Adams v. Zimmerman

United States Court of Appeals
For the First Circuit

No. 94-2161

LEVI C. ADAMS, ET AL.,

Plaintiffs, Appellees,

v.

ZIMMERMAN, ET AL.,

Defendants, Appellees.

FEDERAL DEPOSIT INSURANCE CORPORATION,

Defendant, Appellant.

No. 94-2162

LEVI C. ADAMS, ET AL.,

Plaintiffs, Appellants,

v.

ZIMMERMAN, ET AL.,

Defendants, Appellees.

FEDERAL DEPOSIT INSURANCE CORPORATION,

Defendant, Appellee.

No. 94-2246

LEVI C. ADAMS, ET AL.,

Plaintiffs, Appellees,

v.

ZIMMERMAN, ET AL.,

Defendants, Appellees.

FEDERAL DEPOSIT INSURANCE CORPORATION,

Defendant, Appellant.

No. 94-2247

LEVI C. ADAMS, ET AL.,

Plaintiffs, Appellants,

v.

ZIMMERMAN, ET AL.,

Defendants, Appellees.

APPEALS FROM THE UNITED STATES DISTRICT COURT

FOR THE DISTRICT OF MASSACHUSETTS

[Hon. Nathaniel M. Gorton, U.S. District Judge]

Before

Torruella, Chief Judge,

Lynch, Circuit Judge,

and Stearns,* District Judge.

Vincent M. Amoroso, with whom Harry A. Pierce and Parker,

*Of the District of Massachusetts, sitting by designation.

2

Coulter, Daley & White were on brief, for plaintiffs.

J. Scott Watson, Federal Deposit Insurance Corporation, with

whom David S. Mortensen, Glenn D. Woods, and Tedeschi, Grasso and

Mortensen were on brief, for defendant Federal Deposit Insurance

Corporation.

January 19, 1996

3

LYNCH, Circuit Judge. A troubled condominium
LYNCH, Circuit Judge.

development led to these appeals, which raise issues of

federal banking law: whether 12 U.S.C. 1823(e) and

D'Oench, Duhme & Co. v. FDIC, 315 U.S. 447 (1942), shield the

FDIC, as receiver for a failed bank, from liability for the

bank's sale of unregistered securities. We hold that the

FDIC has no such shield and is liable, but remand for

adjustment of the remedies fashioned by the district court.

These consolidated cross appeals arise out of the

development of the Hyannis Harborview Hotel. The units in

the Hotel were marketed and sold by the University Bank and

Trust Company and the other defendants as "pooled income"

condominium units. Although these units were securities,

they were never registered, and, when the development of the

Hotel faltered, the plaintiffs, purchasers of individual

units in the Hotel, sued the Bank for, inter alia, the sale

of unregistered securities in violation of the Massachusetts

Uniform Securities Act, Mass. Gen. L. ch. 110A, 410(a)(1).

The Bank was later declared insolvent and the FDIC, as

receiver, was substituted for the Bank as a defendant. After

rejecting the FDIC's argument that 1823(e) and D'Oench

barred the plaintiffs' registration claims, the district

court held the FDIC liable under section 410(a)(1) and

awarded the plaintiffs rescissionary damages, attorneys' fees

and interest.

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I. Background And Procedural History

In 1985, Gary Zimmerman, president of Hyannis

Harborview Hotel, Inc. (HHI), approached Robert Keezer for

financial and marketing advice about converting the Hotel

into condominiums. Keezer, who was then the Bank's second

largest stockholder, Vice Chairman of its Board of Directors,

and a member of the Bank's Loan Committee, agreed to do so

for an interest in the project. Keezer brought Norman

Chaban, an expert in condominium marketing, into the project

to manage the marketing and sales of the condominiums and

arranged to have a $6.8 million condominium conversion loan

placed through the Bank.

To make the Hotel units more attractive, Keezer,

Chaban and Zimmerman marketed and sold the units on a "pooled

income" basis. That is, the purchasers were told they would

receive income based upon their pro rata interest in the

entire condominium project rather than on the income

generated by their individual units. The Hotel's Declaration

of Trust and By-Laws (these and the Master Deed constitute

the "Master Documents") provided that each unit owner:

[1] shall be liable for Common Expenses
attributable to the operation of the
Condominium in the same proportion as his
Beneficial Interest in this Trust bears to the
aggregate Beneficial Interest of all Unit
Owners . . . ;[and]

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[2] shall be entitled to common profits, if any,
attributable to the operations of the motel-
type Units of the Condominium in the same
proportion as his Beneficial Interest in this
Trust bears to the aggregate Beneficial
Interest of all [unit] owners.

When several of the plaintiffs were unable to get

financing to purchase their units, the Bank's Loan Committee

voted to approve $3,000,000 in "end loan" financing to them.

After the plaintiffs executed their purchase and sale

agreements, which incorporated by reference the Master

Documents, the Loan Committee (with Keezer voting) approved

end loans to several of the plaintiffs to finance the

purchases. This was the first time that the Bank's lending

arm, University Financial Services Corporation, had

considered and approved such end loans, a type of financing

arrangement not considered standard procedure in the banking

business at the time. The plaintiffs then purchased the

units. Three of the plaintiffs, Marietta Lopes ("Lopes") and

Michael and Barbara Riley (the "Rileys"), were able to secure

financing from other lending institutions.

The units were never registered as securities.

About six months after the plaintiffs purchased the units,

they were told by HHI that, upon advice of counsel, it would

no longer pay unit income based on a rental pool. The

unhappy plaintiffs in 1989 filed their six-count amended

complaint against HHI, Zimmerman, Chaban, Keezer and the

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Bank, inter alia.1 On May 31, 1991, the Comptroller of the

Currency declared the Bank insolvent and appointed the FDIC

as receiver. The FDIC was substituted for the Bank as a

defendant.

The district court granted summary judgment for the

FDIC based on its special defenses under D'Oench and

1823(e), except on the state securities registration count

(Count V). After a bench trial, the district court issued a

Memorandum of Decision, Adams v. Hyannis Harborview, Inc.,

838 F. Supp. 676 (D. Mass. 1993), holding, among other

things, that the plaintiffs were entitled to judgment against

the FDIC on Count V.

The court held that the provisions in the Master

Documents made the Hotel units "investment contracts" and

thus securities within the meaning of the securities laws.

Id. at 686. It also held that, in light of the financing

arrangements made for the purchasers, Keezer was acting as

the Bank's agent in the sale of the units and so his actions

1. In addition to their claims under Mass. Gen. L. ch. 110A,
410(a)(1), the complaint also alleged (1) violations of
12(2) of the Securities Act of 1933 (the "1933 Act"), 15
U.S.C. 77l(2) (Count I), (2) violations of the anti-fraud
provisions of 10(b) of the Securities Exchange Act of 1934,
15 U.S.C. 78j(b), and Rule 10b-5 of the Securities and
Exchange Commission, 17 C.F.R. 240.10b-5 (Count II), (3)
common law fraud and deceit (Count III), (4) negligent
misrepresentation (Count IV), and (5) violations of the anti-
fraud provisions of Mass. Gen. L. ch. 110A, 410(a)(2)
(Count VI). Zimmerman was eventually dismissed as a
defendant.

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would be imputed to the Bank. Id. at 692. It reaffirmed its

rulings that D'Oench and 1823(e) provided the FIDC with no

special defenses to Count V, id. at 691 n.14, and rejected

the FDIC's argument that the loans to the plaintiffs made by

the Bank were "bona fide" loan transactions under Mass. Gen.

L. ch. 110A, 401(i)(6) and thus exempt from registration

requirements. Id. at 694 n.16.

The court later ordered a rescissionary damages

award pursuant to Mass. Gen. L. ch. 110A, 410(a). That

statute provides for recovery of "the consideration paid for

the security, together with interest at six per cent per year

from the date of payment, costs, and reasonable attorneys'

fees, less the amount of any income received on the security,

upon tender of the security, or for damages if [the

plaintiff] no longer owns the security." Id.

Specifically, the court awarded to all plaintiffs

except Lopes and the Rileys $855,434, plus interest of 6% per

annum from February 11, 1994 to the date of the damages

order. The court said it "novated" the amounts the

plaintiffs owed on the first and second mortgage notes held

by the FDIC and HHI respectively. The "novation" apparently

cancelled the plaintiffs' debt on the mortgages. The court

denied Lopes and the Rileys a rescissionary damages award

under section 410(a)(1) because it believed it could not

novate the loans that Lopes and the Rileys owed to third-

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8

party banks. It did, however, give Lopes and the Rileys

damages of $256,564 (the principal and interest payments they

had made on their mortgage loans plus the amount they still

owed on those loans) from Keezer, Chaban and HHI on the other

securities law claims successfully asserted.

The court gave each plaintiff the option of either

accepting the rescission award (and the novation) in exchange

for title to the unit or, in lieu of the rescission award,

retaining the unit free and clear. It awarded attorneys'

fees of $351,213 against Keezer, Chaban, HHI and the FDIC.

Finally, it ordered that the plaintiffs' recovery would be

subject to the FDIC's "obligation to distribute the assets of

[the Bank] on a pro rata basis."

The FDIC appeals the rulings on 1823(e) and

D'Oench with respect to Count V, the finding that the bank

loans were not "bona fide" loan transactions, the award of

attorneys' fees and post-insolvency interest, and the order

that any reconveyance be made to all defendants rather than

just to the FDIC. The FDIC does not challenge either the

district court's conclusion that the Hotel units were

securities or its conclusion that Keezer's actions were

imputable to the Bank. The plaintiffs' cross-appeals

challenge the district court's method of calculating the

rescissionary damages award, its decision to limit the award

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in accordance with the rule of ratable distribution, and its

failure to grant fee enhancements.

II. Section 1823(e) And D'Oench

The FDIC argues that 1823(e) and D'Oench bar the

claims under state securities law because the plaintiffs

cannot point to a written agreement regarding the

"registrability of securities." Section 1823(e) bars anyone

from asserting against the FDIC any "agreement" that is not

in writing and is not properly recorded in the records of the

bank. 12 U.S.C. 1823(e). D'Oench generally prevents

plaintiffs from asserting as either a claim or defense

against the FDIC oral agreements or "arrangements."

Timberland Design, Inc. v. First Service Bank for Savings,

932 F.2d 46, 48-50 (1st Cir. 1991). We do not believe that

either 1823(e) or D'Oench shields the FDIC here.2

2. As modified by the Financial Institutions Reform,
Recovery, and Enforcement Act (FIRREA), 1823(e) provides:

No agreement which tends to diminish or defeat the
interest of the [FDIC] in any asset acquired by
it . . . shall be valid against the [FDIC] unless
such agreement [is in writing and satisfies a
number of other requirements].

12 U.S.C. 1823(e). A circuit split appears to have
developed over the question of whether 1823(e) has
preempted D'Oench. Compare FDIC v. McClanahan, 795 F.2d 512,

514 n.1 (5th Cir. 1986) ("there is no reason to suppose that
Congress intended [by the passage of 1823(e)] to forbid the
rule of estoppel from being applied when the FDIC sues as
receiver of a failed bank") with Murphy v. FDIC, 61 F.3d 34,

39 (D.C. Cir. 1995) (relying on O'Melveny & Myers v. FDIC,

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While expansive in scope, 1823 and D'Oench only

protect the FDIC from claims or defenses based upon an

"agreement" or "arrangement." See 12 U.S.C. 1823(e); In re

NBW Commercial Paper Litigation, 826 F. Supp. 1448, 1461,

1466 (D.D.C. 1992). Although the concept of "agreement" has

been broadly defined to include not only promises to perform,

but also misrepresentations or material omissions, see

Langley v. FDIC, 484 U.S. 86, 92-93 (1987), plaintiffs'

claims against the FDIC are not based upon an agreement or

arrangement.3

Liability for failure to register a security under

Mass. Gen. L. ch. 110A, 410(a)(1) is strict. The right to

a remedy under section 410(a)(1) is independent of anything

that was said or agreed to between the Bank and the

plaintiffs. The act of selling the securities is what

created the liability and, as the district court found, the

Bank, through Keezer, sold the plaintiffs unregistered

securities. See NBW, 826 F. Supp. at 1468 (sale of

114 S. Ct. 2048 (1994) for the proposition that the FIRREA
preempts D'Oench); see also DiVall Insured Income Fund Ltd.

Partnership v. Boatmen's First Nat'l Bank of Kansas City, 69

F.3d 1398, 1402 (8th Cir. 1995) (D'Oench and holder in due

course doctrines preempted by FIRREA); Timberland Design, 932

F.2d at 51 (not reaching the preemption question because it
had been raised for the first time on appeal). We need not,
and do not, reach the question of whether D'Oench has been

preempted by 1823(e).

3. Indeed, after Langley, the terms "agreement" and

"arrangement" appear to be virtually synonymous. See id.

("agreement" is "scheme or arrangement").

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unregistered securities in violation of 12(1) of the 1933

Act does not rest on an agreement or arrangement).4

The FDIC's attempt to shoehorn this case into the

Supreme Court's Langley decision is unfitting. Starting with

the observation in Langley that the term "agreement" includes

an implicit condition such as the "truthfulness of a

warranted fact," see Langley, 484 U.S. at 93, the FDIC argues

that the plaintiffs' claims depend on the Bank's "implied

warranty" that the securities it was selling were legal. But

to the extent that such a warranty can even be characterized

as an agreement or arrangement, the plaintiffs' claims do not

depend upon it. The claims come from an independent legal

obligation arising from the act itself -- the sale of

unregistered securities -- and not from any warranty that the

action was legal. See NBW, 826 F. Supp. at 1468.

The FDIC says that D'Oench and 1823(e) are

designed to shield the FDIC from hidden liabilities and that

the FDIC could not have known from the Bank's records that

the Bank had sold securities to the plaintiffs. But that

does not appear to be the case. Although the Bank's

4. This case is not like typical securities fraud cases in
which plaintiffs claim that they were induced to purchase a
security based upon some material misrepresentation or
omission. In such cases, a plaintiff's claim depends upon
something the bank said or did that misled the plaintiff.
See, e.g., Dendinger v. First Nat'l Corp., 16 F.3d 99 (5th

Cir. 1994); Kilpatrick v. Riddle, 907 F.2d 1523 (5th Cir.

1990), cert. denied, 498 U.S. 1083 (1991).

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documents did not specifically use the term "security," the

pooled income arrangement is disclosed in the documents. The

HHI Declaration of Trust and By-Laws specifically provide

that the Hotel would be operated on a pooled income basis.

The mortgages were reflected in the Bank's records. The Loan

Proposal for the conversion loan states that the condominium

would be operated on a pooled income basis. The plaintiffs'

purchase and sale agreements incorporate by reference the

Declaration of Trust and By-laws; and the Loan Extension

documents for the plaintiffs referenced the condominium units

as collateral. A review of the documents pertinent to the

plaintiffs' promissory notes would have revealed the facts

showing that the Hotel units were pooled income units.

Perhaps recognizing this problem with its general

policy argument, the FDIC presses a slightly refined variant.

It argues that 1823(e) and D'Oench apply because no

specific writing appears on the Bank's records signed by both

a plaintiff and the Bank that "memorializes any obligation of

the Bank with respect to a securities transaction." This

argument, which is premised on the notion that there must be

a written agreement that specifically states in terms that

the condominium units are securities, rests on the incorrect

assumption that the bank examiners must be able to determine

the legal import of the facts reflected in the bank's

records. This assumption ignores that "[t]he real issue

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. . . is not whether the bank examiners could tell whether

the bank's actions were illegal (or indeed whether the

examiners knew what the law was), but rather, whether the

factual predicate for the application of the law is

established on the bank's books." NBW, 825 F. Supp. at 1469

n.28.5 That the plaintiffs' claims rest on collateral

documents referenced in the books of the Bank does not

transform their section 410(a)(1) claims into ones based upon

an agreement or arrangement. Id.6

5. This case is quite similar to NBW, in which the court

held that the FDIC could be liable for a bank's sale of
unregistered securities. The FDIC's attempts to distinguish
NBW on its facts are unpersuasive. First, the FDIC argues

that the bank in NBW was only a seller of securities and the

Bank here was both a seller and a lender. But all that

really means is that the NBW plaintiffs paid for the security

with cash while the plaintiffs here paid for the security
with a promissory note and mortgage. Second, the FDIC argues
that in NBW there was a written agreement which in terms

provided for a securities purchase. But that is not
necessary, and the Bank's records reflect the sale of the
pooled income units. Third, the FDIC claims that unlike in
NBW where the bank was self-dealing, the Bank here was simply

acting as a third party lender in this transaction. That
claim is just not supported by the record. Moreover, none of
these distinctions bears on the central insight of NBW that

the plaintiffs' claims against a bank for the sale of
unregistered securities do not arise from an agreement or
arrangement.

6. It is fair for the FDIC to make the very general point
that the plaintiffs' claims depend upon an agreement because
they depend upon a "sale" of a security and a sale is an
agreement. However, it is undisputed that the sale of these
units to the plaintiffs is clearly reflected in the Bank's
records sufficient to satisfy both 1823(e) and D'Oench.

The FDIC suggests however that there is an absence of a
writing, sufficient to satisfy 1823(e) and D'Oench,

specifically mentioning in terms that the Bank was a "seller"
of the units. As with the FDIC's argument that the documents

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The only policy consideration underlying D'Oench

that the FDIC argues is relevant here is the concern that the

FDIC be able to value the assets of a bank by reviewing a

bank's records either for purposes of liquidation or for

purposes of a purchase and assumption transaction. See

Langley, 484 U.S. at 91-92. Such a valuation must be done

"'with great speed, usually overnight, in order to preserve

the going concern value of the failed bank and avoid an

interruption in banking services.'" Langley, 484 U.S. at 91

(quoting Gunter v. Hutcheson, 674 F.2d 862, 865 (6th Cir.),

cert. denied, 459 U.S. 1059 (1982)). Where the Bank records

reflect adequately the sale of the Hotel units as pooled

income units, these concerns appear to be satisfied.7

must have stated in terms that the units were securities,
this argument assumes that the legal significance of the
documents must be apparent to the bank examiners in order to
overcome 1823(e) and D'Oench. Just as the pooled income

language in the Master Documents made the units securities by
operation of securities law, the loan documents reflected in
the record, as the district court concluded and the FDIC
concedes, made Keezer's sale of the units imputable to the
Bank by operation of principles of agency incorporated into
securities law. That the legal significance of these loan
transactions was not explicitly spelled out does not bar the
plaintiffs' claims. See NBW, 826 F. Supp. at 1469 n.29.

7. Plaintiffs have also argued that notwithstanding whether
their claim depends upon an agreement, their claims will
affect no "asset" for purposes of 1823(e). They point out
that where notes are invalidated by acts or omissions
independent of an alleged secret agreement, the notes are not
an asset protected by 1823(e). See FDIC v. Bracero &

Rivera, Inc., 895 F.2d 824, 830 (1st Cir. 1990). They argue

that because the sales of the condominium units were void,
see Kneeland v. Emerton, 183 N.E. 155, 159 (Mass. 1932)

(under predecessor to Massachusetts Uniform Securities Act,

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III. Sales Of Securities Or Bona Fide Loans?

The FDIC also says that there were no sales of

securities, arguing that these were bona fide loan

transactions instead. We disagree. The pertinent state

securities statute provides that the terms "sale," "sell,"

"offer," or "offer to sell" do not include any "bona fide

pledge or loan." Mass. Gen. L. ch. 110A, 401(i)(6).

The record amply supports the district court's

conclusion that the loans were not made in the ordinary

course of business and were not bona fide. The Bank and

Keezer operated together in the marketing and financing of

these condominium units to the plaintiffs. When it became

apparent that the project might fail because the purchasers

were having trouble getting financing, the Bank departed from

standard banking practice and offered end loans to the

plaintiffs (except Lopes and the Rileys). When it came to

granting the end loans to the plaintiffs, the Bank's agent,

sale of stock was a void transaction where notice of
intention to sell shares had not been filed with the
Department of Public Utilities), the promissory notes based
upon the units were also void, and that, accordingly, no
asset passed to the FDIC when it took over the Bank. The
FDIC counters that notwithstanding Kneeland's use of the term

"void," the case actually employed the concept of
"voidability," see id. (stating that the transaction was void

at the buyer's instance), and that an asset does pass to the
FDIC if the transaction is voidable. See Kilpatrick v.

Riddle, 907 F.2d 1523, 1528 (5th Cir. 1990). Because we hold

that the plaintiffs' claims in this case do not depend upon
an agreement or arrangement, we need not resolve this
question.

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Keezer, knew or should have known that the sales were not

registered and therefore could not be completed in compliance

with the securities laws. He nevertheless participated in

the vote to approve the end loans. That the substitution of

the plaintiffs' good debt for HHI's bad debt may have been in

the interest of the Bank and its shareholders does not

establish that the Bank was involved in bona fide loan

transactions. The substitution was based on the transfer of

an unregistered security to the plaintiffs. Where the loans

were entered into in the course of the Bank's effort to

finance and market, through its agent, securities that the

Bank knew or should have known could not be sold without

registration, the loans were not bona fide.

IV. Remedy

Each side complains about the district court's

remedial order. Plaintiffs argue that the district court

erroneously ordered that any recovery against the FDIC be

subject to the FDIC's responsibility to distribute the assets

of the failed bank in a ratable manner. They also argue that

the district court's method of setting the rescissionary

damages was infirm, that the award improperly excluded Lopes

and the Rileys, and that the court should have awarded an

attorneys' fee enhancement. For its part, the FDIC claims

that the district court erred in awarding post-insolvency

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interest and attorneys' fees and in requiring the plaintiffs

accepting the rescissionary damages to reconvey their units

to all of the defendants rather than only to the FDIC. The

district court's award is reviewed for an abuse of discretion

unless it rests on an erroneous legal determination. See

Downriver Community Federal Credit Union v. Penn Square Bank

through FDIC, 879 F.2d 754, 758 (10th Cir. 1989), cert.

denied, 493 U.S. 1070 (1990).

A. Ratable Distribution

The FDIC, as receiver, is authorized to distribute

the assets of a failed bank to all creditors on a pro rata

basis pursuant to the National Bank Act at 12 U.S.C. 91

and 194, and the FIRREA at 12 U.S.C. 1821(i)(2).8 See

also United States ex rel. White v. Knox, 111 U.S. 784, 786

8. Section 91 prohibits a bank facing insolvency from making
payments that prefer some creditors over others. 12 U.S.C.
91. Section 194 requires a ratable distribution of assets
among all general creditors entitled to a share in the
receivership estate. 12 U.S.C. 194 (providing that the
FDIC "shall make a ratable dividend . . . on all such claims
as may have been proved to [its] satisfaction or adjudicated
in a court of competent jurisdiction"). Section 1821(i)(2)
limits the FDIC's liability as receiver to the amount a
claimant would have received in a straight liquidation of the
failed bank. 12 U.S.C. 1821(i)(2) ("The maximum liability
of the [FDIC] . . . to any person having a claim . . . shall
equal the amount such claimant would have received if the
[FDIC] had liquidated the assets and liabilities of such
institution . . . ."). Section 1821(i)(2) does not, by
itself, resolve the issue of whether a plaintiff is entitled
to a preference because the statute does not "alter[] or
define[] the priorities [that] define liquidation value."
Branch v. FDIC, 825 F. Supp. 384, 417 & n.35 (D. Mass. 1993)

(internal quotation omitted).

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(1884) ("Dividends are to be paid to all creditors ratably;

that is to say, proportionally. To be proportionate they

must be made by some uniform rule. . . . All creditors are

to be treated alike."). While the ratable distribution rule

is not absolute, the statutory framework is "distinctly

unfriendly to the recognition of special interests or

preferred claims." Downriver, 879 F.2d at 762 (internal

quotation omitted).

A plaintiff seeking an exception from the pro rata

rule bears a heavy burden of proof to show that a preference

is warranted. Id.; see also Branch 825 F. Supp. at 416. A

preference might be warranted where a plaintiff is a secured

creditor and is seeking to enforce a lien against the

security, see Ticonic Nat'l Bank v. Sprague, 303 U.S. 406,

413 (1938), or where the plaintiff, although a general

unsecured creditor, can show an entitlement to a constructive

trust. See Downriver, 879 F.2d at 762. Because the

plaintiffs can show neither, their awards are subject to pro

rata distribution.

None of the plaintiffs has a secured claim, and

they argue to no avail that they have claims entitling them

to a constructive trust. The plaintiffs must have shown, and

did not, that the Bank's fraudulent conduct caused a

particular harm that is not shared by substantially all other

creditors, and that granting the relief would not disrupt the

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orderly administration of the estate. Id. The district

court found, however, that the defendants committed no fraud

in this case, and fraud (or violation of a fiduciary duty) is

generally a prerequisite to the formation of a constructive

trust.9 Moreover, the plaintiffs have not shown that a

preference would not interfere with the orderly

administration of the estate. The district court properly

held that the plaintiffs' awards were subject to the pro rata

distribution rule.

B. Rescissionary Damages Award

Rescissionary damages against the FDIC and the

other defendants, jointly and severally, were awarded to all

plaintiffs except Lopes and the Rileys. The district court

also "novated" the remaining debt of all plaintiffs (except

Lopes and the Rileys) on the first and second mortgages held

by the FDIC and HHI. The plaintiffs quarrel with this aspect

of the district court's award in two respects: that the

district court used an incorrect method of calculating

9. The only fraudulent behavior the plaintiffs attribute to
the Bank stems from the Bank's opposition to the plaintiffs'
Motion for Order Segregating Assets filed a few weeks before
the Bank was declared insolvent. In opposing the motion, the
Bank represented to the court that any harm the plaintiffs
feared from an FDIC takeover was mere speculation. The Bank
failed to inform the court that it was in negotiations with
the FDIC and a takeover by the FDIC was imminent. Without
condoning this regrettable lapse by the Bank, it does not
help the plaintiffs. The plaintiffs have not demonstrated
that they would have been entitled to a segregation of assets
had the Bank properly informed the court of its financial
condition as it should have.

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damages, and that the district court improperly excluded

Lopes and the Rileys from the rescissionary damages award

that ran against the FDIC.

1. Method of calculation.

The district court ordered an award of rescission,

excluding interest, of $654,949. The district court started

with the total amount of money at issue -- the principal,

interest and other expenses paid by the plaintiffs minus

income received and the unpaid debt on the first and second

mortgages held by the FDIC, for a total of $2,072,205. The

court then subtracted the unpaid mortgage debt owed to the

FDIC and HHI, a total of $1,271,100, and the principal and

interest payments made by Lopes and the Rileys, a total of

$146,156, to reach $654,949. The court then ordered a

"novation of the notes owed by the plaintiffs to defendants,

HHI and the FDIC," although the court apparently intended an

outright cancellation of the notes.

Plaintiffs argue that the district court should

have awarded them the entire amount of consideration paid for

the units, including the unpaid portions of the loans,

subject to a setoff by the FDIC and HHI for the unpaid

portions of the loans. They also argue that the district

court should also have allowed the plaintiffs to keep the

units as a setoff for any damages owed to the plaintiffs from

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the FDIC that would be left unpaid because of the insolvency

of the Bank.

As a practical matter, there is little difference

between what the district court ordered (return of principal,

interest, fees and expenses minus income and "novation" of

the loans) and what the plaintiffs are requesting (entire

cost of loans plus amount paid on the units minus income,

leaving plaintiffs' debt to the FDIC and HHI intact). As the

plaintiffs recognize, the district court's award "with a

solvent defendant, would fully fund rescission and return to

Plaintiffs their full damages in exchange for title to their

units." The plaintiffs argue, however, that their method of

calculation makes a difference because the Bank is insolvent

and will not be able to pay the damages judgment in full.

Plaintiffs say their method allows them to keep the units as

a setoff and thus make up any shortfall between the damages

owed and the pro rata share of the Bank's assets they will

receive. We disagree.

A setoff is often justified where a plaintiff owes

a debt to an insolvent party and will be forced to pay off

that debt without being allowed to recover a debt the

insolvent party may owe to the plaintiff. See In re Saugus

General Hosp., Inc., 698 F.2d 42, 45 (1st Cir. 1983). It is

typically employed where a depositor, who also owes money to

a bank, seeks to offset the amount owed by the amount

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deposited. It is employed where the parties have reciprocal

or mutual obligations to one another.

The plaintiffs have tried to characterize the

obligations between the parties as being mutual and

appropriate for a setoff of the units. Under the plaintiffs'

argument, the offsetting obligations would exist were the

court (1) to create a damages award in the plaintiffs' favor

for the entire amount of the loans and the amount plaintiffs

have paid on the units (minus income) and (2) then award the

FDIC and HHI the amounts the plaintiffs owe on the promissory

notes. With such offsetting obligations, the plaintiffs

argue, they should be entitled to set off the units, i.e.,

keep them, in the face of the Bank's insolvency. See FDIC v.

Mademoiselle of California, 379 F.2d 660, 664 (9th Cir. 1967)

("It is well settled that the insolvency of a party against

whom a set-off is claimed constitutes a sufficient ground for

the allowance of a set-off not otherwise available.")

(internal quotations omitted)).

This argument, however, is incongruous with the

plaintiffs' theory of recovery in this case. Plaintiffs here

sought rescission, a form of restitution. Under this theory,

the restitution by the defendant of the ill-gotten gains

cannot be enforced unless the "plaintiff[s] return[] in some

way what [they] ha[ve] received as a part performance by the

defendant." Arthur L. Corbin, Corbin on Contracts 1114, at

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23

608 (1964); see also Restatement of Restitution 65 (1937)

(the general rule is that the right of a person to

restitution for a benefit conferred upon another in a

transaction is dependent upon his return of, or offer to

return, anything the person received as a part of the

transaction). Thus, under the applicable statute, rescission

is allowed upon "tender of the security" by the plaintiff.

See Mass. Gen. L. ch. 110A, 410(a); see also 15 U.S.C.

77l.

Since tender of the unit is a condition for

triggering the obligation of the Bank to repay the amount

paid for the units, the plaintiffs cannot also use the units

as setoffs. The Bank owes the plaintiffs nothing until the

plaintiffs relinquish their rights to the units. And once

the plaintiffs no longer have rights to the units, the

plaintiffs have no basis to use the units as setoffs.10

10. Even assuming that the plaintiffs might, in theory, be
entitled to set off of the units, that does not automatically
entitle them to do so. A setoff may be denied in order to do
"equity, prevent injustice, and achieve the goals of
procedural fairness." In re Lakeside Hospital, Inc., 151

B.R. 887, 893 (N.D. Ill. 1993). In equitable terms it could
be viewed that plaintiffs have received windfalls from the
remedial order. First, a portion of the consideration paid
for the security awarded to the plaintiffs was the interest
component of the mortgage payments. Assuming that the
interest on the Bank's loans to the plaintiffs was at market
rate, the effect of the award is to give the plaintiffs a
market rate of interest on the price of the units as well as
the statutory interest award of 6%. This issue was not
presented by the parties and we do not reach the issue of
whether 410(a) allows for the calculation of
"consideration" in such a way. Second, the plaintiffs were

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Although the general method employed by the

district court in reaching the rescissionary damages award

was appropriate, one aspect of the order needs to be

modified. The district court ordered a "novation" of the

amounts the plaintiffs owed on the first and second mortgage

notes to the FDIC and HHI. A "novation" is typically a

"substituted contract that includes as a party one who was

neither the obligor nor the obligee of the original duty."

Restatement (Second) of Contracts 280 (1979). The court's

order, however, does not provide for a substitution of

parties and, given the cases cited by the district court in

its order, Limoli v. Accettullo, 265 N.E.2d 92 (Mass. 1970)

and Levy v. Bendetson, 379 N.E.2d 1121 (Mass. App. Ct. 1978),

in which the courts cancelled the notes, it does not appear

that a substitution was intended. Because an outright

cancellation of the notes may render unclear the relative

rights of the parties in the unit, we vacate the portion of

the order which "novates" the notes along with granting

rescissionary damages and remand with directions that the

district court order a novation whereby the "judgment"

defendants (FDIC, Keezer, Chaban, and HHI) are substituted as

obligors on the notes secured by the mortgages and the

given the option of keeping the units free and clear.
Because this allows the plaintiffs to keep what they bought
and effectively have a return of a significant portion of the

consideration paid for the unit, it might be viewed as a
potential over-recovery.

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25

plaintiffs are discharged of any liability on the notes. Any

units eventually tendered to the judgment defendants would be

subject to the mortgages.11

2. Lopes and the Rileys.

Lopes and the Rileys were denied any relief against

the FDIC because they had given mortgages and promissory

notes to disinterested third party banks and the court

believed that it could not "novate" those debts. Although

the district court correctly concluded that it should not

interfere with the debts owed to the third party banks, it

improperly denied Lopes and the Rileys rescissionary damages

against the FDIC. The only

difference between Lopes and the Rileys and the other

plaintiffs is that Lopes and the Rileys paid substantially

more cash to the defendants when purchasing the units. It

was not the entire price because both Lopes and the Rileys

appear to have given second mortgages to HHI. Lopes and the

Rileys were still purchasers of unregistered securities.

They should therefore be able to recover from the FDIC and

11. This approach keeps the respective rights in the units
following the award relatively clear. After the transfer,
the judgment defendants would own as tenants in common the
units subject to the first and second mortgages on the
properties. If the defendants were to default on the notes
to the Bank, then the FDIC could foreclose on the first
mortgage and use the proceeds of any sale to satisfy that
debt. Anything left over would be used to satisfy HHI's
second mortgage debt. Anything remaining after that would be
distributed to the defendants, and presumably could be sorted
out in an action among the defendants.

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26

the other defendants the consideration paid for the units.

See Mass. Gen. L. ch. 110A, 410(a). Unfortunately, the

record does not clearly reveal the consideration Lopes and

the Rileys paid for the units. On remand the district court

should hold a hearing to determine the consideration Lopes

and the Rileys paid for the units. As with the other

plaintiffs, Lopes' and the Rileys' entire claims will be

subject to the ratable distribution rule.

Lopes' and the Rileys' claims do raise additional

wrinkles for consideration on remand. The novation given to

the plaintiffs who borrowed from the Bank was an implicit

setoff of the amount of the mortgage debt. Lopes and the

Rileys are not entitled to such an implicit setoff because,

with respect to the loans to the third-party banks, there

would be no mutuality of obligation. Absent mutual

obligations, a setoff, or its equivalent, is inappropriate.

Cf. In re Lakeside Community Hospital, 151 B.R. at 891

(setoff in bankruptcy). Unlike the other plaintiffs, Lopes

and the Rileys must bear the full cost of the Bank's

insolvency.

If Lopes and the Rileys convey their units to the

defendants, they will remain liable on their promissory

notes. It may be the case, however, that the third party

banks will refuse to allow Lopes and the Rileys to reconvey

their units to the defendants. If that occurs, the district

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court may want to make clear that their remedy is subject to

any terms provided in their loan agreements with the third

party banks. The district court may also consider treating

such a situation like that in which a purchaser cannot tender

the security because she no longer owns it. In that case,

damages are awarded. See Mass. Gen. L. ch. 110A, 410(a).

C. Interest

1. Post-insolvency interest.

Section 410(a) provides for an award of 6% interest

on the consideration paid for the security from the date of

payment of that consideration. The district court awarded

$200,485 statutory interest to the plaintiffs against the

FDIC, Keezer, Chaban and HHI. That amount represents

interest from the date the plaintiffs made each of their

respective mortgage payments until February 11, 1994, the

date the plaintiffs submitted their damages motion. The FDIC

contends that the interest award against it incorrectly

includes interest accruing following the Bank's insolvency,

which occurred on May 31, 1991. According to the FDIC, the

ratable distribution rule precludes such post-insolvency

interest.12 We agree.

12. Because Keezer, Chaban, and HHI can claim no benefit
from the ratable distribution rule under the National Bank
Act and the FIRREA, the following discussions of interest and
attorneys' fees apply only to the extent they were awarded
against the FDIC.

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28

As unsecured creditors, the plaintiffs share

ratably with all other "unsecured creditors, and their claims

bear interest to the same date, that of insolvency."

Ticonic, 303 U.S. at 412.13 There are exceptions to this

rule, but where, as here, the interest is part of the claim

itself, interest accruing after the insolvency should not be

awarded. See United States ex rel. White v. Knox, 111 U.S.

784, 786 (1884); First Empire Bank-New York v. FDIC, 572 F.2d

1361, 1372 (9th Cir.)("First Empire I"), cert. denied, 439

U.S. 919 (1978).14

13. This rule bears similarity to the rule applicable in the
bankruptcy context that post-petition interest is not
available against an insolvent debtor. See Debentureholders

Protective Comm. of Continental Inv. Corp. v. Continental

Inv. Corp., 679 F.2d 264, 268 (1st Cir.), cert. denied, 459

U.S. 894 (1982). This is not surprising. Courts have looked
to bankruptcy law to "decipher the meaning of the ratable
dividend requirement of section 194." Texas American

Bankshares, Inc. v. Clarke, 954 F.2d 329, 338 n.10 (5th Cir.

1992).

14. Some courts have suggested that if a receiver is
unreasonable or vexatious in resisting a claim, or is at
fault in administering the trust, interest may be allowed for
the delay. See Fash v. First Nat'l Bank of Alva, Okl., 89

F.2d 110, 112 (10th Cir. 1937) (citing cases). The
plaintiffs have not shown that these exceptions apply. The
case upon which the plaintiffs rely for the proposition that
post-insolvency interest is available here, First Empire

Bank-New York v. FDIC, 634 F.2d 1222 (9th Cir. 1980) ("First

Empire II"), cert. denied, 452 U.S. 906 (1981), is

inapposite. That case drew a distinction between post-
insolvency interest as part of a claim against a bank (which
would not be allowed) and interest accruing from an
erroneously denied claim after the ratable amount was paid to
other creditors (which it did allow). Id. at 1224. The

plaintiffs, however, seek to include the interest as part of
the original claims against the Bank. They argue "the
general rule regarding post-insolvency interest does not

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29

The FDIC does not challenge the award of pre-

insolvency interest, but says the district court did not

distinguish between the portion of the award representing

pre-insolvency interest and the portion representing post-

insolvency interest. We prefer to allow the district court

to determine the appropriate amount on remand rather than

attempt to do it here.

2. Lopes and the Rileys.

Lopes and the Rileys were erroneously treated in

the interest calculation and that award should be adjusted.

The $200,485 interest award to the other plaintiffs

apparently includes $20,679.93 of interest on the mortgage

payments Lopes made for the condominium unit and $28,240.81

of interest on the payments the Rileys made. Those interest

amounts were calculated according to the same method employed

for the plaintiffs who borrowed from the Bank: the interest

was calculated from the date each loan installment payment

was made. This method was inappropriate for Lopes and the

Rileys since, with respect to the Bank and the other

defendants, Lopes and the Rileys parted with a lump sum at

the time of the purchase. Interest for Lopes and the Rileys

ought to have started accruing on the entire purchase price

control where the interest itself is part of the underlying
claim, as it is here." That type of post-insolvency interest
appears to be precisely the type of interest that First

Empire II said should not be allowed. Id.

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30

on the date the cash was transferred to the defendants, not

on the date the payments were made to the third party banks.

Because we cannot determine that amount on the present

record, on remand the district court should calculate the

appropriate interest to be awarded to Lopes and the

Rileys.15

D. Attorneys' Fees

1. The award.

The FDIC argues that the award of attorneys' fees

under section 410(a) violates the ratable distribution rule

because the claims for attorneys' fees were not "provable"

within the meaning of the National Bank Act at 12 U.S.C.

194 and case law construing that provision. See Interfirst

Bank-Abilene, N.A. v. FDIC, 777 F.2d 1092, 1097 (5th Cir.

1985); First Empire I, 572 F.2d at 1372. We disagree.

A claim is provable if at the time of the

insolvency there is a present cause of action. First Empire

15. It is also not entirely clear whether the district court
intended to include the interest awards to Lopes and the
Rileys in the order for rescissionary damages. The district
court denied Lopes and the Rileys rescissionary damages on
the 410(a)(1) claim. The court, however, added the full
$200,485 to the rescissionary damages award of $654,949 to
give a total award of rescission of $855,434. Although the
district court could have meant for Lopes and the Rileys to
benefit just from the interest component of that award, it is
unclear whether that was so intended, particularly since the
interest is treated as part and parcel of the rescissionary
damages award based on 410(a)(1) and the district court
appeared to deny Lopes and the Rileys an award under
410(a)(1). The district court should clarify this portion
of the award on remand.

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31

I, 572 F.2d at 1368 (citing Pennsylvania Steel Co. v. New

York City Ry. Co., 198 F. 721, 738 (2d Cir. 1912) ("Claims

which at the commencement of [equitable receivership]

proceedings furnish a present cause of action [are

provable].")). In this case, the plaintiffs were actively

pursuing their claims against the Bank at the time the Bank

became insolvent. At that time, there were claims not only

for rescission but also for attorneys' fees. Accordingly,

the claims for attorneys' fees were provable.

Relying on Interfirst, 777 F.2d at 1097, the FDIC

argues that attorneys' fees are not provable here because

there were no contractual provisions for attorneys' fees

between the plaintiffs and the Bank. According to the FDIC,

the absence of contractual contingency fee provisions for

attorneys' fees before the insolvency shows that no claims

for attorneys' fees existed before the insolvency. We reject

the FDIC's argument that the claims for attorneys' fees did

not exist prior to the insolvency because the contingency fee

agreement between the plaintiffs and their attorneys was not

executed until after the insolvency. The FDIC is aware that

the plaintiffs had an obligation to pay their attorneys, and

in fact did pay their attorneys substantial fees, during the

period prior to the insolvency. Plaintiffs' claims for

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32

attorneys' fees certainly did exist by statute, and did so

well before the insolvency.16

The FDIC also argues that the claims are not

provable because (1) there was no collateral fund to pay the

fees (only the general assets of the estate to be shared by

all unsecured creditors), and (2) the fees were not fixed and

certain at the time the suit was filed against the FDIC. But

the notion of provability is not the same as the rule of

ratable distribution. "Though related concepts, whether a

claim is provable under section 194, and whether a

distribution is 'ratable' represent two entirely different

inquiries." See Citizens State Bank of Lometa v. FDIC, 946

F.2d 408, 413 (5th Cir. 1991).

The existence of a collateral fund, while perhaps

relevant to ratable distribution, is not relevant to

determining provability; and the FDIC's argument that the

attorneys' fees must have been absolute, fixed, due and owing

for purposes of ratable distribution to be "provable" is not

correct. Id. (provability of claims is not equated to the

absolute, fixed, due-and-owing language which applies to the

concept of a "ratable distribution"). Even if the claims for

16. To the extent Interfirst suggests that statutory claims

for attorneys' fees should be treated differently than claims
based upon contract, see Interfirst, 777 F.2d at 1097 n.2

(stating that the state law providing for attorneys' fees
does not create a claim for purposes of applying the First

Empire I test), we disagree.

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33

attorneys' fees here were "contingent," which they are not, a

claim is provable if its "worth or amount can be determined

by recognized methods of computation." First Empire I, 572

F.2d at 1369. The lodestar approach to calculation of

attorneys' fees is a recognized method of computation.

Nevertheless the attorneys' fees award requires

modification. The rule of ratable distribution "requires

that dividends be declared proportionately upon the amount of

claims as they stand on the date of insolvency." Citizens

State Bank, 946 F.2d at 415. The amount of the claim that

has accrued at the time of insolvency is the basis for

apportionment of dividends. See Kennedy v. Boston-

Continental Nat'l Bank, 84 F.2d 592, 597 (1st Cir. 1936)

("The amount of the claim may be later established, but, when

established, it must be the amount due and owing at the time

of the declaration of insolvency, as of which time it is

entitled, with the claims of the other creditors, to a

ratable distribution of the assets of the bank."); see also

White, 111 U.S. at 787 ("It was clearly right . . . to

ascertain from the judgment how much was due on this claim at

the date of the insolvency, and make the distribution

accordingly."). The availability of attorneys' fees for an

unsecured creditor depends upon whether the fees accrued pre-

insolvency or whether they accrued post-insolvency. Those

incurred prior to the insolvency are recoverable while those

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34

incurred afterwards are not. Cf. Fash v. First Nat'l Bank of

Alva Okl., 89 F.2d 110, 112 (10th Cir. 1937) (post-insolvency

attorneys' fees not available).

We believe this situation is not only analogous to

requests for interest and other costs of collection, see

Interfirst, 777 F.2d at 1097 (relying on Ticonic to deny

post-insolvency attorneys' fees); Fash, 89 F.2d at 112

(treating interest and attorneys' fees under the same

principle); cf. also In re Continental Airlines Corp., 110

B.R. 276, 279-80 (Bankr. S.D. Tex. 1989) (drawing analogy

between attorneys' fees and post-petition interest), but also

is analogous to requests for attorneys' fees in the

bankruptcy context. Pre-petition attorneys' fees of

unsecured creditors against an insolvent debtor are generally

allowed under the bankruptcy code to the extent the

applicable state law so provides, and post-petition

attorneys' fees are generally not allowed. See, e.g., In re

Southeast Banking Corp., 188 B.R. 452, 462-64 (Bankr. S.D.

Fla. 1995) (denying under the bankruptcy code unsecured

creditors' attorneys' fees incurred post-petition but

allowing attorneys' fees incurred pre-petition); but cf. In

re United Merchants and Mfrs., Inc., 674 F.2d 134, 137 (2d

Cir. 1982) (unsecured creditor can recover collection costs

including counsel fees where such costs were a specifically

bargained-for term of a loan contract). Plaintiffs are

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35

entitled to attorneys' fees that had accrued as of the date

of the insolvency but are not entitled to attorneys' fees

following the insolvency.17 Because we are unable to

determine the amount of attorneys' fees accruing prior to the

insolvency, we leave that inquiry to the district court on

remand.

2. Fee enhancements.

The plaintiffs argue that they were entitled to

either a contingency fee enhancement or a results enhancement

to the attorneys' fee award. The district court's fee award

is reviewed for an abuse of discretion, see Brewster v.

Dukakis, 3 F.3d 488, 492 (1st Cir. 1993), and there was none.

As the plaintiffs concede, the argument for a

contingency enhancement in a statutory fee-shifting context

is a difficult one, even if the enhancement requested here is

based on state rather than federal law, in the aftermath of

City of Burlington v. Dague, 112 S. Ct. 2638, 2643 (1992)

(generally disapproving of contingency enhancements under

federal fee-shifting statutes).18 The Massachusetts courts

have stated that where the federal and state law causes of

17. The plaintiffs' motion, filed after oral argument, for
attorneys' fees incurred on appeal is therefore denied.

18. This is not a common fund situation. Cf. In re

Washington Public Power Supply System Securities Litigation,

19 F.3d 1291, 1299-1301 (9th Cir. 1993) (stating the
rationale of Dague did not apply in common fund cases and

that district court had the discretion to allow contingency
enhancements in common fund case).

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36

action are similar, the attorneys' fees "in both fora should,

for the most part, be calculated in a similar manner."

Fontaine v. Ebtec Corp., 613 N.E.2d 881, 891 (Mass. 1993).

The state law counterpart should not be construed to allow

such an enhancement absent direction from the state courts.

Plaintiffs have cited no state cases allowing a contingency

enhancement for a successful securities law action based on

the fee-shifting provision of section 410(a)(1) and we

decline to predict the creation of such a state law rule

here.

A results enhancement is also inappropriate. Such

an enhancement is a "tiny" exception to the lodestar rule.

See Lipsett v. Blanco, 975 F.2d 934, 942 (1st Cir. 1992).

The rates provided to the attorneys in this case "adequately

reflected the lawyers' superior skills and the superb results

obtained." Id.

E. Reconveyance to Defendants

In its damages order the district court provided

that plaintiffs accepting the rescission award reconvey the

units to all the defendants. The FDIC contends that the

district court abused its discretion in ordering the units

deeded to all the defendants rather than just to the FDIC.

The plaintiffs, who presumably are indifferent as to who

among the defendants gets the units, have not argued

otherwise. Where the debts owed on the units have been

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37

novated in the manner prescribed here, conveyance of the

units solely to the Bank might prejudice the rights of the

other defendants. The district court did not abuse its

discretion on this matter.

V. Conclusion

For the foregoing reasons, we affirm the district

court's judgment of liability but vacate and remand the order

on damages, novation, attorneys' fees and interest, as

discussed above, for further proceedings consistent with this

opinion. It is so ordered.

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