Gober v. Terra + Corporation

United States Court of Appeals,

Fifth Circuit.

No. 96-10063.

In the Matter of Terry M. GOBER, Debtor.

Terry M. GOBER, Appellant,

v.

TERRA + CORPORATION, doing business as LSMG, doing business as SMG Architect-
Planners, Appellee.

Dec. 10, 1996.

Appeal from the United States District Court for the Northern District of Texas.

Before POLITZ, Chief Judge, and EMILIO M. GARZA and STEWART, Circuit Judges.

EMILIO M. GARZA, Circuit Judge:

This case presents the question of whether a state court default judgment entered as a sanction

for discovery abuse is entitled to issue preclusive effect in a subsequent bankruptcy proceeding to

determine the dischargeability of the judgment debt. In 1992, Appellee Terra + Corporation ("Terra")

filed a complaint in bankruptcy court against Debtor-Appellant, Terry M. Gober, objecting to

discharge of a judgment it had obtained against Gober in Texas state court in 1983. The bankruptcy

court collaterally estopped Gober from relitigating issues determined in the state court judgment and

granted summary judgment in favor of Terra. The district court affirmed on appeal. Gober now

appeals to this court, arguing, inter alia, that the state court judgment should not have preclusive

effect on the dischargeability of the judgment debt. We disagree and affirm the decision of the district

court.

I

Gober was a director, officer, and shareholder of Terra, an architectural firm, from the time

of its incorporation until his termination in 1981. At that time, Gober was indicted by a Texas grand

jury for misappropriation of client funds and loan proceeds that he received on behalf and for the

benefit of Terra. He eventually entered a plea of nolo contendre and paid restitution of $75,000,

consisting of $25,000 in cash and $50,000 in debt cancellation.
 Terra filed a civil suit in Texas state court based on the same set of transactions in the

indictment. In its complaint, Terra alleged that Gober negotiated unauthorized loans and deposited

loan proceeds and client funds into an unauthorized account for his own use. Gober filed a general

denial to Terra's complaint and filed counterclaims against Terra seeking offsets and credits for salary,

business expenses, and his ownership interest in Terra.

The parties actively litigated the action for two years. In October 1983, the state court

imposed a $1,000 sanction on Gober for discovery abuses and ordered Gober to deposit $1,500 as

security for costs for his counterclaims pursuant to Rule 143 of the Texas Rules of Civil Procedure.

The court further ordered Gober to respond to Terra's discovery requests. When Gober failed to post

security for costs or to respond to discovery, Terra filed motions to dismiss Gober's counterclaims

and to strike his answer. The court set a hearing on the motions for December 30, 1983. Gober did

not attend the hearing and specifically directed his attorney not to appear on his behalf.

In his absence, the state court struck Gober's answer, entered a default judgment against him,

and dismissed his counterclaims for failure to pay security for costs. The court, "after hearing the

evidence and arguments of counsel," found that Gober "embezzled, converted, appropriated and ...

stole[ ] ... $307,284.96" from Terra and that he "acted with fraudulent intent" and "acted maliciously

and willfully." The court thereafter entered judgment in Terra's favor and awarded $307,284.96 in

actual damages, $250,000 in exemplary damages, $75,000 in attorney's fees, and post-judgment

interest. Gober did not appeal the judgment.

In 1992, Gober filed a voluntary petition for bankruptcy relief under Chapter 7 of the

Bankruptcy Code. Terra then filed a complaint with the bankruptcy court objecting to discharge of

the judgment debt under 11 U.S.C. § 523(a)(2), (4), and (6).1 In his answer, Gober denied the

1
Section 523(a) of the Bankruptcy Code excludes certain debts from discharge in bankruptcy.
The relevant portions of the section provide that

(a) discharge [under this title] does not discharge an individual debtor from any
debt—

(2) for money ... to the extent obtained by ... actual fraud ...;

(4) for fraud or defalcation while acting in a fiduciary capacity,
essential allegations of Terra's complaint and reasserted his right to credits and offsets in determining

the amount of any debt owed. Terra filed a motion for summary judgment, asserting that issue

preclusion2 barred Gober from relitigating the factual and legal issues necessary for holding the

judgment debt nondischargeable. In response; Gober filed a cross-motion for summary judgment

asserting that collateral estoppel does not apply to the state judgment and that Terra could not

otherwise prove the elements necessary for a finding of nondischargeability of the debt.

The bankruptcy court denied Gober's motion for summary judgment and granted judgment

in favor of Terra, holding that the state court's findings satisfy the elements of § 523(a)(4) and (6) and

that issue preclusion barred relitigation of those issues. The court explicitly abstained from

considering Gober's state law claims for offsets and credits. Gober appealed the judgment to the

district court, which affirmed the bankruptcy court's judgment.

On appeal to this court, Gober argues that the district court erred in affirming the bankruptcy

court's determination because (1) the state court's findings should not have been given issue

preclusive effect under Texas collateral estoppel rules; (2) the bankruptcy and district courts should

not have abstained from deciding Gober's state law counterclaims; and (3) the courts erred in

declaring the entire amount of the state court judgment nondischargeable. We reject all of Gober's

contentions.

II

Parties may invoke collateral estoppel in certain circumstances to bar relitigation of issues

embezzlement, or larceny;

(6) for willful and malicious injury by the debtor to another entity or to the
property of another entity....

11 U.S.C. § 523(a).
2
The doctrines of collateral estoppel and res judicata are also known as "issue preclusion" and
"claim preclusion," respectively. Migra v. Warren City Sch. Dist. Bd. of Educ., 465 U.S. 75, 77
n. 1, 104 S.Ct. 892, 894 n. 1, 79 L.Ed.2d 56 (1984). We use the terms interchangeably in this
opinion. The rule of issue preclusion, or collateral estoppel, bars relitigation of issues that were
actually litigated and decided in a previous action. See Restatement (Second) of Judgments,
Introductory Note to ch. 1 (1982). The terms "claim preclusion" or "res judicata," on the other
hand, are generally used to describe the effect of a prior judgment on all legal theories and claims
that should have been advanced in connection with a particular cause of action. Id.
relevant to dischargeability, although the bankruptcy court retains exclusive jurisdiction to ultimately

determine the dischargeability of the debt. Grogan v. Garner, 498 U.S. 279, 284 n. 11, 111 S.Ct.

654, 658 n. 11, 112 L.Ed.2d 755 (1991); Garner v. Lehrer (In re Garner), 56 F.3d 677, 681 (5th

Cir.1995); Harold V. Simpson and Co. v. Shuler (In re Shuler), 722 F.2d 1253, 1255 (5th Cir.), cert.

denied, 469 U.S. 817, 105 S.Ct. 85, 83 L.Ed.2d 32 (1984). In deciding the preclusive effect of a

state court judgment in federal court, we are guided by the full faith and credit statute, which provides

that "judicial proceedings of any court of any ... State ... shall have the same full faith and credit in

every court within the United States ... as they have by law or usage in the courts of such State ...

from which they are taken." 28 U.S.C. § 1738. Accordingly, we must look to the state that rendered

the judgment to determine whether the courts of that state would afford the judgment preclusive

effect. Marrese v. American Academy of Orthopaedic Surgeons, 470 U.S. 373, 380, 105 S.Ct. 1327,

1331-32, 84 L.Ed.2d 274 (1985). The judgment against Gober was rendered in Texas state court;

accordingly, Texas rules of issue preclusion apply. Id. A bankruptcy court's decision to give

preclusive effect to a state court judgment is a question of law that we review de novo. Boyce v.

Greenway (In re Greenway), 71 F.3d 1177, 1180-81 (5th Cir.), cert. denied, --- U.S. ----, 116 S.Ct.

2499, 135 L.Ed.2d 191 (1996); Sanders v. City of Brady (In re Brady, Texas Mun. Gas Corp.), 936

F.2d 212, 217 (5th Cir.), cert. denied, 502 U.S. 1013, 112 S.Ct. 657, 116 L.Ed.2d 748 (1991).

Under Texas law, collateral estoppel "bars relitigation of any ultimate issue of fact actually

litigated and essential to the judgment in a prior suit, regardless of whether the second suit is based

upon the same cause of action." Bonniwell v. Beech Aircraft Corp., 663 S.W.2d 816, 818

(Tex.1984). Before applying collateral estoppel, the court must determine that the facts asserted in

the second proceeding were fully and fairly litigated in the first, that the facts were essential to the

judgment, and t hat the parties were cast as adversaries in the first action. Id. (citing Restatement

(Second) of Judgments § 27 (1982)); In re Garner, 56 F.3d at 679-80; Amica Mut. Ins. Co. v.

Moak, 55 F.3d 1093, 1097 (5th Cir.1995). Gober contends that the bankruptcy and district courts

erred in barring relitigation of issues relevant to dischargeability because (1) the state court judgment

is not a final judgment entitled to collateral estoppel effect, (2) the judgment is void and cannot
provide the basis for a plea of estoppel, and (3) the issues relevant to dischargeability were not fully

and fairly litigated in state court. We address each of these contentions in turn.

A

Gober first contends that the state judgment is not a final judgment. Application of collateral

estoppel requires that there be a final judgment on the merits; interlocutory orders are not entitled

to preclusive effect. Starnes v. Holloway, 779 S.W.2d 86, 93 (Tex.App.—Dallas 1989, writ denied);

Texas v. Wellington Resources Corp., 706 F.2d 533, 536-37 (5th Cir.1983). A judgment on liability

entered by default after striking an answer is interlocutory, and the plaintiff must still present sufficient

evidence to support unliquidated damages. Bass v. Duffey, 620 S.W.2d 847, 849

(Tex.App.—Houston [14th Dist.] 1981, no writ). A default judgment entered as a sanction is merely

interlocutory where the defendant receives no notice of the hearing on unliquidated damages.

Pearson Corp. v. Wichita Falls Boys Club Alumni Assn., 633 S.W.2d 684, 687 (Tex.App.—Fort

Worth 1982, no writ).

Gober contends that he received no notice of the damages hearing. Neither Terra's motion

for imposition of sanctions, nor the state court's order setting the December 30, 1983 hearing,

mention that the court might conduct a damages hearing on that date. Therefore, he asserts, the state

default judgment as to liability was interlocutory and never became a final judgment. We disagree.

Terra's motion for sanctions expressly requested that the court strike Gober's pleadings and

enter a default judgment against him; therefore, Gober was adequately apprised of the possibility of

such a disposition. While a court may set a separate hearing on damages after imposition of

sanctions—in which case separate notice to the defendant would be required—the court is not

obligated to do so. Lind v. Gresham, 672 S.W.2d 20, 22 (Tex.App.—Houston [14th Dist.] 1984,

no writ). The court may hear evidence on damages immediately after imposition of a default

judgment on liability, in which case notice of the hearing on the motion to strike the pleadings is all

that is required. Id.

Gober received notice of the December 30, 1983 hearing but did not personally appear and

explicitly directed his attorney not to appear o n his behalf. Where Gober received notice of all
hearings that were conducted but chose not to appear, he did so at his peril.3

B

Gober next asserts that the state judgment is void insofar as it fails to conform to the

pleadings. A void judgment has no preclusive effect in a bankruptcy proceeding. McDaniel v. Camp

(In re Camp), 59 F.3d 548, 550-51 (5th Cir.1995) (issue preclusion); Poynor v. Bowie Ind. Sch.

Dist., 627 S.W.2d 517, 519 (Tex.App.—Fort Worth 1982, writ dism'd) (claim preclusion). At the

damages hearing, the state court heard evidence and made findings of fact that were not included

among the specific factual allegations in Terra's complaint.4 Gober relies on City of Fort Worth v.

Gause, 129 Tex. 25, 101 S.W.2d 221 (1937), for the proposition that a default judgment based upon

proof of facts outside the plaintiff's pleadings renders the judgment fundamentally erroneous and void.

Id. 101 S.W.2d at 223; see also TEX.R.CIV.P. 301 ("The judgment of the court shall conform to the

pleadings [and] the nature of the case proved....").

3
This case is distinguishable from two cases in which Texas courts set aside default judgments
for insufficient notice. In Lorentzen v. Kliesing, 810 S.W.2d 16 (Tex.App.—Houston [14th
Dist.] 1991, no writ), the defendant filed an answer but received no notice at all of the trial. By
contrast, Gober's own affidavit belies any assertion that he received no notice of the December 30
hearing. In Masterson v. Cox, 886 S.W.2d 436 (Tex.App.—Houston [1st Dist.] 1994, no writ),
the court held that notice of a pretrial conference did not afford adequate notice that the
conference would become a disposition on the merits where Texas law does not authorize such a
disposition in a pretrial conference. 886 S.W.2d at 437-39. In this case, however, as explained
above, the state court's decision to hear evidence on damages immediately after entry of default
was proper and reasonably anticipated.
4
Terra's amended complaint alleged two basic transactions: (1) that Gober withheld $10,000
for his own use from a $40,000 loan negotiated on Terra's behalf and (2) that Gober deposited
$706,818.86 in client payments into an unauthorized account, only $400,004.33 of which Gober
eventually repaid. The complaint alleged a total amount embezzled, including interest on the
stolen loan proceeds, of $317,377.86. At the hearing, the court also found that Gober deposited
an additional $178,000 in note proceeds into the unauthorized account and that Terra was entitled
to recover an additional $5,193.84 in interest paid on a separate unauthorized loan. The court
further found that Gober had made restitution in the amount of $191,784.07, for a net amount
embezzled of $307,284.96.

Terra's complaint contained a general prayer for "such other and further relief,
special or general, legal or equitable, as Plaintiff may be shown to be justly entitled to
receive...." Terra asserts that the general prayer embraces all the findings of fact in the
judgment. Gober, however, argues that where Terra pleaded specifically, the general
prayer will not enlarge the pleadings to encompass facts not specifically alleged. Because
we find that the judgment itself is valid and immune from collateral attack, we need not
resolve this dispute.
 The treatment of a "void" judgment differs from that of a "voidable" judgment. A void

judgment is subject to both direct and collateral attack, while a judgment that is merely voidable must

be corrected through ordinary appellate or other direct procedures. Browning v. Placke, 698 S.W.2d

362, 363 (Tex.1985). A judgment is void only when it is shown that the court had no jurisdiction

over the parties or property, no jurisdiction of the subject matter, no jurisdiction to enter the

particular judgment, or lacked capacity to act as a court. Id.; Cook v. Cameron, 733 S.W.2d 137,

139 (Tex.1987). All errors other than jurisdictional defects render the judgment voidable rather than

void and must be corrected on direct appeal. Browning, 698 S.W.2d at 363.

Texas courts have often used these terms loosely; as a consequence, decisions holding a

judgment void on direct review do not necessarily provide authority for the proposition that the same

judgment would be subject to collateral attack. Tidwell v. Tidwell, 604 S.W.2d 540, 542

(Tex.App.—Texarkana 1980, no writ); 48 Tex.Jur.3d Judgments § 276 (1986). The Texas Supreme

Court has attempted to clarify the difference by stating that a judgment is void and subject to

collateral attack only where it was rendered without " "jurisdictional power' in the sense of lack of

subject matter jurisdiction.... Absent one of those rare circumstances that makes the judgment "void,'

the mere fact that an action by a court of appeals is contrary to a statute, constitutional provision or

rule of civil or appellate procedure makes it "voidable' or erroneous." Mapco, Inc. v. Forrest, 795

S.W.2d 700, 703 (Tex.1990); see also Clayton v. Hurt, 88 Tex. 595, 32 S.W. 876, 877 (1895)

(holding that where court has personal and subject matter jurisdiction, "such judgment is never void,

no matter how erroneous it may appear, from the face of the record or otherwise, to be").

Although the Texas Supreme Court in Gause did indeed hold that failure to conform to the

pleadings renders a default judgment "void," it did so on direct review of a denial of a motion for new

trial, not on collateral attack. Gause, 101 S.W.2d at 223. Moreover, Gober cites no other case

holding a judgment "void" on collateral attack for failure to conform to the pleadings.5

5
Gober cites State v. Estate of Brown, 802 S.W.2d 898 (Tex.App.—San Antonio 1991, no
writ), which held a judgment void on direct appeal, and Starr v. Ferguson, 140 Tex. 80, 166
S.W.2d 130, 132 (1942), which reversed a judgment on writ of error for failure to conform to
pleadings.
 Although failure to conform to the pleadings may subject a judgment to reversal, we conclude

that Texas courts would not treat such variance, even if substantial and prejudicial, as a jurisdictional

defect that will render the judgment subject to collateral attack. See Cities Serv. Oil Co. v. Green,

251 S.W.2d 906, 910 (Tex.App.—Texarkana 1952, writ ref'd n.r.e.) (holding that insufficiency of

pleadings does not render judgment void "even though the judgment should grant more relief than

is demanded....") (citation omitted). Texas courts rarely reverse judgments due to variance between

pleadings and proof unless prejudicial. Brown v. American Transfer & Storage Co., 601 S.W.2d 931,

937 (Tex.) ("[A] broad submission of an issue will [not] be reversed simply because one or more acts

which contributed to the injury was not particularly pleaded or proved.") (citation omitted), cert.

denied, 449 U.S. 1015, 101 S.Ct. 575, 66 L.Ed.2d 474 (1980). And unlike a defect in subject matter

jurisdiction which cannot be waived by the parties, see Texas Ass'n of Business v. Texas Air Control

Bd., 852 S.W.2d 440, 443 (Tex.1993), an objection to a variance between pleadings and proof may

be waived if not timely raised. Brown, 601 S.W.2d at 937; cf. Borden v. Guerra, 860 S.W.2d 515,

525 (Tex.App.—Corpus Christi 1993, writ dism'd by agr.) (holding that although judgment granting

damages in excess of amount pleaded is erroneous, any variance is waived if party fails to object).

Consequently, any failure to conform to the pleadings, no matter how egregious, did not deprive the

state court of jurisdiction to render the judgment against Gober, and thus the judgment is not void.

C

Gober contends that because the state court struck his pleadings and deemed all of Terra's

material allegations admitted, the issues relevant to discharge were not actually litigated for purposes

of collateral estoppel. As a general rule, an issue is "actually litigated" only when it is properly raised

by the pleadings, submitted for a determination, and actually determined. In re Garner, 56 F.3d at

680 (citing Restatement (Second) of Judgments § 27 cmt. d (1982)).6 The Restatement of Judgments

further instructs that "[a]n issue is not actually litigated if ... it is raised by a material allegation of a

6
Texas courts follow Restatement (Second) of Judgments § 27 in determining when to allow
issue preclusion. Bonniwell, 663 S.W.2d at 818; Van Dyke v. Boswell, O'Toole, Davis &
Pickering, 697 S.W.2d 381, 384 (Tex.1985); Tarter v. Metropolitan Sav. and Loan Ass'n, 744
S.W.2d 926, 928 (Tex.1988); Texas Real Estate Comm'n v. Nagle, 767 S.W.2d 691, 694
(Tex.1989).
party's pleading but is admitted (explicitly or by virtue of a failure to deny) in a responsive pleading....

In the case of a judgment entered ... by default, none of the issues is actually litigated." Restatement

(Second) of Judgments § 27 cmt. e (1982). Compare 18 Charles A. Wright, Arthur R. Miller, &

Edward H. Cooper, Federal Practice and Procedure § 4442 (1981) (noting that a default judgment

should not support issue preclusion because "the essential foundations of issue preclusion are lacking

for want of actual litigation or actual decision of anything ... [and because] a defendant may suffer

a default for many valid reasons other then the merits of the plaintiff's claim").

The general term "default judgment," however, is used loosely to describe very different types

of judgments under Texas law. One common type is the simple default where the defendant fails to

answer the plaintiff's complaint. Stoner v. Thompson, 578 S.W.2d 679, 683 (Tex.1979). In a

no-answer default judgment, "it is said that the non-answering party has "admitted' the facts properly

pled and the justice of the opponent's claim." Id. at 682. Courts generally hold that no-answer

default judgments fail to meet the "actually litigated" prong of the issue preclusion test. See In re

Shuler, 722 F.2d at 1257 n. 6 (citing Spilman v. Harley, 656 F.2d 224, 228 (6th Cir.1981), and

referencing cases cited therein); Thompson v. Turner (In re Turner), 144 B.R. 47, 51-53

(Bankr.E.D.Tex.1992); Cardenas v. Stowell (In re Stowell), 113 B.R. 322, 329

(Bankr.W.D.Tex.1990).

Another type of default judgment is the "post-answer" default in which the defendant files

an answer but does not appear at trial.7 A post-answer default "constitutes neither an abandonment

of the defendant's answer nor an implied confession of any issues joined by the defendant's answer."

Stoner, 578 S.W.2d at 682. Because the merits of the plaintiff's claim remain at issue, judgment

cannot be rendered on the pleadings, and the plaintiff must offer sufficient evidence to meet his

burden of proof as if at trial. Id. at 682. We recently held in In re Garner that issues in a

7
A third type of default judgment, the judgment nihil dicit, is not relevant to this appeal. A
nihil dicit judgment is usually limited to situations where (1) the defendant has entered some plea,
usually of a dilatory nature, but the plea fails to place the merits of the plaintiff's case in issue, or
(2) the defendant has placed the merits of the case in issue by filing an answer, but the defendant
later withdraws his answer. Frymire Eng'g Co., Inc. v. Grantham, 524 S.W.2d 680, 681
(Tex.1975).
post-answer default judgment are actually litigated for purposes of collateral estoppel and may be

given preclusive effect in a subsequent dischargeability proceeding in bankruptcy. 56 F.3d at 680.

The parties dispute which type of judgment, the no-answer default or the post-answer default,

more closely characterizes the judgment against Gober. Terra contends that because Gober filed an

answer and participated in the litigation, the judgment is a post-answer default and is therefore

indistinguishable from the judgment at issue in Garner.

Gober, by contrast, argues that after the state court struck his answer, none of Terra's claims

with respect to liability remained at issue. Under Texas law, once the court strikes the defendant's

answer as a discovery sanction, the defendant is placed in the same legal position as if he had filed

no answer at all. Minnick v. State Bar of Tex., 790 S.W.2d 87, 89 (Tex.App.—Austin 1990, writ

denied); Assicurazioni Generali, S.p.A. v. Milsap, 760 S.W.2d 314, 317 (Tex.App.—Texarkana

1988, writ denied). As in a no-answer default judgment, the defendant is deemed to have admitted

all of the plaintiff's allegations with respect to liability. Fiduciary Mortg. Co. v. City Nat. Bank of

Irving, 762 S.W.2d 196, 200 (Tex.App.—Dallas 1988, writ denied). Terra was not required to

present any proof of liability to support the interlocutory default judgment. Castanon v. Monsevais,

703 S.W.2d 295, 297 (Tex.App.—San Antonio 1985, no writ). Therefore, Gober contends that the

court should afford the judgment no greater collateral estoppel effect than a no-answer default.

However, the default judgment against Gober did not entirely dispense with Terra's burden

of proof. Specifically, conduct sufficient to warrant punitive damages is not regarded as admitted by

default. Sunrizon Homes, Inc. v. Fuller, 747 S.W.2d 530, 534 (Tex.App.—San Antonio 1988, writ

denied); Herbert v. Greater Gulf Coast Enters., 915 S.W.2d 866, 872 (Tex.App.—Houston [1 Dist.]

1995, no writ). At the damages hearing, Terra was required to establish by a preponderance of the

evidence that the degree and type of Gober's misconduct warranted punitive damages. Sunrizon

Homes, 747 S.W.2d at 534 (holding that plaintiff in default judgment must both plead knowing

conduct and present evidence that extent of defendant's knowledge warranted additional damages);

Fleming Mfg. Co., Inc. v. Capitol Brick, Inc., 734 S.W.2d 405, 409-10 (Tex.App.—Austin 1987,

writ ref'd n.r.e.) (same); Ford Motor Co. v. Durrill, 714 S.W.2d 329, 347 (Tex.App.—Corpus
Christi 1986), judgment vacated by agr., 754 S.W.2d 646 (Tex.1988) (holding that burden of proof

for exemplary damages is preponderance of evidence); see also In re Limbaugh, 155 B.R. 952, 957

(Bankr.N.D.Tex.1993) (affording preclusive effect to penalty default judgment in dischargeability

proceeding where plaintiff presented evidence sufficient to support award of punitive damages).

The law at the time the state court rendered the judgment against Gober was clear; to

support an award of punitive damages, the defendant's act must not only be unlawful, "but must

partake of a wanton and malicious nature." Ware v. Paxton, 359 S.W.2d 897, 899 (Tex.1962); see

also Akin v. Dahl, 661 S.W.2d 917, 921 (Tex.1983) (same), cert. denied, 466 U.S. 938, 104 S.Ct.

1911, 80 L.Ed.2d 460 (1984). The state court specifically found, "after hearing the evidence and

arguments of counsel," that Gober acted "maliciously and willfully when he converted [$307,284.96],

for which exemplary and punitive damages should be awarded." Gober had the right to participate

in the damages hearing and contest the extent of his culpability, even though he could not contest

liability per se. Fleming, 734 S.W.2d at 409. We therefore find that the issue of Gober's mental state

was fully and fairly litigated for collateral estoppel purposes. Gober is precluded from relitigating the

issue of whether his conduct was willful and malicious for the purposes of § 523(a) dischargeability.8

In so holding, we are mindful of the procedural safeguards afforded Gober and do not purport

to establish a per se rule that collateral estoppel precludes relitigation of issues whenever punitive

damages are assessed against a defendant after default. The rationale for the general rule denying

preclusive effect to default judgments is that a party may choose not to litigate issues for reasons that

have nothing to do with the merits of the case—for example, if the amount at stake does not justify

the expense of contesting the lawsuit. However, Gober did not simply give up at the outset, but

8
As alternative grounds for denying collateral estoppel effect, Gober asserts (1) that the state
court's specific findings were not essential to the judgment because the court was not required to
make any findings of fact to sustain the judgment of default and (2) that the issues relevant to
discharge were not established by at least a preponderance of the evidence as required by Grogan,
498 U.S. at 284-85, 111 S.Ct. at 658 (noting that issue preclusion does not apply where creditor
asserting preclusion faced lesser burden of proof than preponderance of evidence standard in
dischargeability proceeding). We reject both arguments—under Texas law at the time the state
court rendered the judgment, the court could not have awarded punitive damages absent specific
findings of malice or fraud supported by preponderance of the evidence. Ford Motor Co., 714
S.W.2d at 347; see also TEX.CIV.PRAC. & REM.CODE ANN. § 41.003 (West Supp.1997) (raising
the burden of proof to "clear and convincing evidence").
actively participated in the litigation for two years, filing counterclaims and making discovery

requests. See United States v. Gottheiner (In re Gottheiner), 703 F.2d 1136, 1139 (9th Cir.1983)

(giving preclusive effect to prior judgment entered as a result of unopposed summary judgment

motion; "[t]hat after many months of discovery [the debtor] decided his case was no longer worth

the effort does not alter the fact that he had his day in court").

Furthermore, the court struck Gober's pleadings only after Gober had repeatedly impeded the

course of the proceedings by refusing to comply with discovery and by defying court orders. The

Restatement contemplates that "even if [an issue] was not litigated, the party's reasons for not

litigating in the prior action may be such that preclusion would be appropriate." Restatement

(Second) of Judgments § 27 cmt. e (1982). Other circuits, applying federal rules of issue preclusion

in dischargeability proceedings, have applied this principle to bar relitigation of issues determined by

default as a result of sanctions for discovery abuses and dilatory tactics. See FDIC v. Daily (In re

Daily), 47 F.3d 365, 368 (9th Cir.1995) (applying collateral estoppel principles where "denying

preclusive effect to the [prior] judgment ... would permit [debtor] to delay substantially and perhaps

ultimately avoid payment of the debt by deliberate abuse of the judicial process."); Bush v. Balfour

Beatty Bahamas, Ltd. (In re Bush), 62 F.3d 1319, 1324 (11th Cir.1995) (holding that "where a party

has substantially participated in an action in which he had a full and fair opportunity to defend on the

merits, but subsequently chooses not to do so, and even attempts to frustrate the effort to bring the

action to judgment," collateral estoppel is proper). We similarly find that the circumstances

surrounding the state court proceedings in this case bolster our conclusion that the bankruptcy and

district courts properly afforded collateral estoppel effect to the judgment against Gober.

III

Gober contends that the bankruptcy and district courts erred in abstaining from hearing his

claims for offsets and credits based on unpaid salary, business expenses, and the value of Gober's

ownership interest in Terra. Gober previously asserted these claims as counterclaims in the

underlying state court action, but the state court dismissed them for failure to post security for costs.

The bankruptcy court expressly abstained from considering the asserted offsets without explanation,
and the district court affirmed the bankruptcy court's entire judgment without reference to the

bankruptcy court's abstention decision.

Under the "permissive abstention" doctrine, 28 U.S.C. § 1334(c)(1), courts have broad

discretion to abstain from hearing state law claims whenever appropriate "in the interest of justice,

or in the interest of comity with State courts or respect for State law." See also Wood v. Wood (In

re Wood), 825 F.2d 90, 93 (5th Cir.1987) (noting that § 1334(c)(1) "demonstrate[s] the intent of

Congress that concerns of comity and judicial convenience should be met, not by rigid limitations on

the jurisdiction of federal courts, but by the discretionary exercise of abstention when appropriate in

a particular case"). Under § 1334(c)(2), however, courts must abstain from hearing a state law claim

for which there is no independent basis for federal jurisdiction other than § 1334(b) "if an action is

commenced, and can be timely adjudicated, in a State forum of appropriate jurisdiction." Mandatory

abstention applies only to non-core proceedings—that is, proceedings "related to a case under title

11," but not "arising under title 11, or arising in a case under title 11." 28 U.S.C. §§ 157(b)(1) &

1334(c)(2). A court, however, may abstain at its discretion from deciding either core or non-core

proceedings under § 1334(c)(1) if the interests of justice, comity, or respect for state law so require.

The bankruptcy court failed to indicate the particular section under which it abstained; we

note, however, that § 1334(c)(2) would not require abstention in this case because no proceeding has

been commenced in state court.9 Nothing, however, prevents a court from permissively abstaining

under § 1334(c)(1) where some, but not all, of the requirements for mandatory abstention are met.10

9
Furthermore, were abstention mandatory under § 1334(c)(2), we would have no power to
review the district court's decision. Former § 1334(c)(2), applicable to cases, such as this one,
commenced under Title 11 before October 22, 1994, provides that "[a]ny decision to abstain or
not to abstain made under this subsection is not reviewable by appeal or otherwise by the court of
appeals...." 28 U.S.C. § 1334(c)(2) (1993), amended by 28 U.S.C. § 1334(c)(2) & (d)
(Supp.1996).
10
Gober urges that abstention was improper because Terra failed to file a motion to abstain
under 28 U.S.C. § 1334(c) as required under Bankruptcy Rule 5011(b), thus depriving him of
notice and an opportunity to be heard on the issue. We disagree. Permissive abstention under §
1334(c)(1) may be raised by the court sua sponte. Austin v. Cockings (In re Cockings), 195 B.R.
915, 917 n. 3 (Bankr.E.D.Ark.1996); Roddam v. Metro Loans, Inc. (In re Roddam), 193 B.R.
971, 975 n. 3 (Bankr.N.D.Ala.1996); Scherer v. Carroll, 150 B.R. 549, 552 (D.Vt.1993);
Richmond Tank Car Co. v. CTC Invs. (In re Richmond Tank Car Co.), 119 B.R. 124, 125
(S.D.Tex.1989). Moreover, the bankruptcy court afforded Gober ample opportunity to brief this
The decision to abstain or not to abstain is committed to the discretion of the district court, and we

will affirm unless the court clearly abused its discretion. Howe v. Vaughan (In re Howe), 913 F.2d

1138, 1143 & n. 6 (5th Cir.1990).

Although neither the bankruptcy court nor the district court offered any rationale for

abstention in its judgment, the bankruptcy judge stated at a hearing on Gober's claims that he would

abstain "since at this point the federal question is resolved and goes purely to issues of state law as

to whether there are any credits or offsets due on that judgment." We find no abuse of discretion

because we agree that Gober's claims hinge solely on questions of state law and invoke no substantive

right created by federal bankruptcy law. Gober's claims exist wholly outside of bankruptcy—indeed,

Gober asserted them in state court almost a decade before he filed his bankruptcy petition.

Furthermore, there is no basis for federal jurisdiction of Gober's claims other than § 1334(b).11

Gober, however, argues that abstention was an abuse of discretion because Gober's claims

can no longer be adjudicated in any other forum. Gober relies on Umbreit v. Stump, Harvey & Cook,

Inc. (In re Baltimore Motor Coach Co.), 103 B.R. 103, 107 (Bankr.D.Md.1989), for the proposition

that permissive abstention is improper where it would result in the total loss of the claim due to the

expiration of the statute of limitations. The court in In re Baltimore Motor Coach, however,

considered a debtor's post-petition claim that had been filed in bankruptcy court within the limitations

period, but for which the state statute of limitations expired during the pendency of the action.12

Gober, by contrast, concedes that the statutes of limitations on his state law claims expired long

issue and present arguments in opposition to abstention, and Gober did so in a supplemental letter
brief submitted at the request of the bankruptcy judge.
11
Gober's claims do not satisfy the requirements for federal question jurisdiction under 28
U.S.C. § 1331 or for diversity jurisdiction under 28 U.S.C. § 1332. We discern no other basis for
federal jurisdiction.
12
Moreover, the holding of the Maryland bankruptcy court in In re Baltimore Motor Coach
seems to conflict with a later holding of the district court for the District of Maryland in Mona v.
Citizens Bank and Trust of Maryland, 143 B.R. 375 (D.Md.1992). In Mona, the court held that
a plaintiff should not be permitted to forego an available forum until after the limitations period
has expired and then raise that lack of an alternative forum as a bar to abstention. Id. at 381.
before he filed his bankruptcy petition.13 In fact, Gober implies that his claims are viable in federal

court at this late date only because they constitute defensive actions for recoupment in the

dischargeability proceeding.

Gober confuses the concepts of "recoupment" and "setoff." Recoupment is a demand

asserted to diminish or extinguish the plaintiff's demand that arises out of the same transaction

forming the basis of the plaintiff's claim; setoff, on the other hand, arises out of a transaction extrinsic

to the plaintiff's claim. REW Enters., Inc. v. Premier Bank, N.A., 49 F.3d 163, 170-71 (5th

Cir.1995); Garza v. Allied Finance Co., 566 S.W.2d 57, 62-63 (Tex.App.—Corpus Christi 1978,

no writ); Hunt v. Bankers Trust, 689 F.Supp. 666, 672 (N.D.Tex.1987) (citing 3 Jeremy C. Moore

et al., Moore's Federal Practice ¶ 13.02 (2d ed. 1985)). Defensive claims for recoupment are never

subject to statutes of limitations as long as the plaintiff's action is timely. Bull v. United States, 295

U.S. 247, 262, 55 S.Ct. 695, 700, 79 L.Ed. 1421 (1935); Distribution Serv., Ltd. v. Eddie Parker

Interests, 897 F.2d 811, 812 (5th Cir.1990); Morriss-Buick Co. v. Davis, 127 Tex. 41, 91 S.W.2d

313, 314 (1936); Garza, 566 S.W.2d at 63. Counterclaims for setoff, however, are subject to the

applicable statute of limitations just as if they were asserted as independent actions. Morriss-Buick

Co., 127 Tex. 41, 91 S.W.2d at 314; Smith v. American Fin. Sys., Inc. (In re Smith), 737 F.2d 1549,

1552 (11th Cir.1984); Gibson v. United States (In re Gibson), 176 B.R. 910, 917

(Bankr.N.D.Ore.1994).

Gober's claims for unpaid salary, business expenses, and other compensation do not arise out

of the same set of transactions as the embezzlement of client funds and loan proceeds underlying

Terra's objection to dischargeability. Indeed, Gober asserts as much when he argues that his claims

were not compulsory counterclaims in the state court action. TEX.R.CIV.P. 97(a) (defining a

compulsory counterclaim as one "aris[ing] out of the transaction or occurrence that is the subject

matter of the opposing party's claim"); FED.R.CIV.P. 13(a) (same); see also Plant v. Blazer Fin.

13
At this stage of the proceedings, we need not determine whether the Texas two- or four-year
statute of limitations applies to Gober's claims. See TEX.CIV.PRAC. & REM.CODE ANN. §§
16.003-16.004 & § 16.051 (Vernon 1986). Under the longest possible limitations period, Gober's
claims became time-barred several years before he filed his bankruptcy petition.
Servs., Inc. of Ga., 598 F.2d 1357, 1364 (5th Cir.1979) (noting similarity between requirements for

recoupment and those for compulsory counterclaim under FED.R.CIV.P. 13(a)); Hunt, 689 F.Supp.

at 672 (equating setoffs with permissive counterclaims and claims for recoupment with compulsory

counterclaims). By his own admission, Gober's claims cannot constitute claims for recoupment and

therefore are subject to the applicable Texas st atute of limitations. The district court could have

denied the claims outright without reaching the merits; at the very least, the court's decision to

abstain was not an abuse of discretion.

IV

Gober last contends that the state court's award of $75,000 in attorney's fees and

post-judgment interest that has accrued on the judgment since January 6, 1984, should be discharged

even if the primary debt is nondischargeable. He therefore asks that we reverse the bankruptcy

court's summary judgment order and remand the case for a determination of the exact amount that

is nondischargeable.

We decline Gober's request: the status of ancillary obligations such as attorney's fees and

interest depends on that of the primary debt. When the primary debt is nondischargeable due to

willful and malicious conduct, the attorney's fees and interest accompanying compensatory damages,

including post-judgment interest, are likewise nondischargeable.14 Stokes v. Ferris (In re Stokes), 150

B.R. 388, 393 (W.D.Tex.1992) (holding all debt s awarded by a Texas court, including punitive

damages, legal fees, and post-judgment interest, to be nondischargeable), aff'd, 995 F.2d 76 (5th

Cir.1993); Klingman v. Levinson, 831 F.2d 1292, 1296-97 (7th Cir.1987) (holding attorney's fees

nondischargeable); Jennen v. Hunter (In re Hunter), 771 F.2d 1126, 1131 (8th Cir.1985) (holding

that attorney's fees and interest attach to primary debt and are nondischargeable); Stanley v. Cole (In

re Cole), 136 B.R. 453, 459 (Bankr.N.D.Tex.1992) (holding exemplary damages, costs and interest

14
Gober furthermore contends that the bankruptcy court erred in finding the state court's
award of $75,000 in attorney's fees nondischargeable because such fees are not recoverable in a
conversion suit under Texas law. In essence, Gober challenges the propriety of the underlying
debt itself, not its dischargeability in bankruptcy. Such an attack should have been raised on
direct appeal; Gober's collateral attack on the state court judgment itself is no defense to a §
523(a) dischargeability proceeding. See discussion, supra, section IIB.
nondischargeable); In re Christian, 111 B.R. 118, 122-23 (Bankr.W.D.Tex.1989) (holding attorney's

fees nondischargeable); cf. Jordan v. Southeast Nat'l Bank (In re Jordan), 927 F.2d 221, 226-28 (5th

Cir.1991) (holding that where party has contracted to pay attorneys' fees and interest for collection

of nondischargeable debt, fees and interest also will not be discharged in bankruptcy), overruled on

other grounds, Coston v. Bank of Malvern (In re Coston), 991 F.2d 257 (5th Cir.1993). In sum,

Gober's assertion that the state court's award of attorney's fees and post-judgment interest should be

discharged has no merit.

V

For the foregoing reasons, we AFFIRM the judgment of the district court in all respects.