In Diversity Action, Necessary Party Status Determined by Federal Law — Error to Award Attorneys’ Fees for Entire Action as Rule 11 Sanction Rather Than for Period when Claimant Should Have Realized Claim Was Frivolous

From Dearborn Street Building Assocs. v. Silverman & Morris, PLLC, 2011 U.S. App. LEXIS 3287 (6th Cir. Feb. 17, 2011):

In diversity cases, the question of whether an individual or entity is a necessary party is a procedural question governed by federal law. See Hooper v. Wolfe, 396 F.3d 744, 749 n.4 (6th Cir. 2005) (citing Provident Tradesmens Bank & Trust Co. v. Patterson, 390 U.S. 102, 125 n.22 (1968)); see also Scenic Holding, LLC v. New Board of Trs. of Tabernacle Missionary Baptist Church, Inc., 506 F.3d 656, 668-69 (8th Cir. 2007) (Bye, J., concurring in part and dissenting in part) (error to view joinder as a question of state substantive law rather than federal procedural law); Shetter v. Amerada Hess Corp., 14 F.3d 934, 937-38 (3d Cir. 1994) (error to conclude that party was necessary to diversity action based on state statute mandating joinder).

[T]he district court granted Huntington's motion for Rule 11 sanctions, holding that Dearborn's lawsuit against the bank had been frivolous because (1) Huntington was not a necessary party; (2) Dearborn's pleadings failed to set forth viable claims; (3) Dearborn failed to conduct discovery or otherwise prosecute its action; and (4) Dearborn failed to respond to Huntington's motion for summary judgment. Citing the need to deter similar misconduct, the district court found Dearborn and Silverman & Morris jointly and severally liable for attorney fees in the amount of $14,073.39, representing all of the attorney fees and expenses that Huntington incurred during the litigation.***

Dearborn argues that the district court erred in imposing sanctions because Rule 11 does not authorize sanctions for failing to conduct discovery or respond to dispositive motions. This argument is unsupportable. Although Rule 11 "does not apply to disclosures and discovery requests, responses, objections, and motions," Jones, 617 F.3d at 856, and "does not provide sanctions for failing to prepare and sign a document," MGIC Indem. Corp. v. Moore, 952 F.2d 1120, 1121 (9th Cir. 1991), Rule 11 sanctions are nonetheless proper where, as here, instead of withdrawing a complaint or agreeing to dismissal, a plaintiff "continued to litigate after it became clear that his claim was frivolous, unreasonable or without foundation."***

[B]ecause Rule 11 carefully assigns responsibility between represented parties and their counsel, only attorneys may be held liable where the basis of a sanctions award is the frivolousness of a party's legal position. See Fed. R. Civ. P. 11(c)(5)(A).

Because Dearborn's pleadings were unsupportable due to their lack of evidentiary support, which constitutes a violation of Rule 11(b)(3), the district court did not abuse its discretion in finding Dearborn and Silverman & Morris jointly and severally liable for sanctions. See Fed. R. Civ. P. 11(c)(5) (immunizing represented parties only where the basis for sanctions is Rule 11(b)(2)). Furthermore, because Rule 11 expressly provides that attorney fees may serve as a form of sanctions where "imposed on motion and warranted for effective deterrence," Rentz, 556 F.3d at 395 (citing Fed. R. Civ. P. 11(c)(4)), the district court did not abuse its discretion in finding that attorney fees were proper.

However, with respect to the sanctions amount, we conclude that the district court erred when it calculated Huntington's attorney fees from the date that Dearborn initiated its action. Because sanctions can have the effect of "chill[ing] vigorous advocacy," ... this Court has limited sanctions to "the point in time at which [plaintiffs] should have realized that their claims were frivolous and the lawsuit should have been voluntarily dismissed." Garner v. Cuyahoga Cnty. Juvenile Ct., 554 F.3d 624, 643 (6th Cir. 2009) (discussing sanctions under 28 U.S.C. § 1927). In the instant case, we believe that while Dearborn's action against Huntington may have been proper at the time of filing, see, e.g., Fed. R. Civ. P. 11(b)(3) (explaining that the evidentiary foundation of claims may be fleshed out through discovery); Black Hills Inst. of Geological Research v. S.D. Sch. of Mines & Tech., 12 F.3d 737, 745 (8th Cir. 1993) (stating that joinder is sanctionable only when "baseless or lacking in plausibility"), Dearborn probably should have realized that its claims against Huntington were unsupportable and amended or withdrawn its complaint around February 18, 2008, when it received Huntington's complete file on the Remembrance Road transaction, reviewed its contents, and declined to conduct further investigation or discovery.

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