Scavenger Sale Inves v. Bryant, Robert A. ( 2002 )

In the
United States Court of Appeals
For the Seventh Circuit
No. 01-3275
Scavenger Sale Investors, L.P.,
Plaintiff-Appellant,
v.
Robert Anthony Bryant,
Defendant-Appellee.
Appeal from the United States District Court
for the Northern District of Illinois, Eastern Division.
No. 99 C 3355--Morton Denlow, Magistrate Judge.
Argued April 8, 2002--Decided April 30, 2002
Before Bauer, Easterbrook, and Williams,
Circuit Judges.
Easterbrook, Circuit Judge. Scavenger
Sale Investors put up $2 million for
Robert "Tony" Bryant to use in buying tax
certificates at Cook County’s 1997 sale.
The county sells certificates to real
estate encumbered by unpaid tax liens.
The County gains because the back taxes
are paid by the proceeds of the sale; the
buyer of a certificate can make money if
the owner redeems it by paying the back
taxes (plus interest) to the certificate
owner, or by selling the property once
the redemption period has expired. Under
the loan agreement, Bryant was to repay
the principal and interest by December
21, 1998. When he did not pay, Scavenger
Sale Investors filed this suit on the
note under the diversity jurisdiction.
(Bryant is a citizen of Illinois;
Scavenger Sale Investors’ partners are
citizens of New Jersey, Pennsylvania, or
California.) The district court, acting
through a magistrate judge after consent
under 28 U.S.C. sec.636(c), rejected
Bryant’s defenses to payment and granted
summary judgment to Scavenger Sale
Investors, leaving open final calculation
of the unpaid balance. At this point the
parties settled their differences. They
agreed that the amount due was $1.6
million and that the district court would
enter a judgment for that sum (plus
interest at 15%, a substantial reduction
from the 40% rate in the note) unless
Bryant promptly paid $1 million (plus
interest at 12%) under a formula recited
in the agreement.
Scavenger Sale Investors preferred $1
million in hand to the uncertain prospect
of collecting $1.6 million through
citation proceedings. Bryant preferred
the discount to his chances on appeal.
(He could have challenged the grant of
summary judgment and attempted to win
outright, though with what hope of
success we do not know.) When Bryant
stopped making the scheduled payments,
Scavenger Sale Investors asked the
district court to enter the judgment for
$1.6 million, as the settlement agreement
provided. Bryant then welshed on his
promise, as well as on his payments, and
asked the court to give him the benefit
of the $1 million option even though he
had not satisfied its conditions.
Relying on Checkers Eight Limited
Partnership v. Hawkins, 241 F.3d 558 (7th
Cir. 2001), the magistrate judge
concluded that an obligation to pay $1.6
million on account of failure to pay $1
million would be a "penalty" forbidden by
Illinois law--and it is state law that
governs the interpretation and
enforcement of settlements in diversity
litigation. See Kokkonen v. Guardian Life
Insurance Co., 511 U.S. 375 (1994);
Jessup v. Luther, 277 F.3d 926 (7th Cir.
2002). The district court entered
judgment for $1 million (less payments
already made).
On this appeal Scavenger Sale Investors
asks us to overrule Checkers and hold
that settlement agreements are exempt
from the anti-penalty rule of contract
law, as several state courts have held.
See, e.g., Crosby Forrest Products, Inc.
v. Byers, 623 So. 2d 565 (Fla. App.
1993); Resolution Trust Corp. v. Avon
Center Holdings, Inc., 832 P.2d 1073
(Colo. App. 1992). But Checkers is a
recent decision, no Illinois court has
indicated skepticism about its holding,
and until some post-Checkers development
suggests that Illinois agrees with
Colorado and Florida, it would be
inappropriate for us to retread this
ground.
Still, it is essential to determine
whether a given difference in the amount
due is a "penalty." The district court
characterized the $1.6 million agreed
judgment as a $600,000 "penalty" for
Bryant’s failure to pay $1 million. Why
not say instead that the $1.6 million was
what Bryant owed on the note, and that
the $1 million option was a "discount"
for prompt payment, sparing Scavenger
Sale Investors the need to locate and
seize his assets? Everything depends on
which end of the telescope one looks
through. In contract law a "penalty" is a
payment that exceeds a reasonable
estimate of the loss from breach. E.
Allan Farnsworth, III Farnsworth on
Contracts sec.12.18 (2d ed. 1998).
Determining whether a liquidated-damages
clause is a penalty can be hard for the
same reason the parties thought it hard
to calculate actual damages in the first
place: what’s the benchmark against which
the stipulated damages will be compared
to determine whether they are a penalty?
Here the magistrate judge used $1 million
as the benchmark, but this amounts to
saying that all settlements entail
penalties, because parties resolve their
dispute for some fraction of the original
claim. Parties settle litigation with the
expectation that, if the deal falls
through, each side retains its legal
entitlements. A judgment in the amount of
the original legal entitlement can’t be
called a "penalty" for the collapse of
the settlement; it is instead the non-
penalty benchmark. So, here, the
benchmark is the original stakes of the
suit ($1.6 million accruing 40% annual
interest). Did this settlement agreement
provide for a penalty compared with
Scavenger Sale Investors’ entitlements
under Bryant’s 1997 note? The answer must
be no. We think it most unlikely that
Illinois would deem collection of the
full overdue balance on a note to be an
unenforceable penalty.
Whether a settlement is a discount--or
instead the greater judgment that results
from failure to settle is a penalty--is
an old dispute in litigation, but usually
heard in criminal rather than civil
cases. A defendant who pleads guilty
usually receives a lower sentence (often
a much lower sentence) than a person who
stands trial and is convicted of the same
charges. Is the lower sentence a discount
for saving the prosecutor’s resources
(and foregoing all chance of acquittal),
or is the higher sentence following trial
a penalty for the exercise of
constitutional rights? The answer always
given is that the penalty imposed
following trial is the lawful benchmark,
so that the lesser sentence for one who
pleads guilty is a discount. See, e.g.,
United States v. Klotz, 943 F.2d 707 (7th
Cir. 1991); United States v. Turner, 864
F.2d 1394, 1398-99 (7th Cir. 1989);
United States v. Long, 823 F.2d 1209,
1211-12 (7th Cir. 1987). This means that
if the plea bargain collapses the
sentence may exceed the original
agreement without penalizing the exercise
of any constitutional right. See Alabama
v. Smith, 490 U.S. 794 (1989);
Bordenkircher v. Hayes, 434 U.S. 357
(1978).
Applying this principle to civil cases
means that no sum less than or equal to
the judgment that would be entered
following a trial may be called a
"penalty." The outcome of litigation is
the lawful benchmark. Any lower
settlement is a discount, and to insist
that the full amount (that is, the
probable judgment) be paid if the
settlement falls through is not to insist
on or collect a "penalty" by comparison
to the party’s original legal
entitlements. In Checkers it was harder
to determine the likely outcome of trial,
and the parties never attempted to do so.
Checkers sought about $550,000 for breach
of contract, and defendants filed a
counterclaim for about $1.2 million. The
plaintiffs’ loss was easier to calculate
than the defendants’; the judge fixed the
plaintiffs’ entitlement at $380,000, and
while the defendants’ entitlement (if
any) was up in the air the parties
settled for a net payment of $250,000 to
plaintiffs. The agreement provided that
the amount would jump to $400,000 if
timely payments were not forthcoming. We
held that this structure created a
penalty. The $400,000 exceeded not only
the $250,000 discount offered in
settlement but also the $380,000, and
though this was the district judge’s
estimate rather than a final figure the
plaintiffs did not try to show that
recovery likely would have been higher.
Even $380,000 net in plaintiffs’ favor
was possible only if the counterclaim
were worthless. This may be why the
parties to Checkers never argued that the
stakes of litigation should be used as
the benchmark. But in this case they have
made such an argument--it is built into
the settlement agreement, which
quantifies the unpaid balance at $1.6
million--and when that outcome can be
determined it is a benchmark superior to
the discount offered as part of the
settlement.
In contract law a court asks whether
liquidated damages reasonably approximate
the actual damages from breach; in
settlement cases we ask whether the full
payment provided in the event the
settlement falls through reasonably
approximates the damages that the court
was likely to provide had the case been
litigated to conclusion. Here the agreed
judgment of $1.6 million plus 15%
interest from the date of the settlement
is less than the likely judgment of $1.6
million plus 40% interest, the
contractual rate. This is not a penalty
under ordinary contract principles.
Anexample makes this clear. A holds B’s
note for $1 million. A prefers cash in
hand to the chore of locating, seizing,
and selling B’s assets and makes B an
offer: for $750,000 paid the next day, A
will give B a release. The parties reduce
this agreement to writing. B does not pay
but argues that his maximum liability now
is $750,000--which A must collect by
locating, seizing, and selling assets. B
insists that the settlement reduces the
debt to $750,000, with a "penalty" of
$250,000 for nonpayment. Yet that would
be a silly way to understand the
transaction--and it would bring an end to
settlements of financial disputes,
because it would deprive creditors of the
benefit of such bargains. Instead the
note establishes A’s entitlement to $1
million, and only a demand for more could
be a penalty. Just so here. Bryant is
liable on a note, and only an agreement
to pay more than the sum due on that note
(plus interest) could be a penalty.
There remains the possibility that a
$1.6 million judgment would penalize
Bryant by denying him credit for the more
than $750,000 that he paid toward the $1
million settlement. The agreed judgment
does not provide one way or the other for
the handling of sums already paid. This
silence led the magistrate judge to say
that it denies Bryant any credit for his
payments. In that event the judgment
would indeed create a penalty; Scavenger
Sale Investors’ take would exceed the
amount it could have received by
prosecuting the litigation to conclusion.
But there is no good reason to read
silence in a draft judgment as denying
Bryant credit for payments made toward
the balance on the note. Silence is the
norm in judgments, which recite the
prevailing party’s legal entitlement
rather than the balance of an account. A
judgment debtor always receives credit
for any sums paid by him or third
parties. See Restatement (Second) of
Judgments sec.50(2) (1982). Nothing in
this judgment suggests a departure from
that norm. So Bryant receives credit
toward the $1.6 million (plus 15%
interest) for all payments he has made
since the settlement of April 2000, when
the $1.6 million figure was calculated,
and Scavenger Sale Investors is entitled
to the remainder. Bryant loses the
opportunity to challenge on appeal the
summary judgment decision, obtaining in
return a reduction in the interest rate
(from 40% to 15% per annum). It is a
normal commercial settlement, not a
penalty, and should have been enforced by
the district court.
The judgment is reversed, and the case
is remanded with instructions to enter
the judgment agreed by the parties in
April 2000.