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Virginia Corp. v. Russ

APRIL 7, 1975.




APPEAL from the Circuit Court of Cook County; the Hon. ABRAHAM W. BRUSSELL, Judge, presiding.


The plaintiff, Virginia Corporation, is engaged in the lending and investment business. In February, 1961, it arranged for the investment by the defendants in a loan of $1,032,000 to a developer, Vernon Sherman. In June, 1961, Sherman obtained a construction loan of $3,100,000 for the development of a residential country club from Service Savings & Loan Association (Service), a financial institution insured by the Federal Savings & Loan Insurance Corporation (FSLIC). Sherman then repaid $800,000 of the loan made to him through the plaintiff from a portion of the proceeds of the construction loan he obtained from Service. Sherman repaid the balance of the plaintiff's loan in January, 1962. The plaintiff then distributed to the defendants the principal sum of $1,032,000 plus a profit of $176,000.

In January, 1967, the FSLIC, as assignee of the rights of Service, brought an action in the Federal District Court against the plaintiff and 12 others, including two of the defendants, Kenneth Russ and Harry Prince, and Jerome S. Morris. The complaint alleged that the defendants conspired to induce Service by fraudulent means to make the $3,100,000 construction loan and to divert a portion of the proceeds from that loan in order to repay the real estate loan made to Sherman through Virginia Corporation. It alleged that the "Virginia Corporation loan" was arranged by the plaintiff, as the authorized agent for the investors in the loan, to provide Sherman certain "interim financing" and conditioned on Sherman's repayment of the loan from the proceeds of a subsequent loan which he received from Service. It alleged that the defendants agreed to cause Service to make the $3,100,000 construction loan to Sherman to obtain funds for the repayment of the Virginia Corporation loan at an interest rate of approximately 40% per year. It further alleged that the defendants "diverted" $800,000 from the loan by Service as a partial repayment of the "Virginia Corporation loan." The complaint specifically alleged that the acts committed by Virginia Corporation were done as the duly authorized agent of and in the course and scope of its employment by Russ and Prince.

The plaintiff denied it was a party to the conspiracy or fraudulent acts and filed a third-party complaint against the investors in the loan it had arranged with Sherman, seeking indemnification for any judgment recovered against it and for all expenses incurred by it in the defense of the case, including attorney's fees. The United States District Court dismissed the third-party complaint upon motion of certain of the third-party defendants. The dismissal order stated: "Motions of third-party defendants to dismiss and to strike the Third-Party Complaint are granted for failure to state a cause of action. Third-Party Complaint hereby dismissed as to all third-party defendants."

The case then proceeded to trial on the FSLIC's complaint; and on February 8, 1971, after a 5-week trial, a jury returned a verdict in favor of the plaintiff, absolving it of any liability to the FSLIC. Sherman, Jerome S. Morris and one other defendant were found jointly and severally liable to the FSLIC in the amount of $150,000.

Virginia Corporation then filed this complaint in December, 1972, in the circuit court of Cook County against the investors in the loan to Sherman to recover its costs in defending its suit in the Federal District Court. The complaint alleged that the plaintiff had arranged the loan to Sherman as the authorized agent for the defendants and that acting in this capacity, upon consummation of the transaction, it had collected their investment and profits and distributed those sums to them. It was alleged that the Federal action arose out of this transaction.

Six of the 11 defendants moved to dismiss the complaint. The motions to dismiss alleged: (1) the complaint failed to state a cause of action; (2) the plaintiff's claim was not filed within the statute of limitations; and (3) the plaintiff's claim was barred under principles of res judicata by the dismissal of its third-party complaint in the Federal suit.

After considering briefs and arguments, the circuit court entered an order on June 14, 1973, directing the defendants to file documents or memoranda on the question of the sole ownership of Virginia Corporation by Jerome S. Morris. The documents submitted by the defendants Russ and Prince disclose that Morris was the sole shareholder of Virginia Corporation and its president.

The trial court dismissed the complaint on September 17, 1973, for two reasons: (1) the Federal District Court's order was an adjudication upon the merits; and consequently, Virginia Corporation's claim was barred under the doctrine of res judicata; and (2) because Morris was the sole shareholder of Virginia Corporation the plaintiff was his alter ego. Consequently, the finding against Morris in the Federal District suit was in effect a finding of culpability on the part of Virginia Corporation.

• 1 At the outset, we note that it is recognized by all parties that, as a general proposition, an agent who is himself guilty of no illegal conduct may be indemnified by his principal for "expenses of defending actions by third persons brought because of the agent's authorized conduct." Restatement (Second) of Agency § 439 (1958); see also Mechem, A Treatise on the Law of Agency § 1603 (2nd ed. 1914); First National Bank v. Tenney, 43 Ill. App. 544.

The third-party complaint alleged that the plaintiff was not guilty of any illegal conduct and that it acted as agent for the investors-defendants. It prayed for the amount of money the plaintiff would be required to pay for a judgment in favor of FSLIC, and accounting and "all expenses, including attorney's fees, incurred by [the plaintiff] in defending itself against the charges" of the FSLIC. The memorandum order of dismissal discloses the reasoning of the Federal District judge:

1. If the agent himself is guilty of illegal conduct he may not be indemnified.

2. The only way FSLIC could recover from the plaintiff would be by proving that the plaintiff was ...

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