Opinion
No. 59946-1-I.
June 2, 2008.
Appeal from a judgment of the Superior Court for King County, No. 05-2-33958-6, Andrea A. Darvis, J., entered March 28, 2007.
Affirmed by unpublished opinion per Dwyer, A.C.J., concurred in by Grosse and Agid, JJ.
Orthodontic Centers of Washington, Inc. (OCS) and Orthodontic Centers of America, Inc. (OCA) entered into a Business Services Agreement (BSA) with Dr. Cornelius Nicholson, DDS, and Cornelius A. Nicholson, P.C. Nicholson commenced an action in King County Superior Court against the corporation, which asserted multiple counterclaims in itsanswer. The superior court later dismissed all claims and counterclaims, ruling that the BSA constituted the unlawful practice of dentistry under Washington law. The dismissal was granted in response to Nicholson's summary judgment motion, which also requested declaratory relief from any obligations under the BSA.
OCS and OCA are collectively referred to as the corporation.
Dr. Cornelius Nicholson, DDS, and Cornelius A. Nicholson, P.C., are collectively referred to as Nicholson.
Nicholson initially claimed breach of contract, breach of duties of good faith and fair dealing, breach of fiduciary duties, tortious interference with a business relationship or expectancy, and violation of the Consumer Protection Act (chapter 19.86 RCW). The corporation's counterclaims alleged breach of contract, detrimental reliance, tortious interference, and unjust enrichment. Neither party initially asserted that the BSA was illegal.
The superior court's memorandum decision and order granting Nicholson's motion for summary judgment explicitly states that the BSA violated Washington law, but it does not expressly order the dismissal of any claims. However, the court refers to the order as one which grants "PLAINTIFFS' MOTION FOR SUMMARY JUDGMENT." The record indicates that plaintiff Nicholson's motion for summary judgment requested the dismissal of Nicholson's claims as well as the corporation's counterclaims.
The corporation appeals, contending that the trial court erred by not giving effect to the BSA's severability provision. The corporation also alleges that the doctrine of in pari delicto is not applicable given that the corporation had a bankruptcy petition pending at the time of Nicholson's summary judgment motion and that, accordingly, the corporation's claim of unjust enrichment should not have been dismissed. The corporation also contends that, by dismissing its counterclaims, the superior court exceeded its authority under the bankruptcy court's order granting relief from stay, which allowed Nicholson to "prosecute to final judgment . . . pre-petition actions brought by or against the Debtors" as to whether the BSA was "void ab initio, illegal and/or unenforceable on their faceunder applicable state law."
The corporation also argues that the trial court should have allowed for an accounting between the parties. But the corporation did not request an accounting in either its initial pleading or in its brief in response to Nicholson's motion for summary judgment. We will not consider a request for affirmative relief that was not properly advanced to the trial court. RAP 2.5; Jane Doe v. Corp. of President of Church of Jesus Christ of Latter-Day Saints, 122 Wn. App. 556, 568, 90 P.3d 1147 (2004) (citing Martin v. Mun. of Metro. Seattle, 90 Wn.2d 39, 42, 578 P.2d 525 (1978)).
We conclude that the trial court did not exceed its authority in dismissing the corporation's counterclaims. We also reject the corporation's contention that the in pari delicto doctrine should not apply merely because the corporation filed for bankruptcy after the parties executed the BSA. It has long been established that contracts that violate public policy are void and unenforceable, even where the parties acted in good faith. Accordingly, we affirm.
I
Orthodontic Centers of Washington, Inc., is a subsidiary of Orthodontic Centers of America, Inc., which provides business and administrative services for orthodontists and dentists throughout the United States. In 1996, the corporation and Nicholson entered into the BSA. Under the BSA, the corporation agreed to provide a range of office and business services. As the superior court correctly observed in its memorandum and order granting summary judgment, the BSA
The parties agreed to amend the BSA via a "Revised Operating Agreement" a few months after initially entering into the BSA. References to the BSA incorporate the content of the Revised Operating Agreement.
required Dr. Nicholson to use the same computer, management information, and business operating systems as other OCA affiliates, to maintain certain office hours, and to implement a uniform and dress code established by OCA. OCS assumed responsibility for recruiting and employing all staff required for the orthodontic practice's operations, with the exception of the orthodontist himself, albeit with the proviso that staffing levels, staff compensation and hiring, and termination of staff would require the approval of the orthodontist. OCS assumed responsibility for all billing and collection on behalf of the orthodontic practice, and was given signatory authority over the practice's bank account. OCS shared ownership of the orthodontic practice's revenues and liabilities. The BSA provided that OCS was to purchase the orthodontic practice's accounts receivable each month. OCS also assumed responsibility for making all disbursements from the orthodontic practice's bank account. OCS acquired ownership of certain of the orthodontic practice's assets, such as office furniture, fixtures, orthodontic equipment, orthodontic chairs, x-ray unit, wallpaper, carpet and plants, and leased these back to Dr. Nicholson's Professional Services Corporation.
Nicholson agreed to reimburse expenses incurred by the corporation and to pay the corporation a "Base Consulting Fee" of $22.22 per "Patient Hour," as well as 50 percent of the practice's Net Operating Margin.
The BSA defined "Patient Hour" as "each hour of operation of the [practice] during which patients are being treated."
The Revised Operating Agreement defined the Net Operating Margin as the orthodontic office's gross revenues less the center expenses, the orthodontist's base compensation, the base consulting fee, and repayment of 50 percent of the cost of furniture, fixtures, equipment and leasehold improvements amortized over 60 months with interest accruing from the date of disbursement of 1.5 percent above the prime rate.
In October 2005, Nicholson commenced this action. The corporation filed an answer in which it asserted various defenses and counterclaims. Neither party's initial pleading included an assertion that the BSA was illegal. In March 2006, the corporation filed joint petitions for relief under the Bankruptcy Code. In August 2006, the bankruptcy court orally granted Nicholson's request for relief from the bankruptcy court's automatic stay of proceedings to permit Nicholson to seek a state court determination of the illegality of the BSA under Washington law. On September 11, 2006, the bankruptcy court entered a written order memorializing its oral ruling. This order states that Nicholson may
take all steps necessary to prosecute to final judgment in those certain pre-petition actions brought by or against the Debtors . . . only the claims regarding whether the contracts between the parties, including specifically the Business Service Agreements (as may have been amended), are void ab initio, illegal and/or unenforceable on their face under applicable state law. . . .
(Emphasis added.)
Nicholson then moved the superior court for an order on summary judgment declaring the BSA to be illegal and dismissing all parties' claims for affirmative relief. The superior court granted the motion. The corporation appeals.
II
The corporation first contends, without supporting authority, that its counterclaims were stayed by the filing of its petition for bankruptcy and that the bankruptcy court's order modifying the stay permitted the trial court to determine only the illegality of the contract under Washington law. By dismissing its counterclaims, the corporation argues, the trial court exceeded the authority granted by the bankruptcy court's order. We disagree.
The parties do not dispute that an automatic stay pursuant to 11 U.S.C. § 362(a) was triggered when the corporation filed for bankruptcy. An automatic stay prevents creditors from collecting against a debtor during the pendency of a bankruptcy proceeding. Crafts v. Pitts, 161 Wn.2d 16, 22 n. 3, 162 P.3d 382 (2007) (citing 11 U.S.C. § 362).
Nicholson contends that the trial court's actions were consistent with the bankruptcy court's order. We agree. The bankruptcy court's order provided that Nicholson was permitted to "take all steps necessary torosecute to final judgment in those certain pre-petition actions broughtby or against the Debtors" claims that could be disposed of based on a determination as to whether theBSA was void and unenforceable under Washington law. (Emphasis added.) Accordingly, the superior court, by dismissing the corporation's counterclaims based on its ruling that the contract was illegal and unenforceable, acted consistent with the bankruptcy court's order.
III
The corporation next contends that, even if the trial court properly found the contract to be illegal, the trial court should nevertheless have considered the corporation's claim of unjust enrichment rather than choosing to deny affirmative relief to either party, in essence, "leaving the parties where it found them." Specifically, the corporation contends that the in pari delicto doctrine should not apply because the corporation had filed for bankruptcy.
"The legality of an agreement is a question of law that is reviewed de novo." Fallahzadeh v. Ghorbanian, 119 Wn. App. 596, 601, 82 P.3d 684 (2004) (citing Morelli v. Ehsan, 110 Wn.2d 555, 558, 756 P.2d 129 (1988)). "Under RCW 18.32.020(3), any person who 'owns, maintains or operates an office for the practice of dentistry' is engaged in the practice of dentistry. Unlicensed persons and entities may not engage in the practice of dentistry." Fallahzadeh, 119 Wn. App. at 601 (citingState v. Boren, 36 Wn.2d 522, 531, 219 P.2d 566 (1950)). "This prohibition extends to most other learned professions, such as law, medicine, and optometry, in which it is considered harmful to the welfare of the public to permit unlicensed persons and entities to share a beneficial interest in a professional service entity." Fallahzadeh, 119 Wn. App. at 601 (citing Morelli, 110 Wn.2d at 559).
Washington courts have long recognized the ills of the corporate practice of dentistry.
"[P]rofessional standards would be practically destroyed, and professions requiring special training would be commercialized, to the public detriment. The ethics of any profession is based upon personal or individual responsibility. One who practices a profession is responsible directly to his patient or his client. Hence he cannot properly act in the practice of his vocation as an agent of a corporation or business partnership whose interests in the very nature of the case are commercial in character."
Boren, 36 Wn.2d at 528 (quoting Ezell v. Ritholz, 188 S.C. 39, 198 S.E. 419, 424 (1938)).
"When a court determines that an agreement is void against public policy, the rule is to leave the parties in the positions where the court finds them, even if they acted in good faith." Fallahzadeh, 119 Wn. App. at 605 (citing Morelli, 110 Wn.2d at 562). "'If the parties are not in pari delicto, however, the less culpable party may maintain an action based on an illegal contract.'" Fallahzadeh, 119 Wn. App. at 605 (emphasis added) (quoting Morelli, 110 Wn.2d at 562). Nicholson relies on Fallahzadeh and Morelli for the proposition that the trialcourt correctly ruled that the corporation was not entitled to affirmative equitable relief.
The corporation cites to an unpublished decision in which a federal district court, interpreting Texas law, held that "good intentions" and the "paucity of law" interpreting the Texas statute in question favored allowing a party to assert a claim for unjust enrichment based on a contract that was illegal and unenforceable. Penny v. Orthalliance, Inc., noted at No. Civ.A. 301CV1569N, 2003 WL 21640570 (N.D. Tex. 2003). Effective September 1, 2007, Washington's General Rule 14.1(b) permits parties to cite unpublished decisions from jurisdictions other than Washington, provided that the courts of the jurisdiction cited would permit citation to the decision. The Fifth Circuit Court of Appeals permits the citation of unpublished opinions. 5th Cir. R. 47.5.4.
Penny, however, is unpersuasive. That court interpreted Texas law, not Washington law. And, unlike Texas, where there is apparently a "paucity of law," in Washington there is controlling authority that explicitly rejects the application of a good faith exception to the in pari delicto doctrine.
In Fallahzadeh, a licensed dentist entered into a lease agreement whereby the landlord, who was not a dentist, leased a building to the dental practice in exchange for rent in the amount of 50 percent of the dentistry practice's net profits. The practice also employed the landlord as the practice's office manager. Thus, the landlord had check-writing authority and access to the practice's bank accounts. Fallahzadeh, 119 Wn. App. at 600. The dentist, concerned about withdrawals made from the practice's bank accounts by the landlord, terminated the landlord's employment as office manager. Fallahzadeh, 119 Wn. App. at 600. The landlord then filed an unlawful detainer action against the practice.Fallahzadeh, 119 Wn. App. at 600. The dentist raised the illegality of the dentist-landlord agreement as a defense. Fallahzadeh, 119 Wn. App. at 600.
On appeal, we held that the agreement was an illegal one and declined "to effect a judicial disposition of the parties' debts, entitlements, or obligations," noting that the parties "entered into this agreement willingly and with full knowledge of its provisions" and that there was no evidence that the parties were not in pari delicto. Fallahzadeh, 119 Wn. App. at 605.
In Morelli, a doctor and a non-doctor were general partners who equally shared in profits and losses of an emergency medicine and family care clinic. Both partners had equal rights in the management of the partnership business.
Morelli, 110 Wn.2d at 556. Both partners were obliged to advance funds to keep the business going. The non-doctor's additional $75,000 in contributions to the clinic were characterized as loans to the partnership and evidenced by a series of promissory notes, signed by the partners as co-makers. Eventually, the partners had a falling out and the non-doctor petitioned the court for dissolution of the partnership and for an accounting. The doctor moved to dismiss the complaint, arguing that the partnership agreement was illegal and void. Morelli, 110 Wn.2d at 557.
Our Supreme Court ruled that the partnership agreement was illegal and, thus, the court could not grant the request for an accounting or distribution of assets. Morelli, 110 Wn.2d at 563-64. The Supreme Court explained that "neither party had an illegal intent to form or conduct an illegal business partnership. Nevertheless, the partnership was illegal; good faith intentions do not excuse either party from knowing the law."Morelli, 110 Wn.2d at 562. Creating a good-faith exception to this rule "completely undermines the purpose of the rule — deterrence. There is no deterrence from violating a law if parties may claim both were ignorant of the law." Morelli, 110 Wn.2d at 562. "If the court had granted [the non-doctor] affirmative relief . . . the parties would be using the court to enforce their illegal partnership agreement." Morelli, 110 Wn.2d at 563.
The corporation attempts to distinguish Fallahzadeh and Morelli based on the fact that none of the parties in those cases were in bankruptcy. The corporation cites to Danzig v. Danzig, 79 Wn. App. 612, 904 P.2d 312 (1995), for the proposition that a court must consider the nature of the parties in determining whether they are in pari delicto.
In Danzig, two brothers, only one an attorney, had a fee-sharing arrangement. The attorney-brother agreed to share with the non-attorney brother fees earned on cases referred to the attorney by the non-attorney. 79 Wn. App. at 615-16. Ultimately, the non-attorney sued the attorney, alleging breach of contract. The trial court dismissed the claim, ruling that the contract was illegal and unenforceable under Washington law, which prohibits attorneys from soliciting employment.Danzig, 79 Wn. App. at 616. On appeal, the court ruled that the trial court erred by so ruling. The appellate court held that the brothers were not in pari delicto because the statute at issue only prohibited the conduct of the attorney-brother. Danzig, 79 Wn. App. at 618.
In this case, however, unlike in Danzig, the statute at issue prohibits the conduct of both parties. The fact that the corporation later filed for bankruptcy does not change this. The remaining cases cited by the corporation are similarly unavailing. See F.D.I.C. v. O'Melveny Myers, 61 F.3d 17, 19 (9th Cir. Cal. 1995) (claim was asserted by a receiver);Scholes v. Lehmann, 56 F.3d 750, 754-55 (7th Cir. Ill. 1995) (claim was asserted by a receiver); Adelphia Commc'ns Corp. v. Bank of Am. N.A., 365 B.R. 24, 31, 47-49 (Bankr. S.D.N.Y. 2007) (claim was asserted by creditors' committee and equity committee). As the court in Scholes noted, "the defense of in pari delicto loses its sting when the person whois in pari delicto is eliminated." 56 F.3d at 754. Thus, "[t]he appointment of the receiver removed the wrongdoer from the scene."Scholes, 56 F.3d at 754. The receiver's "only object is to maximize the value of the corporations for the benefit of their investors and any creditors." Scholes, 56 F.3d at 755.
Here, however, unlike the innocent claimants in the cases to which the corporation cites, the corporation stands in its own shoes and is the party who was in pari delicto. The cited cases are inapposite. The corporation and Nicholson entered into the BSA willingly and with full knowledge of its provisions. The fact that the corporation petitioned for bankruptcy after the parties operated under the BSA does not render the in pari delicto doctrine inapplicable. The trial court properly "left the parties where it found them."
IV
The corporation, relying on the contract's severability and modification provisions, next contends that the trial court erred by not identifying which provisions of the contract are unenforceable and allowing the balance of the agreement to remain in force. The corporation suggests that because the trial court noted that a beneficial interest in the practice's profits was a key factor in determining whether the agreement is illegal, the trial court should have severed Page 12 that portion of the contract that awarded the corporation 50 percent of the net operating margin and thereby preserved the remainder of the agreement. While conceding that Fallahzadeh and Morelli hold that contracts in violation of public policy are void and unenforceable, the corporation nevertheless contends that those cases do not control because the agreements at issue in those cases did not contain severability clauses. We disagree.
The BSA states that "[t]he provisions of this Agreement shall be deemed severable and if any portion shall be held invalid, illegal or unenforceable for any reason, the remainder of this Agreement shall be effective and binding upon the parties." The BSA also states:
Contract Modifications for Prospective Legal Events.
In the event any state or federal laws or regulations, now existing or enacted or promulgated after the effective date of this Agreement, are interpreted by judicial decision, a regulatory agency or legal counsel for both parties in such a manner as to indicate that the structure of this Agreement may be in violation of such laws or regulations, the PC and OCS shall amend this Agreement as necessary. To the maximum extent possible, any such amendment shall preserve the underlying economic and financial arrangements between the PC and OCS.
The cases cited by the corporation in support of this contention are inapposite. See Adler v. Fred Lind Manor, 153 Wn.2d 331, 103 P.3d 773 (2004); Zuver v. Airtouch Commc'ns, Inc., 153 Wn.2d 293, 103 P.3d 753 (2004); Mt. Park Homeowners Ass'n, Inc., v. Tydings, 125 Wn.2d 337, 883 P.2d 1383 (1994). None of these cases involved an agreement that was held to be void as violating public policy.
"If an agreement is void, it is by definition not a contract. Rather than saying that a contract is void, it would be more exact to say that no contract has been created. . . . The result is that the contract is of no effect, is null, and is incapable of being enforced." 25 David K. DeWolf Keller W. Allen, Washington Practice: Contract Law and Practice § 1.7, at 12 (2nd ed. 2007). "'[T]he law neither gives [parties to a void contract] a remedy nor otherwise recognizes a duty of performance by the promisor," because "such a promise is not a contract at all.'" Golden Pisces, Inc. v. Fred Wahl Marine Constr., Inc., 495 F.3d 1078, 1081 (9th Cir. Or. 2007) (quoting Restatement (Second) of Contracts § 7 cmt. a (1981) in distinguishing between contracts that are void as opposed to divisible or voidable); accord Vedder v. Spellman, 78 Wn.2d 834, 839-40, 480 P.2d 207 (1971) (Neill, J., concurring) (noting the difference between contracts that are null and void and contracts that are merely unenforceable by certain parties). Because the BSA violates public policy, it is void. Thus, no part of it, Page 13 including a severability clause, can be enforced.
Moreover, the corporation's contention that severing the revenue-sharing provision from the rest of the contract would cure the illegality fails to recognize that the contract contravenes Washington law not only because it gives the corporation a substantial share of the orthodontic practice's profits but also because it gives the corporation substantial management authority over the operation and maintenance of the practice. As the superior court observed, the corporation's "involvement in the orthodontic practice was extensive and pervasive."
V
Given that the BSA is void on the basis of illegality, neither party is "entitled to recover for losses thereunder." Reed v. Johnson, 27 Wash. 42, 56, 67 P. 381 (1901). A court will not "'degrade itself by an exertion of its powers, by shifting the loss from one to the other, or to equalize the benefits or burdens which may have resulted by the violation'" of the law. Reed, 27 Wash. at 56 (quoting Howell v. Fountain, 3 Ga. 176, 184 (1847)).
"An agreement that has a tendency 'to be against the public good, or to be injurious to the public' violates public policy," and "[a]n agreement that violates public policy may be void and unenforceable." Scott v. Cingular Wireless, 160 Wn.2d 843, 851, 161 P.3d 1000 (2007) (quoting King v. Riveland, 125 Wn.2d 500, 511, 886 P.2d 160 (1994) and citing Restatement (Second) Of Contracts § 178 (1981)). Agreements that are illegal because they violate the public policy of promoting the health and safety of this state's citizens require complete suppression. Red Devil Fireworks Co. v. Siddle, 32 Wn. App. 521, 525, 648 P.2d 468 (1982). In such cases, a court is to "leave the parties where it finds them." Red Devil Fireworks, 32 Wn. App. at 526. "[O]ne party frequently retains the benefit of an illegal contract. Unjust enrichment alone is an insufficient reason for the courts to assist in the enforcement of an illegalagreement." Evans v. Luster, 84 Wn. App. 447, 453, 928 P.2d 455 (1996) (footnote omitted). Accordingly, we affirm the trial court's order granting Nicholson's motion for summary judgment dismissal of both his claims for affirmative relief and the corporation's counterclaims for affirmative relief.