Even “Nominal” Defendants Must Participate in Lawsuits

July 20, 2022

A recent Sixth Circuit Court of Appeals case highlights the importance of defendants actively participating in lawsuits even when named as a seemingly nominal defendant.

When property is in dispute, the owner is often not the only party with an interest in the property. Mortgagees, tenants, and other lienholders may have an interest in a piece of property, and thus they often are named as defendants in lawsuits involving property. The plaintiffs in cases involving property may not have direct claims against tenants and other lienholders. Thus, lienholders sometimes view themselves as nominal parties as opposed to necessary ones. The Sixth Circuit’s Business Development Corporation of South Carolina v. Rutter & Russin LLC, highlights the importance of lienholders actively participating in litigation involving property they have an interest in.

Lienholder Loses Out on Property Rights

In Business Development Corp., a lienholder learned the hard way it should have actively participated in litigation it had a property interest in. The Sixth Circuit case was essentially a collateral attack against an underlying state court case where Business Development Corp. of South Carolina lost out on its property interest rights.

The underlying case was filed in state court in Ohio’s Cuyahoga County Common Pleas. The dispute was over a home insurance claim where two homeowners sued their insurance carrier, State Farm, for denying a claim for a frozen water pipe and subsequent water damage to their home. The homeowners sued State Farm for breach of contract and bad faith, naming State Farm and three mortgagees (all banks). The mortgagee defendants had an interest in the litigation because their collateral, the house, was in dispute. Business Development Corp. was one of the banks named in the lawsuit but viewed itself as a “nominal party.” One of Business Development’s Corp.’s attorneys asked that the other parties’ attorneys keep it informed of the litigation. However, Business Development Corp. never had any attorney file an appearance in the state court action, and it never filed an answer to claim its interest in the dispute. The homeowners and State Farm eventually worked out a settlement and included the two other lenders in the settlement to make sure their mortgages were paid off. The homeowners specifically requested the Court to exclude Business Development because it had not actively participated in the litigation. The Court granted the request by order.

Appeals Court Upholds Decision

Thirteen months after the state court ordered that Business Development Corp. had no rights to funds from the settlement, Business Development Corp. filed suit in the Ohio Northern District Court against State Farm and the law firms that represented State farm and the homeowners, claiming “abuse of process,” claims for fraud, and claims that had already been decided in the underlying litigation. The Northern District dismissed the lawsuit under Ohio’s claim-preclusion doctrine which bars relitigating a lawsuit when a party had a prior opportunity in court. The Ohio Sixth Circuit agreed, holding that it would not overrule the Ohio state court’s decision.

The Sixth Circuit points out throughout its opinion that Business Development Corp. should have filed a motion for relief from judgment in state court under Ohio Civil Rule 60(B). This would have allowed the state court to change its order allowing the parties to exclude Business Development from any settlement. The bank’s failure to do this precluded any possible relief it could receive.

Failing to Participate in Litigation can have Serious Consequences

This case is a classic example of the pitfalls that can happen when parties named as defendants in lawsuits do not think they need to participate in the litigation. All the bank had to do was appear in the state court action and participate in the litigation to protect its mortgage. Its failing to do so lost out on its rights to any proceeds.

For further questions or clarifications on property interests and related disputes, please contact Jeffrey R. Vaisa at (JRV@kjk.com; 216.736.7287). or another attorney within KJK’s Litigation & Arbitration practice group.