Post by Anthony J. Sebok
As I noted in my last post, some common law jurisdictions are still guided by an anachronistic hostility to the sale of lawsuits to strangers. But some, like Wisconsin, are much more liberal. For a proponent of the free alienability of litigation, liberal regimes pose a special challenge, which has to do with limits. When should the sale of lawsuits be limited? How should the rules governing limitations be designed?
Recently Judge Richard Posner decided a case where he found, under Wisconsin law, a reason to set aside the sale of a lawsuit. The facts led him to quote Karl Marx and William Gaddis, and the case, Carhart v. Carhart-Halaska Int’l, LLC, 2015 U.S. App. LEXIS 9497 (7th Cir., June 8, 2015), is worth reading for Posner’s sly commentary on what appears to be at first just another example of lawyering that is, as the British say, too clever by half.
The facts of Carhart are complex, and I will radically simplify them for this post. Halsaka and Carhart formed a company called CHI. CHI had a dispute with one of its counterparties, a firm called MRO. MRO sued CHI for breach of contract. This is where things get interesting. Carhart bought MRO’s suit against CHI for $150,000. Halaska, understandably upset about his partner’s betrayal, then caused CHI to sue Carhart for, among other things, self-dealing and breach of fiduciary duty. As Posner noted, near or at around the time Carhart bought MRO’s suit against CHI, CHI had no assets except its suit against Carhart. Thus, soon after CHI sued Carhart, it was declared insolvent and a receiver was appointed. The receiver, observing that CHI had no money to pay for a lawyer, did not did defend CHI against MRO’s suit, and Carhart (who owned the MRO suit) took a default judgment against CHI of $242,000. Then Carhart moved to enforce the default judgment and the court ordered a public auction of CHI’s only asset, the proceeds of which were to go to Carhart in partial satisfaction of the MRO default judgment. The only asset was, of course, CHI’s suit against Carhart. Only one person showed up at the auction to bid on the asset – Carhart! He bought CHI’s suit against himself for $10,000 (which he then gave to himself).
Finally, Halsaka showed up in federal district court asking to have the sale of the CHI suit against Carhart set aside. The Seventh Circuit opinion doesn’t reveal much about Halsaka’s legal argument, but I think it must have been something along the lines of, “WTF?” Posner put it this way: “Carhart was ingenious! [But] the question is whether his scheming was legal.”
Posner said no, and his reasoning helps explain when the sale of lawsuits should be barred. First, as Posner noted, the fact that Carhart was buying not one, but two, lawsuits should not in itself have made the court suspicious. “Today ‘trolldom’—the seeking of financial advantage by buying or otherwise obtaining a legal claim (as distinct from filing a legal claim in order to seek redress for injury)—thrives.” What should have raised judicial suspicions were the valuations that Carhart placed on the lawsuits he bought. Posner argued that Carhart had more information that anyone else who could buy or sell the lawsuits in this case. After all, he knew a lot about the original suit brought by MRO against CHI (since he was one of its two general partners); and he obviously knew a lot about the suit brought by CHI against himself. Further, he probably knew that, regardless of its face value, the value of MRO’s suit against CHI was worth only as much as the value of the suit brought by CHI against himself (since he knew – and perhaps was responsible for – that CHI had no other assets). If he knew all that, observed Posner, why did he pay $150,000 for a suit that was worth only $10,000?
Posner invoked a Wisconsin state law which allows “an execution sale to be set aside when ‘the price bid is so low as to shock the conscience of the court’” (quoting Wilson v. Craite, 60 Wis. 2d 350, 210 N.W.2d 700, 702 (Wis. 1973)) and allowed Halaska to take over CHI’s suit against Carhart. I suspect that Posner would have found a way to set aside this sale even in the absence of the specific Wisconsin doctrine; what really drove him, I believe, is the sense that Carhart had taken advantage of a “market failure” in the market for lawsuits to buy himself legal immunity at a price less than what a settlement objectively would have been worth had a third party been willing to buy the CHI lawsuit.
In some sense, Posner’s refusal to respect private transactions in Carhart may seem paternalistic, but it is very much in the tradition of other cases involving judicial intervention in the face of suspected market failure – for example, The T.J. Hooper and Boomer v. Atlantic Cement Co. Of course, as in those cases, much depends on whether the courts are correct that there has been a market failure. But the risk of getting the answer to that question wrong should not stop courts from asking the question at all.