Spring Company v. Knowlton/Opinion of the Court

The plaintiff in error claims that the plan adopted by it to increase its capital stock, by which certificates as for full-paid stock were to be issued on the payment of eighty per cent thereof, was against the law and public policy of the State of New York, and was, therefore, void; that Knowlton, having been an active party in devising this scheme, and having paid his money in part execution of it, his legal representatives cannot recover the sum so paid.

It is conceded by the defendants in error that the plan adopted by the company to increase its stock was in violation of the law of New York, and therefore void. It has been so held, in effect, by the Court of Appeals of the State of New York, in the case of Knowlton v. Congress & Empire Spring Co., 57 N. Y. 518.

We are, then, to consider whether, upon the hypothesis that the plan for the increase of the stock was illegal, there can be a recovery upon the facts of the case as found by the Circuit Court.

We think it clear that there was only a part performance of the illegal contract between the company and Knowlton in reference to the new stock, for which Sheehan subscribed and which he agreed to transfer to Knowlton.

The company, in fact, created no new stock. It only proposed to do so. To increase the stock of the company it was not only necessary that the meeting of the stockholders should be called, as prescribed by the law, and a vote of two-thirds of all the shares of stock should be cast at the meeting in favor of the increase, but that there should be a certificate of the proceedings, showing, among other things, a compliance with the provisions of the law, and the amount of the increase of the stock, signed and verified by the affidavit of the chairman of the meeting at which the increase was voted, and countersigned by the secretary, and such certificate should be acknowledged by the chairman and filed, as required by the first section of the act. And the law declared that 'when so filed the capital stock of such corporation shall be increased to the amount specified in such certificate.'

It does not appear from the findings of the Circuit Court that any such certificate was ever made or filed. Consequently it does not appear that the steps necessary, under the law, to an increase of the stock were ever taken. Neither does it appear that any scrip or certificates were ever issued to the subscribers to the new stock. So that all that was done amounted only to a proposition by the company, on the one hand, to increase its stock, and an agreement by Knowlton to take certain shares of the new stock when issued, and the payment by him of an instalment of twenty per cent thereon. There was no performance of the contract whatever by the company, and only a part performance by Knowlton.

It is to be observed that the making of the illegal contract was malum prohibitum and not malum in se. There is no moral turpitude in such a contract, nor is it of itself fraudulent, however much it may afford facilities for fraud.

The question presented is, therefore, whether, conceding the contract to be illegal, money paid by one of the parties to it in part performance can be recovered, the other party not having performed the contract or any part of it, and both parties having abandoned the illegal agreement before it was consummated.

We think the authorities sustain the affirmative of this proposition.

Their result is fairly stated in 2 Comyn on Contracts, 361, as follows:--

'Where money has been paid upon an illegal contract, it is a     general rule that if the contract be executed and both      parties are in pari delicto, neither of them can recover from      the other the money so paid, but if the contract continues      executory and the party paying the money be desirous of      rescinding it, he may do so and recover back by action of      indebitatus assumpsit for money had and received. And this     distinction is taken in the books that where the action is in      affirmance of an illegal contract, the object of which is to      enforce the performance of an engagement prohibited by law,      clearly such an action can in no case be maintained, but      where the action proceeds in disaffirmance of such a      contract, and instead of endeavoring to enforce it presumes      it to be void and seeks to prevent the defendant from      retaining the benefit which he derived from an unlawful act,      then it is consonant to the spirit and policy of the law that      the plaintiff should recover.'

Mr. Parsons, in his work on Contracts, vol. ii. p. 746, says: -

'All contracts which provide that anything shall be done     which is distinctly prohibited by law, or morality, or public      policy, are void, so he who advances money in consideration      of a promise or undertaking to do such a thing, may at any      time before it is done rescind the contract and prevent the      thing from being done and recover back his money.'

To the same effect see 2 Addison, Contracts, sect. 1412; Chitty, Contracts, 944; 2 Story, Contracts, sect. 617; 2 Greenl. Evid., sect. 111.

The views of the text-writers are sustained by a vast array of authorities, both English and American.

A few will be cited. Taylor v. Bowers (1 Q. B. D. 291) was an action to recover property assigned for the purpose of defrauding creditors. A verdict was rendered for the plaintiff, with leave to move to enter a verdict for the defendant. A rule was obtained on the ground that the plaintiff could not by the allegation of his own fraud get back the goods from the defendant. The Queen's Bench sustained the verdict, the Chief Justice, Cockburn, delivering the opinion. The defendant then appealed to the Court of Appeals, where the judgment was affirmed. Both courts agreed that an illegal contract partially performed might be repudiated and the money paid upon it recovered.

Lord Justice Mellish, in the Court of Appeals, said: 'If the illegal transaction had been carried out, the plaintiff himself, in may judgment, could not afterwards have recovered the goods. But the illegal transaction was not carried out; it came wholly to an end. To hold that the plaintiff is entitled to recover does not carry out the illegal transaction, but the effect is to put everybody in the same situation as they were before the illegal transaction was determined upon, and before the parties took any steps to carry it out. That, I apprehend, is the true distinction in point of law. If money is paid or goods delivered for an illegal purpose, the person who had so paid the money or delivered the goods may recover them back before the illegal purpose is carried out; but if he waits till the illegal purpose is carried out, or if he seeks to enforce the illegal transaction, in neither can he maintain an action; the law will not allow that to be done.'

The same rule substantially is laid down in the following English cases: Lowry v. Bourdieu, 2 Doug. 452; Tappenden v. Randall, 2 Bos. & Pul. 467; Hastelow v. Jackson, 8 Barn. & Cress. 221; Bone v. Ekless, 5 H. & N. 925; Lacaussade v. White, 7 T. R. 531; Cotton v. Thurland, 5 id. 405; Mount v. Stokes, 4 id. 561; Smith v. Bickmore, 4 Taunt. 474.

In Morgan v. Groff (4 Barb. (N. Y.) 524), it was held that money paid on an illegal contract, which remains executory, can be recovered back in an action founded on a disaffirmance, and on the ground that it is void.

To the same effect are the following cases: Utica Insurance Co. v. Kip, 8 Cow. (N. Y.) 20; Merritt v. Millard, 4 Keyes (N. Y.), 208; White v. Franklin Bank, 22 Pick. (Mass.) 181; Lowell v. Boston & Lowell Railroad Corporation, 23 id. 24.

In Thomas v. City of Richmond (12 Wall. 349) this court cites with approval the note of Mr. Frere to the case of Smith v. Bromley (2 Doug. 696), to the effect that a recovery can be had as for money had and received when the illegality consists in the contract itself, and that contract is not executed; in such case there is a locus penitentioe; the delictum is incomplete; the contract may be rescinded by either party.

The rule is applied in the great majority of the cases, even when the parties to the illegal contract are in pari delicto, the question which of the two parties is the more blamable being often difficult of solution and quite immaterial. We think, therefore, that the facts of this case present no obstacle to a recovery by Knowlton's administrators of the sum paid by him on the stock which had been subscribed for by Sheehan.

The law of New York does not in express terms forbid a corporation from issuing certificates for full-paid stock when the stock has not been fully paid. The illegality of such an issue is deduced from several sections of the law under which the Congress and Empire Spring Company was organized, namely, sects. 38, 40, 41, and 49. We think it is fairly inferable from the record that the trustees of the company, one of whom was Knowlton, did not know that the plan adopted by them for the increase of the stock was illegal, and that when they discovered that it was forbidden by the law, and before any harm was done or could have been done, the scheme was abandoned. Under such circumstances, the rule which would prevent the recovery of the money paid to carry on the illegal plan would be a very harsh one, not founded on any law or public policy.

It is suggested by counsel for the plaintiff in error that the Court of Appeals of the State of New York has in this identical suit, upon the same state of facts, adjudicated the rights of the parties, and that this court ought to consider the questions raised in this case as res judicata.

The reply to this suggestion is that it nowhere appears in the record that this case was ever before the Court of Appeals, or that it was ever decided by any court except the United States Circuit Court for the Northern District of New York, from which it has been brought to this court on error. We cannot consider facts not brought to our notice by the record.

Judgment affirmed.

MR. JUSTICE HARLAN dissenting.