Antitrust Law Daily Wrap Up, RICO—N.D. Ill.: Defendants that asserted fraudulent inducement defenses in state court lawsuits not precluded from bringing fraud-based RICO claims in federal court, (Jul 3, 2013)

By Tobias J. Gillett, J.D., LL.M.

The defendants in various state court collection lawsuits brought by several related consulting enterprises were not barred from asserting RICO claims predicated on fraud in a federal lawsuit against three of the enterprises’ owners and officers, even though the state court defendants had failed to assert fraudulent inducement defenses in the collection proceedings, the federal district court in Chicago has ruled (Amari Company, Inc. v. Burgess, July 2, 2013, Tharp, J.).

In March 2007, 21 small businesses or their owners filed a RICO lawsuit against John Burgess, Tyler Burgess, and Gregg Steinburg, as well as the corporate entities International Profits Associates, Inc., Tax Advisors, Inc., and ITA Implementation Services, Inc. (“the IPA entities”), for which the Burgesses and Steinburg were owners and/or officers. Following the filing of that lawsuit, the IPA entities filed four collection lawsuits in Illinois state court against the RICO plaintiffs for total or partial nonpayment of fees under consulting contracts, claims that were subject to mandatory arbitration. The RICO complaint was later amended to add more plaintiffs, and the IPA entities filed six more collection lawsuits. The IPA entities had also filed one contract claim, against Central Radiator Cabinet Co., Inc., in state court prior to the filing of the RICO lawsuit

In the state court proceedings, the defendant companies asserted defenses of fraud in the inducement. The state courts all rejected the defense, but the results of the proceedings were a “mixed bag” for the IPA entities— the IPA entities obtained a judgment against six defendants, but only a fraction of what the IPA entities claimed from three of them, and recovered nothing from two defendants.

By the present stage of the proceedings in the RICO case, the remaining defendants are the Burgesses and Steinburg, and 16 plaintiffs are left. In the present motion, the defendants moved for summary judgment on the ground that claim and/or issue preclusion barred the claims of eight plaintiffs that were defendants in the state court proceedings.

Claim preclusion. The doctrine of judicial estoppel barred the RICO defendants from claiming that the parties in the state court proceedings were legally equivalent to those in the RICO lawsuit, according to the court. In the state court proceedings, the IPA entities had argued, in response to motions to stay the proceedings pending a resolution of the RICO lawsuit, that the IPA entities were distinct from their owners and/or officers and were therefore subject to a forum selection clause preventing them from litigating outside of the county where they brought suit. The IPA entities won that argument, and the state court lawsuits proceeded to judgment.

Although the purpose of determining the identity of the parties was different, the court found “the substance of the argument is indistinguishable although the consequence is different.” Moreover, it did not matter that the IPA entities had advanced the argument in state court while the owners and officers were advancing it here—“whether they were listed in the caption or not, their legal and financial interests were the same as [the IPA entities’],” and therefore they received the benefit of the state court argument.

In addition, “given their current position that they are in total privity with the IPA entities,” the court would not permit the owners and officers to argue “that judicial estoppel does not apply because a nominally different party (their corporate counterparts) succeeded on the argument in state court.” Finally, the owners and officers had conducted discovery as though they did not control the IPA entities, and the court would not “accept a contrary representation for purposes of this motion.”

The court also concluded that the claims asserted in the state court proceedings and in the RICO lawsuit were not identical. The court explained that Illinois employs the “transactional test” for deciding whether claims are identical, under which “separate claims will be considered the same cause of action for purposes of res judicata if they arise from a single group of operative facts, regardless of whether they assert different theories of relief.” Here, the RICO plaintiffs’ claims clearly arose out of the same group of operative facts as their fraudulent inducement defenses in the state court proceedings, and therefore the claims satisfied the transactional test.

However, the court observed that Illinois had adopted section 26 of the Restatement Second of Judgments, which set forth a variety of exceptions to res judicata. The court noted that “the state court arguably preserved the plaintiffs’ claims” when it dismissed a fraud-based counterclaim in the IPA entities’ lawsuit against Central Radiator “with the specific admonition that the claim could be brought at a different time or in another forum.” The case was consolidated with the IPA entities’ later lawsuits, “and it was reasonable to infer that the circuit court would not permit the defendants in those cases to litigate counterclaims where it had granted a plea in abatement as to Central Radiator’s fraud-based counterclaims.”

Moreover, it was “questionable” whether the RICO plaintiffs could have litigated their claims in the state court proceedings. Although state courts have concurrent jurisdiction over RICO claims, the arbitration division could not have heard the claims in the present case. Moreover, joining counterplaintiffs in the collection cases “could have been unworkable,” and maintaining individual lawsuits or proving a pattern of fraud would have been challenging. The defendants may also have acquiesced to the claim-splitting by bringing suit against the RICO defendants after the RICO lawsuit was filed, and by opposing Central Radiator’s efforts to assert a fraud counterclaim.

Finally, the court concluded that applying res judicata would be inequitable, “whether by reference to specific exceptions or not.” The RICO plaintiffs filed their lawsuit first, and the IPA entities filed their lawsuits in response, opposing an effort to stay the state court proceedings. Therefore, the plaintiffs were not responsible for thwarting res judicata’s goal of avoiding multiple claims. Moreover, the court “seriously doubt[ed] the state-court defendants’ ability to meaningfully join together and assert the RICO conspiracy as a counterclaim.”

Issue preclusion. The RICO claims were also not barred by the doctrine of issue preclusion, according to the court. The court initially noted that, as with claim preclusion, the defendants were judicially estopped from claiming that they were the same as, or in privity with, a party to the earlier lawsuits.

Moreover, the state court cases and the present lawsuit did not present an identical issue, according to the court. In the state court proceedings, the RICO plaintiffs had to prove their fraudulent inducement defenses by clear and convincing evidence, while in the present lawsuit they merely had to prove predicate acts of fraud by a preponderance of the evidence.

In addition, in some of the state court proceedings the resolution of the fraudulent inducement defense was not necessary to the final judgments. Some of the state court defendants prevailed entirely on contract defenses in spite of losing the fraudulent inducement argument, while others prevailed on some aspects of their defenses. Moreover, the court in one case was “vague” about its resolution of the fraudulent inducement defense, while in another case the court did not address the defense at all.

Therefore, the court held that neither issue nor claim preclusion barred the RICO claims. However, the court left open the possibility that it would have to “limit the damages available to certain plaintiffs so as not to permit any recovery that would directly contradict the state court judgments.”

The case is No. 07 C 01425.

Attorneys: Leon Irwin Edelson (Edelson IP Law Group, Ltd.) for Amari Company, Inc. Michael R. Needle (Michael R. Needle PC) for Central Radiator Cabinet Co., Inc. Ronald Lee Bell (Ronald L. Bell & Associates) for John R. Burgess. Gary J. Wojtan (Wojtan, Vvallone & Melin, P.C.) for Tyler Burgess.

Companies: Amari Company, Inc.; Central Radiator Cabinet Co., Inc.; International Profits Associates, Inc.; Tax Advisors, Inc.; ITA Implementation Services, Inc.

Cases: RICO IllinoisNews