Originally Published in Law360 - October 1, 2013.
As of August 2013, since the fallout from the recent financial crisis, the FDIC as receiver for failed banks has brought suit against former directors and officers of 76 failed institutions.[1] These lawsuits are based on traditional claims of negligence, gross negligence and breach of fiduciary duty. However, they present unique challenges to practitioners who represent the former directors and officers due to the special privileges and role of the FDIC as a governmental entity acting as receiver of a failed bank.
In particular, it is essential that practitioners are aware that affirmative defenses traditionally available against claims of negligence, gross negligence and breach of fiduciary duty are not available against the FDIC. In the 76 litigated cases, former directors and officers have asserted a variety of affirmative defenses based on the FDIC's pre-receivership conduct (FDIC's pre-failure examinations) or post-receivership conduct (FDIC's management of the receivership).[2]
However, numerous federal courts have recognized that many affirmative defenses: (1) improperly challenge the FDIC's discretionary conduct and judgment in regulating banks and acting as a receiver; and (2) are improper because the FDIC does not owe any duty to a bank's officers and directors.
Under the FIRREA's and FTCA's Discretionary Exemptions, Defenses Available Against Other Plaintiffs are Unavailable Against the FDIC
Given that the role of bank regulators and government oversight is unique, defenses potentially available against other plaintiffs are largely unavailable against the FDIC. This limitation derives from several sources, beginning with the absence of any legal duty by the FDIC to bank directors and officers under the Financial Institutions Reform, Recovery and Enforcement Act of 1989 ("FIRREA"). This statutory scheme provides that the FDIC owes a duty solely to depositors, creditors and the public at large, not to a bank or its former directors and officers.[3]
In addition, federal court decisions have relied on the discretionary function exception to the Federal Tort Claims Act ("FTCA"), 28 U.S.C. § 2680(a), to bar certain affirmative defenses. In United States v. Gaubert[4], the Supreme Court reviewed the discretionary function exception to the FTCA and held that the myriad of actions a federal regulatory agency undertakes in supervising federally insured financial institutions are discretionary in nature and are sheltered from claims under the FTCA.[5] The Supreme Court held that the plaintiff could not maintain a claim under the FTCA because the federal regulators' activities in overseeing the operations of the financial institution and loan involved the exercise of judgment, and fell under the statute's discretionary function exception.[6]
Appellate courts post-Gaubert have relied on Gaubert and the discretionary function exception to the FTCA to dismiss duty-based affirmative defenses raised against the FDIC's claims[7], and vast majority of federal district court decisions also apply Gaubert and the discretionary function exception to the FTCA as a further rationale to bar affirmative defenses that seek to litigate the conduct of the FDIC, both as a regulator and a receiver.[8]
The FDIC as a Receiver is Not Liable for the Acts of the FDIC in its Corporate Capacity
Courts have held that the FDIC acts in two different capacities, neither of which is liable for the acts of the other. The FDIC in its corporate capacity regulates and insures banks to protect customer deposits and maintain the safety and soundness of the banking industry.[9] When the FDIC is appointed as a receiver for a failed financial institution, however, it succeeds to all the rights, titles, powers and privileges of the institution and then carries out its statutory functions to marshal assets and resolve the liabilities of the failed institution.[10] Only the FDIC as a receiver is a plaintiff in these cases.
In Bullion Services Inc. v. Valley State Bank, the court held that "Congress created two distinct entities with two entirely different purposes."[11] In FDIC v. Nichols, the court held that "under federal law, the FDIC is empowered to act in ‘two entirely separate and distinct capacities' in proceedings involving an insured state bank[.]"[12] In its corporate capacity, the FDIC's "primary responsibility is to insure bank deposits and to pay depositors when an insured bank fails."[13] The FDIC in its corporate capacity is "the agency of the United States that operates as regulator and corporate insurer of depository institutions."[14] The "FDIC Receiver, on the other hand, ‘act[s] as a receiver for an insolvent state bank ... possessing all the rights, powers, and privileges granted by State law to a receiver of a State bank.'"[15] "Although the paths of the two entities cross often, the law treats them as distinct."[16]
In Mill Creek Group, the court dismissed claims against the FDIC in its corporate capacity that were based on the alleged conduct of the FDIC as receiver relating to a sale of assets. It held that "Under the ‘separate capacities' doctrine, it is well established that the FDIC, when acting in one capacity, is not liable for claims against the FDIC acting in one of its other capacities."[17] "Because they are discrete legal entities, ‘Corporate FDIC is not liable for wrongdoings by Receiver FDIC.'"[18]
The same principle applies when attempting to hold the FDIC as receiver liable for the pre-closing acts of the bank regulators. Several of the affirmative defenses that the directors and officers of a failed banks have asserted, in cases brought by the FDIC as a receiver, are directed towards the activities of the FDIC prior to the closing of the bank, i.e. toward the FDIC as a regulator. However, several courts have held that because the FDIC as a regulator is not an opposing party in these actions, it cannot, therefore, be the subject of affirmative defenses. As a matter of law, the FDIC as a receiver cannot be liable for, or subject to, defenses based upon pre-closing actions of the FDIC in any capacity, or for acts of the state regulators prior to the appointment of the FDIC as a receiver.[19] In FDIC v. Manatt, the district court struck affirmative defenses and counterclaims asserted against the FDIC because there was no identity of parties:
The FDIC ... steps into the shoes of [the bank] as plaintiff in this suit. As such the FDIC/Corporation is not subject to defenses asserted against it for actions prior to the assignment, as it was not a party to the obligations of the officers and directors of [the bank], nor was it a prior assignee of the action. Since the ... negligence counterclaims involve actions prior to the assignment upon which this action is based, these defenses and counterclaims as a matter of law are not assertable against the plaintiff.[20]
In other words, several courts have held that the directors and officers in these cases cannot raise the conduct of the FDIC bank examiners as a defense to claims brought against them by the bank directly, and cannot rely on that conduct to defend claims brought by the FDIC as a bank's receiver.[21]
Majority of the Courts Have Held that the FDIC in its Pre-Failure Regulation or Post-Receivership Role Owes No Duty to Directors and Officers
The "no duty" rule holds that defendant directors and officers of a failed bank are precluded as a matter of law from litigating the discretionary conduct of the FDIC. In the context of suits brought by the FDIC or the Resolution Trust Corporation ("RTC")[22] or other government regulators, federal courts have rejected efforts by defendant directors and officers to avoid or mitigate their liability through attacks on the conduct of bank regulators. These courts have adopted the "no duty" rule and barred affirmative defenses that seek to litigate the discretionary conduct of the FDIC, both as a regulator before seizure of a bank and in its receivership capacity.[23]
The "No Duty" Rule
Many courts have followed the rationale articulated in FDIC v. Mijalis to reject "duty-based" affirmative defenses. In Oldenburg, the Tenth Circuit affirmed the district court's refusal to admit evidence regarding the FDIC's post-receivership conduct in an FDIC action alleging fraud and negligence against the former directors and officers of a savings and loan association.[24]
Adopting the reasoning of both FDIC v. Bierman and FDIC v. Mijalis, the Oldenburg court held that officer and director defendants could not assert the affirmative defenses of failure to mitigate or contributory negligence, recognizing that "nothing could be more paradoxical or contrary to sound policy than to hold that it is the public which must bear the risk of errors of judgment made by [FDIC] officials in attempting to save a failing institution — a risk which would never have been created but for defendants' wrongdoing in the first instance."[25]
Similarly, in applying this reasoning to the FDIC's pre- and post-receivership conduct, the court in FDIC v. Isham rejected the affirmative defenses of failure to mitigate and contributory negligence under Rule 12(f), stating that, as a matter of policy, the "FDIC's own conduct cannot be used to defeat or reduce a recovery to the insurance fund because the FDIC does not act to benefit bank officers and directors."[26]
Additionally, several courts have recognized that the "no duty" rule bars affirmative defenses in this context that are based on causation. In FDIC v. Raffa, the court explained that the "no-duty" rule as well as the discretionary function exception to the FTCA (discussed supra) negated multiple affirmative defenses asserted by director and officer defendants, including causation and intervening or superseding acts.[27] Because the causation defense sought to "place the conduct of the FDIC at issue," it was stricken as to the FDIC.[28] As to intervening or superseding acts, the court rejected this defense as well, reiterating that defendants could not put the FDIC's conduct on trial.[29] Raffa and other courts have also recognized that while defendants were free to assert that they did not cause any particular harm, defendants must rebut this element at trial, and/or implead the appropriate parties.[30]
Similarly, courts have recognized that the duties of banking regulators are directed to the public. The Ninth Circuit underscored this principle:
Federal examination of national banks was designed to provide the [regulator] with information necessary to perform [its] regulatory function. Although bank examinations may reveal irregularities and even fraud, which discoveries may redound to the benefit of innocent persons, including stockholders, that result is merely an incidental benefit to the examined banks. We agree with every other court that has considered the issue that the federal scheme of bank regulation creates no duty from the [regulator] to shareholders and directors of national banks.[31]
Courts in recognition that the FDIC owes no duty to former directors and officers of failed banks, have held that affirmative defenses including estoppel, waiver and release, unclean hands, failure to mitigate damages, contributory and comparative negligence, supervening events, ratification by regulators, and assumption of risk, are not available against the FDIC in its pre- and post-receivership capacities.[32]
O'Melveny Court Did Not Overturn the "No Duty" Rule
Defendants often rely on O'Melveny & Myers v. FDIC, to assert abrogation of no-duty rule.[33] However, such reliance is ineffective as the Supreme Court did not abrogate the "no duty" rule in O'Melveny.
In 1994, the Supreme Court addressed whether attorneys sued by the FDIC as receiver of a failed bank could raise defenses based on the actions of their client at the time, the bank acting through its management.[34] The case did not address whether the conduct of bank regulators was actionable or could provide a defense to claims asserted by the FDIC as receiver of the failed bank.
Justice Antonin Scalia framed the narrow issue to be decided as follows: "Whether, in a suit by the Federal Deposit Insurance Corporation ... as receiver of a federally insured bank, it is a federal-law or rather a state-law rule of decision that governs the tort liability of attorneys who provided services to the bank."[35] The court held that in actions brought by the FDIC as receiver, state common law governed tort liability of attorneys providing services to the failed bank.[36] On remand, the Ninth Circuit held that, under State law, the conduct of the bank's employees could not be imputed to the FDIC as receiver of the bank.[37]
The court's holding in O'Melveny, however, does not modify the duty owed by the FDIC to the public, as a government regulator, nor does it hold that the FDIC owes a duty to officers and directors of a failed bank. The court in FDIC v. Raffa, explained that reliance on O'Melveny to argue that the "no duty" rule has been abrogated is misplaced:
O'Melveny instructs that a federal rule of law is not to be implemented absent a significant conflict between federal policy and state law. See O'Melveny & Myers v. Federal Deposit Insurance Corp., 114 S. Ct. at 2054. Gaubert recognizes the important federal interests that require deference to the discretionary actions of the FDIC. United States v. Gaubert 499 U.S. at 323. Further, FIRREA explicitly recognizes the broad discretion afforded bank regulators.[38]
Based on its reasoning, the court concluded that if the "no duty" rule was not upheld:
[T]he defendants' state law affirmative defenses would attack the discretionary acts of the FDIC. ... Allowing the defendants to assert such affirmative defenses would create a significant conflict between federal policy and state law. Therefore, this court must reject those affirmative defenses which either assert some duty was owed and breached by the FDIC, or which challenge the discretionary decisions of the FDIC.[39]
Thus, the majority of courts continue to apply the "no duty" rule to bar affirmative defenses against the FDIC based on its conduct pre-receivership and post-receivership.
Conclusion
Effective representation in litigation involving the FDIC requires special consideration of the unique role and duties of the FDIC as a government regulator and receiver for failed financial institutions. Practitioners should consider the obstacles that former officers and directors have failed when asserting duty-based affirmative defenses against the FDIC to evaluate whether raising such defenses would be worthwhile given the expense and time associated with litigation. Moreover, practitioners representing the FDIC should be aware of the many cases that have held that such defenses are not available against the FDIC.
Footnotes:
[1] Federal Deposit Insurance Corporation, Professional Liability Lawsuits, http://www.fdic.gov/bank/individual/failed/pls/ (last visited Aug. 27, 2013).
[2] Such affirmative defenses include comparative negligence, lack of proximate cause, intervening or superseding cause, proportionate liability, no injury, failure to mitigate, apportionment, speculative damages, and unclean hands.
[3] See, e.g., 12 U.S.C. § 1821(d)(2)(J)(ii) (FDIC must determine the best interests of the depository institution and its depositors); 12 U.S.C. § 1821(p)(1)(B) (FDIC is prohibited from selling bank assets to officers or directors of a failed bank); FDIC v. Raffa, 935 F. Supp. 119, 123 (D. Conn. 1995) (holding that the FDIC's "regulatory oversight of banks is intended only to protect depositors, the insurance fund and the public."); FDIC v. Mijalis, 15 F.3d 1314, 1324 (5th Cir. 1994) ("conduct of the FDIC ‘should not be subjected to judicial second guessing,' . . . because the FDIC owes no duty to failed financial institutions or to their former directors and officers") (citation omitted).
[4] 499 U.S. 315, 334 (1991).
[5] Id. at 318-19.
[6] Id. at 331-34.
[7] See, e.g., FDIC v. Bierman, 2 F.3d 1414, 1440-41 (7th Cir. 1993); FDIC v. Mijalis, 15 F.3d at 1324; FDIC v. Oldenburg, 38 F.3d 1119, 1121 (10th Cir. 1994); FDIC v. Raffa, 935 F. Supp. at 124-25.
[8] See, e.g., FDIC v. Mijalis, 15 F.3d at 1324; FDIC v. Bierman, 2 F.3d at 1440-41; FDIC v. Healey, 991 F. Supp. 53, 59 (D. Conn. 1998); FDIC v. Hays, No. SA-92-CA-653, slip op. at 3 (W.D. Tex. March 28, 1997); FDIC v. Raffa, 935 F. Supp. at 124-25; RTC v. Blackwell & Walker, P.A., No. 94-CV-492-Graham, Report and Recommendation at 4-6 (S.D. Fla. August 14, 1995) (ratified, affirmed and approved in pertinent part on November 30, 1995); RTC v. Sands, 863 F. Supp. 365, 373 n.14 (N.D. Tex. 1994); RTC v. Alshuler, No. 93-992-IEG (LSP), slip op. at 4-5 (S.D. Cal. October 16, 1994); FDIC v. Bowen, No. 92-CV-40179-NMG, slip op. at 3 (D. Mass. April 2e, 1994); RTC v. Fleischer, 835 F. Supp. 1318, 1323-24 (D. Kan. 1993); RTC v. Gallagher, No. 92 C 1091, 1992 WL 370248, at *5 (N.D. Ill. Dec. 2, 1992); RTC v. Acton, 866 F. Supp. 981, 986-88 (N.D. Tex. 1993); FDIC v. Ernst & Whinney, No. 3-87-0364, 1992 WL 535605, at *2 (E.D. Tenn. May 19, 1992); FDIC v. Isham, 782 F. Supp. 524, 531 (D. Colo. 1992); FDIC v. Appleton, No. CV-11-00476, at 2-3 (C.D. Cal. July 23, 2012); But see RTC v. Mass. Mut. Life Ins., 93 F. Supp. 2d 300, 306-07 (W.D.N.Y. 2000); FDIC v. Haines, 3 F. Supp. 2d 155, 165 (D. Conn. 1997).
[9] See FDIC v. Nichols, 885 F.2d 633, 636 (9th Cir. 1989).
[10] 12 U.S.C. 1821(d).
[11] 50 F.3d 705, 708 (9th Cir. 1995).
[12] 885 F.2d at 636 (citing FDIC v. Sumner Financial Corp., 602 F.2d 670, 679 (5th Cir. 1979)) (internal quotations omitted); FDIC v. Glickman, 450 F.2d 416, 418 (9th Cir. 1971) (same); In re Washington Bancorporation v. FDIC, Civ. No. 95-1340 (RCL), 1996 U.S. Dist. LEXIS 3876, at *55-56 (D.D.C. Mar. 19, 1996) ("FDIC-C is separate and distinct from FDIC-R; FDIC-C is neither in privity with FDIC-R, nor is it the alter ego of the same.").
[13] Bullion, 50 F.3d at 708.
[14] Mill Creek Group, Inc. v. FDIC, 136 F. Supp. 2d 36, 48 (D. Conn. 2001).
[15] Bullion, 50 F.3d at 708.
[16] Mill Creek Group, Inc., 136 F. Supp. 2d at 48 (internal citations and quotations omitted).
[17] Id.
[18] FDIC v. Bernstein, 944 F.2d 101, 106 (2nd Cir. 1991) (internal citations omitted).
[19] FDIC v. Manatt, 723 F. Supp. 99, 105 (E.D. Ark. 1989).
[20] Id. at 103 (quoting FDIC v. Berry, 659 F. Supp. 1475, 1483-84 (E.D. Tenn. 1987)); see also FDIC v. Schreiner, 892 F. Supp. 848, 857 (W.D. Tex. 1995).
[21] Schreiner, 892 F. Supp. at 857 (When the FDIC brings suit as receiver for a failed bank, it is subject "only to those affirmative defenses that would have been available to the defendants against the bank if the bank had brought suit.") (italics in original); see also FDIC v. Van Dellen, CV-10-4915 DSF (SHx), slip op. at 4-7 (C.D. Cal. Sept. 27, 2011)
[22]FIRREA provided the RTC with the same powers and rights as the FDIC as receiver of a failed financial institution prior to the RTC's termination of operations on December 31, 1995. 12 U.S.C. § 1441a(b)(4)(A).
[23] FDIC v. Oldenburg, 38 F.3d 1119, 1121-22 (10th Cir. 1994), cert. denied sub. nom., 516 U.S. 861 (1995); FDIC v. Mijalis, 15 F.3d at 1323-24; FDIC v. Bierman, 2 F.3d at 1438-41; FDIC v. Baker, 739 F. Supp. 1401, 1407 (C.D. Cal. 1990); FDIC v. Raffa, 935 F. Supp. 119 at 123-27; Grant Thornton, LLP v. FDIC, 535 F. Supp. 2d 676, 721 (S.D. W. Va. 2007), reversed on other grounds by Ellis v. Grant Thornton LLP, 530 F.3d 280 (4th Cir. 2008); RTC v. Gravee, No. 94 C 4589, 1995 WL 599056, at *2-3 (N.D. Ill. Oct. 5, 1995) (collecting cases); RTC v. Williams, No. 93-2018-GTV, 1995 WL 261588, at *1-2 (D. Kan. April 25, 1995); RTC v. Edie, No. 94-772 (DRD), 1994 WL 744672, at *2-5 (D. N.J. Oct. 4, 1994); RTC v. Tushner, No. ED CV 94-0152, 1995 WL 17961717, *1 (C.D. Cal. Feb. 24, 1995); RTC v. Dauterive, No. 92-2058-LGB, slip op. at 3-5 (C.D. Cal. Nov. 14, 1994); FDIC v. Van Dellen., No. CV-10-4915 DSF (SHx), slip op. at 4-7 (C.D. Cal. Sept. 27, 2011); FDIC v. Appleton, No. CV-11-00476 JAF, at 3 (C.D. Cal. July 23, 2012); But see Mass. Mutl. Life Ins., 93 F. Supp. 2d at 306-07; FDIC v. Ornstein, 73 F. Supp. 2d 277, 281-85 (E.D.N.Y. 1999); FDIC v. Gladstone, 44 F. Supp. 2d 81, 86-88 (D. Mass. 1999); FDIC v. Willetts, 882 F. Supp. 2d 859, 870 (E.D.N.C. 2012).
[24] Oldenburg, 38 F.3d at 1120-21.
[25] Id. at 1121-22 (internal citations and quotations omitted).
[26] 782 F.Supp. 524, 531-32; see also Raffa, 935 F.Supp. at 126-27 (rejecting defendants' contributory negligence and failure to mitigate affirmative defenses pursuant to Rule 12(f), explaining that the FDIC could not share responsibility with defendant officers or directors for any harm because it owed them no duty)
[27] 935 F.Supp at 127-28.
[28] Id. at 127.
[29] Id. at 128.
[30] See id.; Mijalis, 15 F.3d at 1327; Edie, 1994 WL 744672, at *6.
[31] Harmsen v. Smith, 586 F.2d 156, 157-58 (9th Cir. 1978) (emphasis added).
[32] See Federal Deposit Ins. Corp. v. Anders, No. S-87-430 EJG/PAN, 1991 U.S. Dist. LEXIS 20411, at *17-19 (E.D. Cal. July 1, 1991) (striking the affirmative defenses of contributory and comparative negligence, failure to mitigate, estoppel, waiver and release, ratification, indemnity, unclean hands, assumption of the risk, and supervening events); Saratoga Sav. & Loan Asso. v. Federal Home Loan Bank, 724 F. Supp. 683, 688 (N.D. Cal. 1989) (The "federal government's exercise of its regulatory or supervisory functions over insured financial institutions does not give rise to an actionable tort duty on favor of the regulated institution or its shareholder."); FDIC v. Crosby, 774 F. Supp. 584, 586 (W.D. Wash. 1991) (holding that the defendants were not entitled to affirmative defenses of comparative negligence or failure to mitigate damages); FDIC v. Collins, 920 F. Supp. 30, 33-35 (D, Conn. 1996) (holding that the affirmative defense of estoppel is barred by the "no duty" rule); FDIC v. White, 828 F. Supp. 304, 308-12 (D. N.J. 1993) (striking the affirmative defenses of contributory negligence, failure to mitigate, ratification, causation, estoppel, waiver, and unclean hands); FDIC v. Heiserman, 839 F. Supp. 1457, 1467-68 (D. Colo. 1993); RTC v. Youngblood, 807 F. Supp. 765, 771-74 (N.D. Ga. 1992) (striking the affirmative defenses of "estoppel, negligence, contributory negligence, comparative negligence, assumption of risk, acts or omissions by RTC or its predecessors, commercially unreasonable actions by RTC or its predecessors, and failure to mitigate damages . . ."); FDIC v. Ernst & Whinney, No. 3-87-0364, 1992 WL 535605, at *2-4 (E.D. Tenn. May 19, 1992) (upholding decision striking affirmative defenses of failure to mitigate and avoidable consequences); FDIC v. Lowe, 809 F. Supp. 856, 857-58 (D. Utah 1992) (holding that the affirmative defenses of estoppel, laches, unclean hands, failure to mitigate damages fail as a matter of law); FDIC. v. Butcher, 660 F. Supp. 1274, 1282 (E.D.Tenn. 1987) (holding that the no duty rule barred the affirmative defenses of contributory negligence, estoppel, and mitigation of damages).
[33] 512 U.S. 79 (1994).
[34] Id. at 80-82.
[35] Id. at 80-81.
[36] Id. at 84-85.
[37] FDIC v. O'Melveny, 61 F.3d 17, 19 (9th Cir. 1995).
[38] 935 F. Supp. at 125; see, e.g., Sands, 863 F. Supp. at 368-73 (O'Melveny does not call into question the deference afforded the discretionary decisions of the RTC); Edie, 1994 U.S. Dist. LEXIS 20502, at *5-8 (objections to the RTC's discretionary powers lie outside O'Melveny and remain precluded by the no duty rule); RTC v. Atherton, No. 92-5261-GEB, 1994 U.S. Dist. LEXIS 21427, at *7 (D.N.J. Sept. 9, 1994) (O'Melveny does not displace the federal common law "no duty" rule).
[39] 935 F. Supp. 119, 126 (D. Conn. 1995) (emphasis added); see, e.g., Sands, 863 F. Supp. at 368-73. (O'Melveny does not call into question the deference afforded the discretionary decisions of the RTC); Edie, 1994 U.S. Dist. LEXIS 20502, at *5-8 (objections to the RTC's discretionary powers lie outside O'Melveny and remain precluded by the no duty rule); RTC v. Atherton, No. 92-5261 at *7 (O'Melveny does not displace the federal common law "no duty" rule).
