The opinion of the court was delivered by: Robert L. Carter, District Judge.
In 1978, Tarra Hall Clothiers, Inc. ("Tarra Hall"), a New
York-incorporated garment manufacturer, received two direct
loans totalling $1 million from the Economic Development
Administration ("EDA"), an agency within the United States
Department of Commerce, under an economic assistance program
established by the Trade Act of 1974, 19 U.S.C.A. §§ 2101 et
seq. (West 1980 & Supp. 1991) (the "Trade Act"). It is
undisputed that defendant Joseph E. Krieger, president and 100%
shareholder of Tarra Hall, executed two notes evidencing these
loans, and that he and his wife, defendant Sally Krieger,
executed personal guarantees of the total amounts due under the
notes. The undisputed facts also show that in 1980, Tarra Hall
defaulted on both notes, and that in 1982, the EDA exercised
its option to accelerate the maturity dates of the two notes,
made written demands upon Tarra Hall for the outstanding
principal amounts plus accrued interest, and demanded payment
from the Kriegers pursuant to the personal guarantees. The EDA
thereafter referred the matter to the United States Department
of Justice for litigation, and in March, 1986, the United
States Attorney for the Southern District of New York commenced
the instant action pursuant to 28 U.S.C. § 1345 to enforce the
guarantees against the Kriegers.
Joseph Krieger counterclaimed against the United States for
breach of contract, alleging that, when the EDA agreed to
provide the two direct loans to Tarra Hall, the EDA also agreed
to provide a 90% guarantee of another loan for Tarra Hall from
a commercial lender. Joseph Krieger claimed that Tarra Hall
accepted the two direct loans and that he and his wife signed
the personal guarantees for these direct loans in reliance on
the EDA's alleged agreement to provide the guarantee on the
commercial loan. He further alleged that the EDA later breached
this agreement, and that its breach resulted in damages to both
Tarra Hall and himself.
The United States now moves for summary judgment on its claim
against the Kriegers pursuant to Rule 56, F.R.Civ.P., and for
dismissal of Joseph Krieger's counterclaim pursuant to Rule
12(b)(1), F.R.Civ.P., for lack of subject matter jurisdiction.
The Kriegers cross-move for summary judgment on the United
States' claim, and, in the alternative, seek a court order
enforcing a proposed settlement agreed upon by the parties in
I. MOTIONS FOR SUMMARY JUDGMENT
Central to each side's summary judgment motion is the
threshold issue of whether the personal guarantees upon which
the Kriegers are presently being sued are enforceable. The
Kriegers contend that the EDA obtained the personal guarantees
from them for collateral purposes, and that the EDA thereby
violated its own regulation specifically authorizing resort to
personal guarantees "only when necessary to assure continued
interest and effort of the borrower's owners or management on
behalf of the borrower." 13 C.F.R. § 315.62(a)(1)(i) (1977)
[hereinafter the "EDA regulation"]. They assert that the
personal guarantees are therefore illegal contracts, are
contrary to public policy, and cannot be enforced against them.
Alternatively, the Kriegers argue that the EDA's "extraction"
of personal guarantees from them without making a preliminary
finding that such guarantees were "necessary" within the
meaning of the EDA regulation, constituted agency action that
was both "in excess of statutory authority" and "arbitrary and
capricious." They assert that the guarantees must therefore be
set aside pursuant to the Administrative Procedure Act. 5
U.S.C.A. § 551 et seq. (West 1977 & Supp. 1991).
Finally, Sally Krieger contends that even if the personal
guarantees may have been obtained from her husband in
accordance with the EDA regulation's mandate that such
guarantees be required only when necessary to assure
management's continued interest and effort, and may therefore
be enforceable against him, the guarantees from her could not
possibly have been authorized under the regulation's mandate
since she was neither an officer nor a shareholder of Tarra
Hall. Therefore, she asserts, the guarantees cannot be
enforceable against her.
As an initial matter, the court notes that the Kriegers
failed to plead the affirmative defenses of illegality and
invalidity of the personal guarantees in their answer to the
United States' complaint, see Rule 8(c), F.R.Civ.P., and that,
in the five years that have passed since the filing of the
complaint, the Kriegers also failed to seek to amend their
answer, see Rule 15(a), F.R.Civ.P., so as to include these
affirmative defenses in the pleadings. These procedural defects
raise two difficulties for the court.
First, due to the mandatory language of Rule 8(c),
F.R.Civ.P., failure to plead an affirmative defense such as
illegality generally results in waiver of that defense and its
exclusion from the case. United States ex rel. Maritime Admin.
v. Continental Illinois Nat. Bank & Trust Co., 889 F.2d 1248,
1253 (2d Cir. 1989); Satchell v. Dilworth, 745 F.2d 781, 784
(2d Cir. 1984). Second, technically speaking, the Kriegers'
failure to plead the affirmative defenses of illegality and
invalidity constitutes failure to "place in issue" the validity
of the personal guarantees. This has serious ramifications for
the legal standards
to be applied in the parties' cross-motions for summary
judgment, since, generally, "[a]n obligee as plaintiff in an
action against a guarantor has the burden of proof of all the
essential elements of the cause of action which he has alleged,
including the execution and existence of the contract on which
he sues, [and] that it is supported by consideration. . . ." 63
N YJur.2d § 372 at 492 (1987 & Supp. 1990).*fn1 Only where
the validity of the guarantee contract has been placed in issue
is the contract's validity also an essential element to be
proved by the plaintiff obligee. Id.; cf. Celotex Corp. v.
Catrett, 477 U.S. 317, 322-23, 106 S.Ct. 2548, 2552-53, 91
L.Ed.2d 265 (1986) (summary judgment is mandated where a party
fails to make a showing sufficient to establish the existence
of an element essential to that party's case, and on which that
party will bear the burden of proof at trial).
Nevertheless, under both federal and New York law, it is not
absolutely necessary to plead the illegality of a contract
which is also contrary to public policy. See, e.g., Kaiser
Steel Corp. v. Mullins, 455 U.S. 72, 77, 102 S.Ct. 851, 856, 70
L.Ed.2d 833 (1982), quoting McMullen v. Hoffman, 174 U.S. 639,
19 S.Ct. 839, 43 L.Ed. 1117 (1899) ("no court will lend its
assistance in any way towards carrying out the terms of an
illegal contract"); Attridge v. Pembroke, 235 A.D. 101, 256
N YS. 257 (1932); Metz v. Woodward-Brown Realty Co., 182 A.D.
60, 169 N.Y.S. 299 (1918). In other words, the court may, sua
sponte, "step in and deny the right to any relief [under an
agreement] without reference to the state of the pleadings,
whenever it becomes apparent that the agreement is antagonistic
to the interests of the public." 21 N.Y.Jur.2d § 142 at 548-49
(Lawyers' Co-op 1982 & Supp. 1991). In their summary judgment
motion, the Kriegers have raised the claim that the personal
guarantee contracts are contrary to public policy.
In addition, even under circumstances not involving defenses
based on public policy, courts have held that failure to plead
the affirmative defense of illegality does not necessarily
compel a judicial determination of waiver where the failure did
not prejudice the plaintiff. See, e.g., Allied Chem. Corp. v.
Mackay, 695 F.2d 854, 855 (5th Cir. 1983); Steinberg v.
Columbia Pictures Indus., Inc., 663 F. Supp. 706, 715 (S.D.N Y
1987) (Stanton, J.). In this case, the United States appears
not to have been prejudiced by the Kriegers' failure to plead
their defenses of illegality and invalidity. It has had an
adequate opportunity to respond to these challenges. See Allied
Chem. Corp., supra, 695 F.2d at 856; cf. Continental Illinois
Nat. Bank and Trust Co., supra, 889 F.2d at 1253 (defendant
should have been permitted to amend pleading to assert
additional defense, where question of whether defense had to be
specifically pleaded was fairly close one, and plaintiff had
already been alerted to defense by pleading of codefendant).
What is more, nowhere in its opposition to the Kriegers'
summary judgment motion does the United States even mention,
let alone object to, the Kriegers' failure to plead these
defenses. See, e.g., Canal Ins. Co. v. Earnshaw, 629 F. Supp. 114,
119 (D.Kan. 1985).
B. Statutory Procedures and Regulations Under the Trade Act
In response to increased import competition, Congress enacted
the Trade Act in order to, inter alia, "assist industries,
firms, workers, and communities to adjust to changes in
international trade flows. . . ." 19 U.S.C.A. § 2102(1)(4). As
part of the Trade Act, Congress established the "Adjustment
Assistance to Firms" program ("loan program") to provide
technical and financial assistance to United States firms in
their efforts to make such economic adjustments. Id. §§ 2341 et
seq. Since it was under this loan program that the EDA provided
its two direct loans to Tarra ...