

the Bank was

other creditors"

on its

"illegal, egregious and

within the

meaning of

-76-

Giorgio.
_______

Bankruptcy

bankruptcy

Court Opinion,

119 B.R. at

court's equitable subordination

grounded on the

Trust's claims of fraud,

of the

377.

The

Bank was

breach of contract

and conversion claims relating to the kickback scheme and its

___
claims of breach

of contract and conversion

soft costs overages.

"fraud

The court specifically cited the Bank's

and illegality,"

"together constitute

premised on the

which

the

one of the three

bankruptcy court

found

general categories of

misconduct

recognized by the

subordination."
The
against

courts as warranting equitable

Id.
___

district court

upheld the

equitable subordination

the FDIC's challenge on appeal, but at the same time

vacated that portion of the original judgment that was

on

the kickback

barred by
from the

claims, which

D'Oench.
_______

court otherwise

equitable

Accordingly, the

determined were

district court removed

judgment of equitable subordination

damages attributable

court's

it properly

to the

affirmed

determination that
subordination

the $26,300 in

kickback scheme.

in

its

entirety

the Bank's

with

based

respect

The district
the

bankruptcy

misconduct justified
to

the

soft

costs

claims.
The FDIC
to

the

breach

insufficient
argument

argues that the Bank's

to

of

contract

support

and

equitable

misconduct in relation
conversion

claims

subordination.

was
This

raises an issue that was not fully addressed by the

-77-

district

court

subordination
Bank:

when

it

reviewed

the

Trust's

equitable

claim against the FDIC as the successor to the

whether the bar under D'Oench to the Trust's kickback

_______

claims,

and

validity

in particular

of the

its

bankruptcy

fraud

court's

claim, affected
original

judgment

the
of

equitable subordination.
The bankruptcy court specifically premised the equitable
subordination on
Trust

the Bank's "fraud and

has never argued

insider

in this

or fiduciary of the

asserted
affairs.25

that

the

Bank

Accordingly,

illegality," and the

case that

Trust.

Nor

dominated
the

issue

the Bank

was an

has the Trust ever

or

is

controlled
whether

its

equitable

subordination can be based solely on the Bank's misconduct in

relation to the excess withdrawals of soft costs.
Courts have struggled to define precisely the misconduct
necessary

to

support

creditor who is not an

equitable
insider.

subordination
Fraud or

against

misrepresentation

____________________
25. We add that such
would not have been
standard necessary to
Trust's affairs by the

allegations, if made in this case,

sufficient to satisfy the rigorous
prove control or domination of the
Bank. See, e.g., In re Burner, 109
___
____ _____________
B.R. 216, 228 (Bankr. W.D. Texas 1989) ("A non-insider
creditor will be held to a fiduciary standard only where his
ability to control the debtor is so overwhelming that there
has been a merger of identities."); In re Beverages Int'l
______________________
Ltd., 50 B.R. 273, 282 (Bankr. D. Mass. 1985) ("[m]ore than
____
mere pressure or influence on a debtor must be shown"). We
also note that "[a]s a
general rule lenders are not
fiduciaries when it comes to collection on their claims." In

__
D. Vt.

re Kelton Motors, Inc., 121 B.R. 166, 191 (Bankr.

________________________
1990) (citing In re W.T. Grant Co., 699 F.2d 599, 609
_____________________
Cir.), cert. denied, 464 U.S. 822 (1983)).
____________

(2d

-78-

are

the

most

frequent

subordination of

justifications

the non-insider.26

They

for

equitable

are not, however,

required:
Something less than actual fraud . . . will
suffice.
The fixing of the lower limit is the
elusive boundary which cannot be clearly defined.
Although the courts have used general terms such as
injustice or unfairness to fix this lower limit,
the minimum level of offending conduct appears to
be conduct that shocks the conscience of the court.
. . .
DeNatale &

Abram at 423-24.

Types

of misconduct sufficient

to warrant equitable subordination against

included
involving

instances
moral

of

turpitude

misrepresentation

where

their

damage

overreaching .

"[v]ery

. . ."

or

other
or

substantial
some

creditors

gross

non-insiders have
misconduct

breach
were

misconduct

or

some

deceived to
amounting

to

In re Mayo, 112 B.R. 607, 650 (Bankr.

__________

D.

Vt. 1990) (citations omitted).

For the most part, courts

____________________
26.

See, e.g., In re Bowman Hardware & Elec. Co., 67 F.2d

___
____ ___________________________________
792, 795 (7th Cir. 1933) (where creditor participated with
debtor in scheme to misrepresent debtor's financial state,
creditor's claim subordinated to that of other creditor
injured by that misrepresentation); In re Osborne, 42 B.R.
_____________
988,
1000
(W.D. Wis.
1984)
(equitable subordination
appropriate against lender based on its misrepresentations to
another
creditor about
that creditor's
prospects for
payment); In re Slefco, 107 B.R. 628, 644 (Bankr. D. Minn.
____________
1989) (equitable subordination of bank's claim predicated on
bank's misrepresentation of amounts it intended to loan
debtor).
-79-

have been reluctant to find the requisite level of misconduct

in arms-length dealings between borrowers and lenders.27
In Kham & Nate's Shoes No. 2, Inc. v. First Bank of
_____________________________________________________
Whiting, 908
_______
reversed

F.2d 1351 (7th Cir. 1990),

the equitable

subordination of

the Seventh Circuit

a

bank's priority

claim

to

borrower's estate.

Id.
___

at

1356-1359.

The

bankruptcy court had justified the equitable subordination on

the

basis

of,

inter
_____

borrower/debtor
credit.28

borrower's

by the

Finding

fiduciary of

alia,
____

that

contract, the

of

hardship

bank's suspension
the bank

the borrower,
line

the

credit

was

of a new
not an

and that the

was permitted

Seventh Circuit rejected the

bankruptcy court.

Id. at 1356-58.
___

caused

to

line of

insider

suspension of
under

the

the

or
the
loan

reasoning of the

During the course of its

opinion, the court stated:

____________________
27.

See In re Pacific Express, Inc., 69 B.R. 112, 117-18

___ _____________________________
(Bankr. 9th Cir. 1986) (creditors' loan agreement with
debtor, which effectively shifted risk of loss to other
creditors, was not "the type of overreaching, fraud or other
conduct which would justify subordination of a non-insider's
claim"); In re Dry Wall Supply, Inc., 111 B.R. 933, 937-39
____________________________
(D. Colo. 1990) (rejecting equitable subordination based on
allegations that creditor knew that loan transaction would
render borrower insolvent); In re Pinetree Partners, Ltd., 87
_____________________________
B.R. 481, 490 (Bankr. N.D. Ohio 1988) (lender's refusal to
provide additional credit and threatened foreclosure of
debtor's mortgage not sufficiently egregious to warrant
equitable subordination).
28. The other basis for the district court's equitable
subordination was its finding that the bank had induced the
borrower's suppliers to draw on letters of credit issued
prior to the bank's provision of the new line of credit. Id.
___
at 1354.
-80-

[W]e are not willing to embrace a rule that

requires participants in commercial transactions
not only to keep their contracts but also do
"more"
just
how much
more resting
in the
discretion of a bankruptcy judge assessing the
situation years later. . . .
Unless pacts are
enforced according to their terms, the institution
of contract, with
all the advantages private
negotiation and agreement brings, is jeopardized.
"Inequitable conduct" in commercial life means
breach plus some advantage-taking, such as the star
____
who agrees to act in a motion picture and then,
after $20 million has been spent, sulks in his
dressing room
until
the contract
has
been
renegotiated. Firms that have negotiated contracts
are entitled to enforce them to the letter, even to
the great discomfort of their trading partners,
without being mulcted for lack of "good faith."
Id. at 1356-57 (citations omitted).
___
rebutted the debtor's
could

be

based on

bank's failure

The Seventh Circuit also

arguments that equitable subordination

a breach

to provide it

notice of the suspension

of

contract arising

telephonic as well

of the line of credit,

"[e]quitable subordination . .

. is not a device

the

inconsequential

damages

contract."

available

for

from the
as written

noting that
to magnify
breaches

of

Id. at 1359.
___

Applying the

somewhat amorphous case law standards for

equitable

subordination to the

facts of this

that the Bank's excess withdrawals

sufficiently

egregious
actions could

misconduct

amounting to

650.

Unlike

of soft costs was conduct

to justify

The Bank's

case, we find

equitable subordination.

fairly be characterized
overreaching."

as "gross

Mayo, 112
____

B.R. at

the insubstantial breach of contract alleged in

-81-

Kham & Nate's Shoes,

___________________
in

excess

of

substantial
fact

that

the

the Bank's withdrawal of

agreed-upon

breach of
the

Bank

arbitrarily, and at the

misappropriated

the loan

soft

costs

agreements.

advanced and

withdrew

over $100,000
limits

Moreover, the
loan

same time caused interest to

proceeds, in our view rises

was

proceeds
run on

to the level of

"advantage-taking" within the meaning of Kham & Nate's Shoes.

___________________
As the
the soft

bankruptcy court

also found, the

costs monies handicapped the

resulted in the Bank's

that the Trust

conversion of

renovation effort and

recovering for its own

benefit funds

had bargained with the Bank to

set aside for

construction creditors.
at 377.

While

agreements
Trust,

the Bank

without regard

for unpaid
this

Court Opinion, 119

was entitled to
to

Kham & Nate's Shoes,

____________________

agreements did

In

Bankruptcy

case, the

construction creditors

flowed from

the

those loan

to seek reimbursement

from the Trust's

hardship imposed

loan

imposed on

at 1357,

not authorize the Bank

soft costs

enforce the

the hardship
908 F.2d

B.R.

construction funds.

on

the Trust

and its

the Bank's improper

and

unauthorized administration of the loans, and could therefore

properly

have been

subordination
misconduct

in

considered an

inquiry.
relation

sufficient evidence

We
to

element of

conclude
the

soft

of misconduct on which

that
costs

the equitable
the

Bank's

claims

was

to predicate the

equitable subordination of the FDIC's secured claim.

-82-

The FDIC nonetheless argues that equitable subordination

would be

not appropriate

under the second

Steel because the Bank's misconduct

prong of

Mobile
______

did not result in injury

_____
to the Trust's other creditors.
on

the

bankruptcy

misappropriation of
principal
project
that

court's

determination

loan proceeds by

cause of the

bankruptcy

the loan.

would

have

misapplication of

loan proceeds

any

Trust's

harm

to the

the Bank

that

the

was not

the

failure of the Trust's construction

and failure to repay

the

The FDIC bases this argument

The FDIC maintains

resulted

even

had not occurred,

other

creditors

if

the

and that

thus cannot

be

attributed to the Bank's conduct.

The

FDIC's argument

equitable

subordination

misconduct

at

bankruptcy.
law.

issue

is

This argument

boils down
is
a

to the

inappropriate
major

cause

is without

of

assertion that
unless
the

the

debtor's

support in the

case

The second prong of Mobile Steel establishes only that

____________

equitable
results

subordination is

appropriate when

the misconduct

in actual harm to the debtor or the other creditors,

"or conferred an unfair advantage on the claimant":

In examining
the effect
of the
conduct on
creditors, the court should consider the effect on
the then-known creditors,
as well as
future
creditors.
In this analysis, the question to be
answered is whether or not the offending conduct
had an impact on the bankruptcy results, that is,
the bottom line, in the proceeding before the
court. . . . This would encompass all the effects
of fraud and inequitable conduct that would have an

-83-

impact upon [other creditors' legal or equitable

rights in the bankruptcy results]. . . .
In demonstrating the harm, the objecting party
usually
need
not identify
specifically each
particular creditor who was harmed and quantify the
injury suffered by each. If the misconduct results
in harm to the entire creditor body, the objecting
party need demonstrate only that the misconduct
harmed the creditor body in some general, albeit
concrete, manner.
DeNatale & Abram
court found,
other

at 426 (footnotes omitted).

inter alia, that the

_____ ____

creditors

consequently,

by

its

depleting

ultimately had

Bank's misconduct damaged

the

Trust's

bankruptcy estate,

handicapping the renovation

to rely

and

assets

and,

by substantially

effort, on which

for compensation.

Opinion, 119 B.R. at 377.

The bankruptcy

many creditors
Bankruptcy Court

We find that this depletion of the

funds available for construction, and its attendant impact on

the

success

of

the

Trust's

sufficiently concrete harm to

warrant equitable

renovation

efforts,

was

the Trust's other creditors to

subordination

of the

Bank.

Cf.
___

In re
______

Beverages Int'l Ltd., 50 B.R. 273, 283 (Bankr. D. Mass. 1985)

____________________
("the misconduct may

result in harm

to the entire

creditor

body, [or] a particular class of creditors") (citing DeNatale

& Abram).
There is no merit to the FDIC's argument that the Bank's
conduct did

not reduce the

money present in

estate available to the other creditors.

that

the

Bank's

overages

of soft

the bankruptcy

The FDIC points out

costs

payments

merely

-84-

reduced

the overall amounts due

Trust's principal
could be no harm

the Bank (and

secured creditor.

FDIC) as the

It reasons

to the Trust's other creditors

that there
because the

FDIC's secured claim exceeds the value of the Trust's assets.

Such an

argument ignores

subordination
recovery

by

because of

the very

remedy, whose
other

precise

creditors

misconduct of

nature of

with

the equitable

purpose
lower

is to

permit

priority

claims

a particular creditor

whose claim

would otherwise enjoy priority.

We

also

subordination

reject

the

FDIC's

of its secured

assertion

that equitable

claim would grant

the Trust a

windfall double recovery.

It is clear that it is the Trust's

unsecured

will

creditors

who

benefit

from

the

partial

subordination of the FDIC's claim, not the Trust.

contention

that damages

equally spurious.
far

exceeds

properties.

the

are

an adequate

The FDIC asserts

value

of

the

would

attributable

law is

that its secured

Trust's

estate

subordination of an

would simply increase

the FDIC would recover.

FDIC

remedy at

claim

or

its

Payment of damages by the FDIC on the soft costs

claim, rather than equitable

amount,

The FDIC's

recoup
to

the value of

equivalent

the estate that

Without equitable subordination, the

from
the

the

Trust's

Bank's

estate

misconduct.

any

damages
Equitable

subordination is necessary in order to permit recovery by the

-85-

Trust's other creditors to

reflect the injury caused

by the

Bank's misappropriation of loan proceeds for soft costs.

Accordingly,

we affirm

the equitable

subordination of

the FDIC's secured claim, as reduced by the district court to

an

amount

equivalent to

the

damages

attributable to

excess soft costs monies withdrawn by the Bank.

the

VI.

INTEREST
The FDIC next attacks the

soft

costs overages

secured

claim

contends

that

subject
the

bankruptcy's court
contract

rate

as

inclusion of interest on

part of
to

total amount

equitable

district
award of

from

the

the

of

the
its

subordination.

court's

of

the

post-judgment interest "at

the

dates

affirmance

It

on

misappropriated" was contrary to law.

which

they

were

The FDIC argues that:

(1) federal law forbids a post-judgment award of

interest to

the extent that it provides for interest after appointment of

a receiver; and (2) the district court erred by setting postjudgment interest at the rate found in the Loan Agreements.
Because the FDIC did not raise its first argument in the
district
court's

court below, we will not consider it.

opinion makes no mention

post-judgment
asserts

interest

claimed

in its brief that the

of the federal
by

the FDIC.

reply brief.

There

law bar to
The

Trust

issue was never raised in the

district court, and the FDIC has not refuted

in its

The district

is also

-86-

this contention

nothing in

the record

before us that

indicates that

the issue

We, therefore, deem the argument waived.

was raised

below.

See Boston Celtics,

___ ______________

908 F.2d at 1045.

The FDIC relies for its second argument on section 6C of
chapter

231

of the

General

Laws

of Massachusetts,

which

provides in pertinent part:

In all actions based on contractual obligations,
upon a verdict, finding or order for judgment for
pecuniary damages, interest shall be added by the
clerk of the court to the amount of damages, at the
contract rate, if established, or at the rate of
twelve per cent per annum from the date of the
breach or demand.
Mass.
this

Gen. Laws Ann.

6C.

The

FDIC argues that

statute requires a twelve percent rate of interest on a

judgment

on a

contract

judgment debtor
a

ch. 231,

in this case

different rate.

Agreements
interest

The

imposed
to

unless the

the

contract obligated

the Bank

to pay interest at

FDIC contends that

no obligation
Trust,

on

the

because the Loan

the Bank

Massachusetts'

to

default

pay any
judgment

interest rate of twelve percent must be applied.

To

our

Court has
interest

knowledge, the

never
in

Massachusetts

addressed the

a promissory

issue

note

should

Supreme Judicial

of whether
be treated

rates

of

as

the

"contract rate" for purpose of post-judgment interest against

the lender.
n.14

See Mechanics Nat'l Bank, 384

___ _____________________

(declining to

bankruptcy court's

address

issue).

interpretation

of

N.E.2d at

After
section

review of
6C,

we

1240
the
are

-87-

persuaded that the court

correctly decided to apply interest

at the contract rate specified in the loan agreements:

The contract rate is appropriate here . . . because
the Bank charged interest at the contract rate for
the misappropriated proceeds. Some of the interest
charged has been paid, and the remainder is part of
the Bank's secured claim[]. . . .
Bankruptcy
of

Court Opinion, 119 B.R at

the contract rate of

371 n.17.

Application

interest was necessary

in order to

assure that the equitable subordination award fully reflected

the

damages to

the Trust

withdrawal of soft

resulting from the

costs.

We affirm

Bank's excess

the district

court's

rejection of the FDIC's challenge on this issue.

VII.

ATTORNEY'S FEES
The

district

against the FDIC's

the

damages

court

incurred

determination

attorney's fees

equitable

secured claim in an

overages plus interest.

court's

affirmed

by

the

Trust

subordination

amount equivalent to
from

the soft

costs

It reversed, however, the bankruptcy

that

Massachusetts

law

permitted

as an element of the damages for conversion.

The district court held:

The Bankruptcy Code permits equitable subordination
of "all or part of an allowed claim to all or part
of another allowed claim."
11 U.S.C.
510(c)(1).
As I have previously held that it was improper to
award attorney's fees as an element of conversion
damages, the attorney's fees can no longer be
considered part of appellees' allowed claim against
the estate.
Thus, the plain language of the
statute precludes the subordination of the Bank's
claim to the fee award.

-88-

While the district court rejected subordination of attorney's

fees

on the grounds

identified by the

bankruptcy court, it

also observed in a footnote that "[a]ttorney's fees [could] .

.

still

expense,

be

see 11
___

allowed,
U.S.C.

of

course,

as

an administrative

503(b)(3), accorded

the priority

specified in the Bankruptcy Code."

The Trust
the bankruptcy
equitable
contest

challenges the

district court's

court's inclusion

subordination.

The

reversal of

of attorney's fees
Trust

does

not,

in the
however,

the district court's interpretation of Massachusetts

conversion law.

Rather, the Trust

or

more precisely, the

Trust's attorneys
administrative
within

the

argue

that attorney's

expense claim
meaning

503(b)(2).29

of

The Trust's

against the
11

fees are a

bankruptcy estate

U.S.C.

attorneys

valid

330(a)(1)
contend

and

that because

____________________
29.
Section 503(b) of the Bankruptcy Code governs the
allowance
of
administrative
expenses.
Among
the
administrative expenses permitted,
after notice and
a
hearing, are claims for "compensation and reimbursement
awarded under section 330(a) of this title."
11 U.S.C.
503(b)(2). Section 330(a) provides in pertinent part:
(a) After notice to any parties in interest and to
the United States trustee and a hearing . . . the
court may award to a trustee, to an examiner, to a
professional person employed under section 327 or
1103 of this title, or to the debtor's attorney
(1)
reasonable
compensation for
actual,
necessary services rendered by such trustee,
examiner, professional person, or attorney,
. . . based on the nature, the extent, and the
value of such services, the time spent on such
services, and the cost of comparable services
other than in a case under this title . . . .
-89-

their

fees

are

in

provisions,

the

bankruptcy

attorney's fees

fact

valid
court's

in the equitable

"claim"

under

decision

to

these
include

subordination against

the

Bank was proper.

may,

"under

principles

subordinate for
allowed

See 11 U.S.C.
___

510(c)(1) (bankruptcy court

of

equitable

purposes of distribution

claim to all or part of

subordination,

all or part

of an

another allowed claim . . .

.").
This argument
both
dicta,
_____

the bankruptcy

puts the cart before the horse.

and

district courts

Although

acknowledged,

that a request by the Trust for attorney's fees might

be an allowable administrative

expense under the

Bankruptcy

Code, neither court expressly made such a determination.

fact, the Trust's attorneys
that they have
award
claim.

in

them

not, as

attorney's

See Reply
___

Realty Trust at 2-3.

acknowledge in their reply brief

yet, asked the

fees

Brief for

In

as

bankruptcy court

an administrative

Appellant 604

to

expense

Columbus Avenue

Any such award of attorney's fees as an

administrative expense under sections 330(a)(1) and 503(b)(2)

would require notice and a hearing.

See
___

11 U.S.C.

330(a)

and 503(b).

____________________
11 U.S.C.
330(a).
Administrative expenses allowable under
503(b), which include expenses under
330(a), are given
first priority of payment under the Bankruptcy Code. See 11
___
U.S.C.
507(a)(1).
-90-

In these circumstances, we need not address the argument

that

the bankruptcy court

the Bank's

should properly have subordinated

secured claim to an

of the Trust's attorneys.

nor

allowed by

the

district

Such a claim had neither been made

bankruptcy court

equitable subordination
the

administrative expense claim

court's

of the Bank.
reversal of

inclusion of attorney's

at

the time

of

its

We, therefore, affirm

the

bankruptcy

fees in the equitable

court's

subordination

against the Bank, insofar as that decision reversed the award

of

attorney's

fees

as

an

element

of

the

conversion

damages.30
CONCLUSION
CONCLUSION
To summarize, we find that:
(1)

the FDIC

was entitled to raise its

defenses under

federal law for the first time on appeal in the district

court;
(2)

the D'Oench doctrine barred the

_______

fraud, conversion, and

the kickback scheme;

Trust's claims for

breach of contract

arising from

(3)

the federal

apply to

holder in due course doctrine

the FDIC in

absence of a

did not

its receivership capacity

purchase and

in the

assumption transaction,

and

____________________
30. We express no opinion on the merits of the Trust's claim
that its attorney's fees are administrative expenses within
the meaning of sections 330(a)(1) and 503(b)(2).
-91-

therefore did not bar

the Trust's claims for conversion

and breach of contract based on the soft costs overages;

(4)

federal common

subordination

against

law
the

did
FDIC

not preclude
in

its

equitable

receivership

capacity;
(5)
for

the bankruptcy and district

the Trust on its

courts properly found

breach of contract and conversion

claims based on the soft costs overages;

(6)

equitable subordination of the FDIC's secured claim

in an amount

equivalent to the

soft costs damages

was

proper;
(7)

the

bankruptcy court properly included

as part of

the

overall

equitable

amount

of

subordination

the FDIC's

claim

an

of

award

subject

to

post-judgment

interest on the soft costs damages at the contract rate;

and
(8)

attorney's fees were

damages, and

could not

not an element of
properly have been

the amount equitably subordinated.

AFFIRMED.
________

-92-

conversion
included in