Duty of Reasonable Inquiry does not include Bankruptcy Search

Like many attorneys, I’ve experienced the uncomfortable feeling of being blindsided by a previously unknown fact that a client should have told me being raised in litigation. The recent opinion issued by the Michigan Court of Appeals in Food Solutions Inc v Haggard (docket # 294206 released 11/09/10) demonstrates how unknown facts can also be dangerous to an attorney’s bank account. In that case, the Defendant filed bankruptcy four days prior to his attorney filing an answer to a creditor’s complaint. After the bankruptcy filing was discovered, the defense attorney was sanctioned almost $2,500 pursuant to MCR 2.114(E) for not knowing about the bankruptcy.

Thankfully, the Court of Appeals reversed the sanction by holding that the duty of reasonable inquiry does not extend to a determination of a bankruptcy filing. However, it brings up a good point and one can be addressed in a “client obligations” paragraph within the retainer agreement. Clients need to be advised of their obligation to not hide unfavorable facts from their lawyer. I believe the retainer agreement provides the perfect opportunity to make sure this point is covered and documented.

Non-Dischargeable Default Judgments - An Opportunity and a Trap

An issue is presently pending before Judge Opperman in the United States Bankruptcy Court regarding the collateral estoppel effect of a “true default judgment” (ie- one entered after a defendant fails to appear or defend). Judge Opperman is expected to issue an opinion that will provide substantial guidance to area state court litigators in thinking ahead as to the potential that a default judgment may be entitled to collateral estoppel effect in a subsequent non-dischargability adversary proceeding.


The pending case before Judge Opperman is First American Title Company v Chambers, Adversary Proceeding # 09-02044-dob. There, the defendant was sued in Midland County Circuit Court on a three count complaint which included a fraud count along with counts for breach of warranty and contract. The defendant did not answer and a default judgment was entered via the standard SCAO form. The question is whether this form judgment can be deemed a determination that fraud was both “actually litigated” and “necessarily determined” by the state court and thus be afforded collateral estoppel effect.


The best advice for creditor attorneys seeking non-dischargability (at least until an opinion is issued by Judge Opperman) is to take an extra step when seeking a state court default judgment and obtain a judgment that specifies that fraud is the basis for both the liability and the damages. I believe it is very likely that a creditor will meet the collateral estoppel test by filing a motion for entry of a default judgment specifying that the default judgment is requested on the fraud count. Taking this action is likely to satisfy both the “actually litigated” and “necessarily determined” aspects of collateral estoppel.


For debtors, there is a large potential for being unwarily trapped in a non-dischargeable judgment. A debtor may not contest a case as they know they owe money. However, it is one thing to owe money and quite another to have engaged in fraudulent conduct that would justify the denial of a bankruptcy discharge.

Bankruptcy Discharge of Litigation Debts

An understanding of whether a debt is dischargeable in bankruptcy is essential to a business and commercial litigator for at least three reasons - - (1) to structure the claims being brought in the complaint; (2) to evaluate the credibility and risk of a threat to file bankruptcy and (3) to evaluate and structure settlements. Fortunately, it is not hard for a non-bankruptcy litigation attorney to obtain a working knowledge of the dischargability of debts in bankruptcy.

Exceptions to discharge are laid out at 11 USC § 523. The exceptions that most commonly arise in the context of a commercial or business litigation are contained in the following subsections:

(a)(2) – obtaining money, property, services, or credit by false pretenses or fraud;

(a)(4) – for fraud or defalcation while acting as a fiduciary, embezzlement or larceny; and

(a)(6) - for willful and malicious injury.