Rescission Based On Mistake and Fraud: An IL Case Note

Blackhawk State Bank, Inc. v. Al’s Motorhome and Trailer Sales, Inc., 2013 IL App (2d) 130316-U (2013), illustrates in stark relief the perils of entering high-dollar “handshake” real estate contracts.  

The plaintiff bank sued to foreclose on farm land after a borrower (the “Seller”) defaulted on a multi-million dollar loan.  The loan was used to fund the Seller’s mobile home business. 

But before the bank’s foreclosure suit, the Seller “sold” the property to defendant for $825,000 as part of a handshake agreement.  The Seller never told defendant about the bank’s nearly $7M mortgage on the land and the defendant never asked. 

The defendant also never ordered a title search and didn’t check tax records either.  He took the Seller’s word on all aspects of the deal and no written contract was prepared to document it.

Defendant paid the Seller $825,000 to buy the farm land in two installments.  But instead of crediting defendant’s payments to the purchase price, the Seller – used the funds to pay down the mortgage held by the plaintiff.

When defendant learned of the bank’s mortgage on the property, he sought the return of his first $425,000 payment.  The bank said no and filed a foreclosure suit because the underlying loan was by that time in default. 

The defendant counter-sued for unjust enrichment and rescission based on mistake and fraud.  The trial court dismissed the defendant’s rescission claims on the bank’s motion to dismiss and on the unjust enrichment claim, entered judgment for the bank after a bench trial. Defendant appealed.

The defendant’s unjust enrichment claim failed because he couldn’t show that he had a superior right over the bank to the $425,000 in purchase funds. 

To prove unjust enrichment, a plaintiff must show that the defendant unjustly retained a benefit to plaintiff’s detriment and that defendant’s retention of the benefit violates fundamental principles of justice, equity and good conscience. 

In situations where the benefit flows from a third party, unjust enrichment applies where the plaintiff has a better claim to the benefit than the defendant.  ¶¶ 15-18.

The Court found that the bank had a “better claim” to the sale proceeds than did defendant.  This was because the bank had no knowledge of defendant’s handshake deal with the Seller and the bank was owed millions of dollars from the bankrupt Seller. 

The Court also focused on defendant’s own negligence in not performing any due diligence concerning the property and exhibiting a “lax approach” to a high-dollar transaction with a complete stranger seller.  ¶¶ 30-33.

The court also upheld the dismissal of defendant’s rescission claims.  To state a claim for rescission premised on mistake, a plaintiff must show: (1) a serious and material mistake, (2) the mistake is so important that enforcement of the contract would be unconscionable; (3) the mistake occurred even though the party claiming rescission exercised due care; and (4) rescission can place the parties in the status quo.   ¶ 44.

The Court rejected defendant’s rescission-due-to-mistake arguments because defendant couldn’t establish that he exercised due care in the transaction.

The defendant land buyer failed to perform even rudimentary research on the property that would have shown the bank’s multi-million dollar mortgage lien.  This precluded a finding that defendant made a mistake that merited undoing the contract. ¶¶ 45-47.

The defendant’s fraud-based rescission claim – based on the Seller falsely telling defendant he owned the property free and clear – also failed.  The defendant couldn’t establish that he reasonably relied on the Seller’s statement.  Since defendant entered into a significant real estate transaction with (figuratively) eyes closed, he couldn’t plead or prove the reasonable reliance element for rescission based on fraud. ¶¶ 48-49.

AfterwordsBlackhawk shows how critical the “due care” element is for both a valid unjust enrichment and rescission claim.  If a litigant is unable to show that he exercised reasonable care in a transaction, his chances of undoing a transaction (rescission) or getting monies returned to him (via unjust enrichment) are slim to none.


Express Trusts and Bankruptcy Discharge: some Quick Hits

Adas v. Rutkowski, 2013 WL 6865417 (N.D.Ill. 2013), illustrates the confluence of Federal bankruptcy law and state law fiduciary duty and express trust principles in a case involving a failed construction partnership.

The plaintiff and bankrupt debtor (defendant) formed a partnership to buy real estate, build a house  on it and split the profits once the house was sold.

The venture failed and the plaintiff got stuck with a sizeable deficiency judgment in a lender’s foreclosure suit.  After the defendant filed for bankruptcy, the plaintiff objected to defendant’s discharge based on defendant’s lengthy pattern of keeping plaintiff in the dark about the failed venture’s finances.  The bankruptcy court agreed and the defendant appealed.

Held: Affirmed.  Defendant’s obligation to plaintiff is nondischargeable.


Normally, a bankruptcy filing gives a debtor a reprieve from creditor collection efforts and forgives (or “discharges”) most of his debts. 

An exception is where the bankrupt debtor engages in fraud, defalcation, embezzlement or larceny.  11 U.S.C. §. 523.

The creditor must show (1) an express trust or fiduciary relationship between the debtor and creditor, and (2) that the debt was caused by fraud or defalcation.  Defalcation equals (roughly) intentional conduct that’s more than negligence but less than fraud.  * 4, 8.

Express Trust – State and Federal Law

The court held that the parties’ business relationship constituted an express trust. 

In Illinois, an express trust exists where (1) there is an intent to create a trust, (2) definite subject matter or trust property, (3) trust beneficiaries, (4) a trustee, (5) a specific trust purpose, and (6) delivery of trust property to the trustee. 

While trusts are normally manifested in a writing (such as a will or property deed), it doesn’t have to be and a trust can be shown through circumstantial evidence. 

The Federal courts view the trust hallmarks as (1) segregation of funds (no commingling, e.g.), (2) management of the funds by an intermediary, and (3) the entity that controls the trust funds or property has only bare legal title to the funds.  *6.

The court found the evidence established a trust arrangement between the parties.  There was an intent to create a trust, trust property (loan funds), subject matter (the house), a trustee (defendant), a beneficiary (plaintiff) and delivery of the trust property.  *5.

Fiduciary Duty

The Court also blocked defendant’s discharge because defendant breached his fiduciary duties to the plaintiff.  Federal law defines a fiduciary relationship as one where there is an imbalance of power between parties and a stronger party takes advantage of weaker one.

Here, the defendant occupied a position of power and influence over the plaintiff and abused the position by excluding the plaintiff from all aspects of the parties business. *7.


Finally, the Court refused to discharge defendant’s debt to plaintiff because of the defendant’s “defalcation.”  

Defalcation applies where a debtor’s conduct is intentional or criminally reckless.  The conduct must go beyond negligence, doesn’t rise to the level of fraud, but still requires subjective intent. 

Defendant’s conduct easily met the defalcation standard.  He engaged in a pattern of secretive and ethically challenged business activity by submitting inflated sworn statements and phantom receipts, commingling funds, and hiding project data from the plaintiff.   *8-9.  


(1)  An express trust will exist where someone gives money or property to another with explicit directions as to how to apply those funds; and no writing is required;

(3) a creditor can defeat a bankrupt debtor’s discharge if it can show the debtor intentionally or recklessly violates an obligation to the creditor – even if the debtor’s conduct doesn’t rise to the level of fraud.


12(b)(6) Motions and Fraud Pleading Rules – A Case Note


Wojcik v. Interarch, Inc., 2013 WL 5904996 (N.D.Ill. 2013), provides a good summary of the factual allegations required to allege fraud and civil conspiracy claims.

The plaintiffs sued a national franchisor and its site development consultant for fraud and other business torts when their Saladworks franchise failed.  Defendants moved to dismiss all claims.

Held: motion granted in part; denied in part.

Reasons:  The Court first recited some key Federal court pleadings and motions rules:

A 12(b)(6) motion tests whether the complaint state a claim on which relief can be granted;

–  FRCP 8 notice pleading requires a complaint to contain sufficient factual matter that states a claim that is plausible on its face;

 a plaintiff doesn’t have to plead facts in his complaint that anticipate possible affirmative defenses  (FRCP 8(c)(1);

– FRCP 9(b) requires heightened pleading specificity for fraud and civil conspiracy claims including the ‘who, what, where, when and how’ of the fraud and the conspiracy;

– FRCP 9’s pleading specificity rules are designed to discourage a ‘sue first, ask questions later’ mentality and to account for the stigma attached to fraud-based claims;

– a negligent misrepresentation claim is not subject to FRCP 9’s elevated pleading rules;

– FRCP 12(b)(6) generally only looks at a complaint’s four corners except where the complaint either attaches or specifically refers to outside documents;

–  a court may consider exhibits to a 12(b)(6) motion if the exhibit supplements a document attached to the complaint or where the defendant relies on the exhibit for the ‘same purpose’ as a document attached to the complaint

*5-6, 11; FRCP 8, 9, 12.

Applying these rules, the Court struck several of defendants’ motion exhibits that either weren’t attached to or incorporated by reference in plaintiffs’ complaint. *8.

The Court then sustained the plaintiffs’ fraud claims against the franchisor defendants.

While a fraud plaintiff must specifically plead the “who, what, when, where and how” of the fraud, allegations of malice, intent, knowledge of falsity and subjective matters can be alleged generally.  FRCP 9(b).

Here, the plaintiffs fraud claims were detailed.  They specifically pled the defendants knowingly misrepresented and omitted material facts involving the restaurant’s projected profits, build-out and construction costs, and general operating expenses.  Taken together, the allegations satisfied the pleading requirements for a valid fraud claim.  Wojcik, *11.

The plaintiffs’ civil  conspiracy claims failed.

An Illinois civil conspiracy plaintiff must plead and prove: (1) an agreement to accomplish an unlawful purpose or a lawful purpose by unlawful means, (2) a wrongful act in furtherance of the agreement, and (3) injury to the plaintiffWojcik, *11.

The agreement is the foundation of the conspiracy and requires proof of a defendant’s knowing and voluntary participation in a “common scheme” to commit an unlawful act or lawful act in an unlawful manner. 

Accidental, inadvertent, negligent or haphazard conduct is not enough to impose conspiracy liability on a defendant.  The plaintiff must plead the agreement’s critical details – including the “who, what, where, when and how” – to survive a motion to dismiss.  *12.

The Court held that plaintiffs’ conspiracy claims were too conclusory.  The plaintiffs merely parroted the elements of conspiracy and failed to plead critical details of the defendants’ agreement or their “common scheme” to harm the plaintiffs.  At most, plaintiffs pled negligence or breach of contract; not a conspiracy. *12.


A court can consider external submissions on a 12(b)(6) motion where the challenged complaint incorporates or relies on an external document.  Wojcik also illustrates the required factual allegations that will satisfy Illinois state law fraud and civil conspiracy claims under Federal pleading rules.