Opinions of the United
1995 Decisions                                                                                                             States Court of Appeals
                                                                                                                              for the Third Circuit


4-26-1995

Development Fin. Corp. v Apha Housing & Health
Care, Inc.
Precedential or Non-Precedential:

Docket 94-3519




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             UNITED STATES COURT OF APPEALS
                 FOR THE THIRD CIRCUIT



                      No. 94-3519


            DEVELOPMENT FINANCE CORPORATION;
    THE NATIONAL HOUSING AND HEALTH CARE TRUST, INC.,
                               Appellees,
                           v.

           ALPHA HOUSING & HEALTH CARE, INC.,
                              Appellee,
                           v.

                JOHN SOWER; WILBUR DOVE,
                              Third Party Defendants.


               SYLVAN ASSOCIATES, INC.,*
                    (*Pursuant to Rule 12(a), F.R.A.P.)
                              Appellant.



    ON APPEAL FROM THE UNITED STATES DISTRICT COURT
       FOR THE WESTERN DISTRICT OF PENNSYLVANIA
                 (D.C. No. 94-cv-00627)



                 Argued March 10, 1995

Before:   HUTCHINSON, ALITO, and SAROKIN, Circuit Judges

            (Opinion filed:   April 26, 1995)



                               John Alan Conte
                               Robert A. Krebs (argued)
                               Conte, Melton & D'Antonio
                               300 Ninth Street
                               Conway, PA 15207

                                    Attorneys for Appellant
                                     George E. Pallas (argued)
                                     Andrea B. Dillon
                                     Cohen & Huntington, P.C.
                                     1515 Market Street, Suite 818
                                     Philadelphia, PA 19102

                                          Attorneys for Appellees
                                          Development Finance Corp.
                                          and The National Housing
                                          and Health Care Trust,
                                          Inc.

                                     Louis Pomerico
                                     Pomerico, Leymarie, Clark &
                                     Punture
                                     1406 East Washington Street
                                     New Castle, PA 16101

                                          Attorney for Appellee
                                          Alpha Housing & Health
                                          Care, Inc.



                       OPINION OF THE COURT




SAROKIN, Circuit Judge:

     Sylvan Associates, Inc. ("Sylvan" or "applicant"), the sole

member of defendant Alpha Housing & Health Care, Inc. ("Alpha"),

a nonprofit corporation, appeals from the denial of its motion to

intervene as a third-party plaintiff in an action for breach of

contract.   Sylvan wishes to argue that the contracts between

plaintiffs and defendant were ultra vires, a claim that defendant

itself is prohibited from raising under Pennsylvania law.

                                I.

     Plaintiff Development Finance Corp. ("DEFCO") entered into a

contract to assist defendant in arranging financing for the
acquisition of nursing home facilities.    After defendant

purchased two facilities, it entered into a contract with

plaintiff The National Housing and Health Care Trust, Inc.

("National Housing") whereby National Housing would assist in the

management of the nursing homes.   DEFCO and defendant

subsequently executed another contract providing for revised

terms of payment for DEFCO's services.    DEFCO and National

Housing now sue for defendant's alleged breach of the agreements.

Federal jurisdiction for the original claims is based on the

diversity of citizenship between plaintiffs and defendant,

pursuant to 28 U.S.C. §1332.

     Sylvan first moved to intervene as of right as a defendant,

in order to assert as a defense that the agreements between

plaintiffs and defendant were ultra vires.   The district court

denied the motion, Appendix ("App.") at 63, and Sylvan did not

appeal.

     Recasting its argument, Sylvan again moved to intervene as

of right, this time as a third-party plaintiff, in an effort to

enjoin performance of defendant's contracts with plaintiffs

pursuant to 15 Pa.C.S. §5503(a)(1).   The action asked the

district court to grant plaintiffs only "such compensation as may

be equitable," as the Pennsylvania statute provides.     The

district court denied the motion without a written decision.

App. at 111.   Sylvan filed a timely notice of appeal, and we have

jurisdiction under 28 U.S.C. §1291 because the denial of a motion

to intervene as of right is a final, appealable order.     United
States v. Alcan Aluminum, Inc., 

, 1179 (3d Cir.

1994).

                                 II.

     We review the denial of a motion to intervene as of right

for abuse of discretion.   Alcan 

; Brody

v. Spang, 

, 1115 (3d Cir. 1992).     However, we will

reverse "only if we find the district court 'has applied an

improper legal standard or reached a decision we are confident is

incorrect.'"    Alcan 

(quoting 

).

     We must begin with a jurisdictional issue.    As the party

asserting jurisdiction, Sylvan bears the burden of showing that

its claims are properly before the district court.    Packard v.

Provident Nat'l Bank, 

, 1045 (3d Cir.), cert.

denied, 

(1993).

     Sylvan and Alpha are both incorporated under the laws of

Pennsylvania.    It is axiomatic that the federal judiciary's

diversity jurisdiction depends on complete diversity between all

plaintiffs and all defendants.   See 28 U.S.C. §1332; Strawbridge
v. Curtiss, 7 U.S. (3 Cranch) 267 (1806); Singh v. Daimler-Benz

AG, 

, 305 (3d Cir. 1993).    Sylvan concedes that there

is no diversity of citizenship between itself and Alpha; both are

Pennsylvania corporations.    Intervenor's Brief at 20.

     Sylvan contends that the district court has supplemental

jurisdiction over its claim pursuant to 28 U.S.C. §1367(a), the

recent codification of common law "pendent" and "ancillary"

jurisdiction.    Section 1367(a) provides
     Except as provided in subsections (b) and (c) . . . in any
     civil action of which the district courts have original
     jurisdiction, the district courts shall have supplemental
     jurisdiction over all other claims that are so related to
     claims in the action within such original jurisdiction that
     they form part of the same case or controversy under Article
     III of the United States Constitution. Such supplemental
     jurisdiction shall include claims that involve the joinder
     or intervention of additional parties.


28 U.S.C.A. §1367(a) (1993).
     A. §1367(b)

     Subsection (b)'s limitation on the general grant of

supplemental jurisdiction raises the most obvious problems for

Sylvan:
     In any civil action of which the district courts have
     original jurisdiction founded solely on section 1332 of this
     title, the district court shall not have supplemental
     jurisdiction . . . over claims by persons . . . seeking to
     intervene as plaintiffs under Rule 24, when exercising
     supplemental jurisdiction over such claims would be
     inconsistent with the jurisdictional requirements of section
     1332.


28 U.S.C.A. §1367(b) (1993) (emphasis added).    Sylvan does not

dispute that the district court's original jurisdiction was

"founded solely on section 1332" and that Sylvan has captioned

its motion as one to intervene as a plaintiff.   App. at 64.   At

first glance, then, §1367(b) would appear to deprive the district

court of jurisdiction over Sylvan's claim against Alpha.

     District courts considering §1367(b) have generally

concluded that in a diversity action, the section eliminates

supplemental jurisdiction over the claims of a plaintiff-

intervenor who shares citizenship with a defendant.    See Deere &

Co. v. Diamond Wood Farms, 

, 160 (E.D.Ark. 1993);
Yorkshire Partnership v. Pacific Capital Partners, 

, 142 (M.D.La. 1993); MCI Telecommunications Corp. v. Logan

Group, 

, 87-89 (N.D.Tex. 1994); Manhattan Fire &

Marine Ins. Co. v. Northwestern Regional Airport Comm'n, 

at *4 (W.D.Mich. March 25, 1993).   See also

Krueger v. Cartwright, 

, 933 n.6 (7th Cir. 1993)

(§1367(b) would have deprived court of supplemental jurisdiction

over claim of party who shared citizenship with defendant in

diversity action, had party moved to intervene as plaintiff).

     We are aware of only one case to the contrary.   See Colonial

Penn Ins. Co. v. American Centennial Ins. Co., 

at

*3-4 (S.D.N.Y. 1992).

     Leading commentators generally agree that in a diversity

action, §1367(b) eliminates supplemental jurisdiction over claims

of plaintiff-intervenors who share citizenship with a defendant.

See 7C Charles A. Wright, Arthur R. Miller & Mary K. Kane,

Federal Practice and Procedure, §1917 at 47 (1994 Supp.) (Section

1367(b) "specifically prohibits the exercise of [supplemental]

jurisdiction in diversity cases for persons seeking to intervene

as plaintiffs under Rule 24"); 3B James Wm. Moore et al., Moore's
Federal Practice ¶24.18 (2d ed. 1993), at 24-182 ("§1367(b) makes

one change in prior practice by eliminating supplementary

jurisdiction over a party who intervenes, even if by right, as a

plaintiff in a diversity action if that party does not meet the

requirements for diversity jurisdiction"); 28 U.S.C.A. §1367

(1993), David Siegel, Practice Commentary, "The 1990 Adoption of
§ 1367, Codifying 'Supplemental' Jurisdiction" ("Practice

Commentary"), at 833.
     1. Alignment

     Before rushing to deny Sylvan's bid to participate in this

action, however, we must consider a fundamental principle of

federal jurisdiction, a principle associated with, but not

limited to, diversity jurisprudence.   In determining the

alignment of the parties for jurisdictional purposes, the courts

have a "duty" to "'look beyond the pleadings and arrange the

parties according to their sides in the dispute.'"   Indianapolis

v. Chase Nat'l Bank, 

, 69 (1941) (quoting Dawson v.

Columbia Trust Co., 

, 180 (1905)).   Opposing parties

must have a "'collision of interests'" over the "'principal

purpose of the suit.'"   

197 U.S. at 181 and

East Tennessee, V. & G. R. v. Grayson, 

, 244 (1886)).

     In this circuit we have described the alignment inquiry as

one which "obliges the court to penetrate the nominal party

alignment and to consider the parties' actual adversity of

interest."   In re Texas Eastern Transmission Corp. PCB
Contamination Ins. Coverage Litigation, 

, 1240-41 (3d

Cir.), cert. denied, ___ U.S. ___, 

(1994).      See

also Employers Ins. of Wausau v. Crown Cork & Seal Co., 

, 46 (3d Cir. 1990).

     In Texas Eastern, we determined that a district court had

"erroneously reasoned that realignment was a principle associated

exclusively with diversity 

(emphasis added).   Realignment "in fact represents a broader
principle of judicial interpretation of statutes conferring

jurisdiction in federal courts, where the statutory conferral of

jurisdiction is predicated upon the adversarial relationship of

the parties."   

  Thus, "where party designations have

jurisdictional consequences," we must align the parties before

determining jurisdiction.   Texas 

(realigning partes for jurisdictional analysis under Foreign

Sovereign Immunities Act, 28 U.S.C. §1330).   See also Chicago, R.

I. & P. R. Co. v. Stude, 

(1954) (realigning parties

for jurisdictional analysis under the removal statute, 28 U.S.C.

§1440).

     Under §1367(b), party designations clearly have profound

jurisdictional consequences.   In two recent cases we have noted

the strikingly different treatment §1367(b) affords the claims of

plaintiffs as opposed to those of defendants.   See Texas 

; Janney Montgomery Scott, Inc. v. Shepard

Niles, Inc., 

(3d Cir. 1993).   See also Practice

Commentary at 832 ("[§1367(b)] is concerned only with efforts of

a plaintiff to smuggle in claims that the plaintiff would not

otherwise be able to interpose . . . The repetition of the word

'plaintiff' at several rule-citing junctures in subdivision (b)

makes this clear").   Accordingly, we must align the parties

before applying §1367(b).

     The "principal purpose" of the suit by DEFCO and National

Housing is to enforce their agreements with Alpha.   Both Alpha

and Sylvan seek to set aside the agreements, paying at most the

"equitable compensation" required by 15 Pa.C.S. §5503(a).
Although Sylvan's claim nominally opposes Alpha, in fact the

basic interests of Alpha and Sylvan coincide with each other and

collide with those of DEFCO and National Housing over the

principal issue of the case.   The "actual adversity of interest"

pits Alpha and Sylvan against DEFCO and National Housing.

Consequently, Sylvan must be aligned with Alpha as a defendant.

Sylvan's motion to intervene should be treated as raising a

cross-claim against Alpha and a counterclaim against DEFCO and

National Housing.
     2. Counterclaims and cross-claims of an intervenor-defendant

     The plain language of §1367(b) limits supplemental

jurisdiction over claims of plaintiffs against "persons made

parties under Rule 14, 19, 20, or 24," and of parties who join or

intervene as plaintiffs pursuant to Rule 19 or 24.   28 U.S.C.A.

§1367(b).   The section has little to say about defendants.

     We have twice held that in a diversity action, the district

court has jurisdiction over a defendant's counterclaim against

non-diverse parties joined as third-party defendants to the

counterclaim.   Texas 

; FDIC v.
Bathgate, 

, 874 (3d Cir. 1994).   In Texas Eastern we

specifically pointed out that §1367(b) "by its terms" does not

extend to a defendant's counterclaims, and further that the

joinder of "non-diverse counterclaim defendants do[es] not

destroy diversity jurisdiction . . . because there is complete

diversity of citizenship between the original parties."   Texas

.
     Similarly, in Janney Montgomery Scott, an investment banker

sued an obligor for breach of contract in a diversity action.       In

holding that a co-obligor was not a necessary party to the

action, we stated that if defendant moved to implead the co-

obligor on a claim for contribution, the district court would

have supplemental jurisdiction, despite the common citizenship of

the defendant/third-party plaintiff and the third-party

defendant.   Janney Montgomery 

, n.15.

     When faced by a party alignment very similar to the one

here, the district court in Colonial Penn concluded that §1367(b)

did not eliminate jurisdiction over a claim asserted by a non-

diverse intervenor against the original plaintiff.   The district

court aligned the intervenor as a defendant though the party

called itself a plaintiff, treated its claim as a counterclaim,

and exercised jurisdiction.   

at *3-4.    See also

Practice Commentary at 833 (suggesting §1367(b) does not

eliminate supplemental jurisdiction over counterclaim raised by

non-diverse defendant-intervenor).

     We are aware of only one case in which a court considered

the application of §1367(b) to a cross-claim by one co-defendant

against another, non-diverse co-defendant, where federal

jurisdiction over the original claims depended on §1332.    There,

a district court held that §1367(b) does not eliminate

supplemental jurisdiction.    Meritor Sav. Bank v. Camelback Canyon
Investors, 

, 457 (D.Ariz. 1991).

     Considerations of judicial economy also counsel in favor of

limiting §1367(b) to its plain language, rather than extending
its jurisdictional bar to claims raised by intervening

defendants.     Where an intervenor's claims are so entangled with

the original claims and parties, banishing the non-diverse claim

to state court would not serve the goal of judicial efficiency,

     Finally, we have held that the 1990 Judicial Improvement Act

codified the Supreme Court's treatment of ancillary jurisdiction.

Texas 

and n.7.    Extending §1367(b) to

bar a counterclaim or cross-claim by an intervening defendant

would contradict the pre-1990 common law of "ancillary

jurisdiction," which encompassed counterclaims by a defending

party pulled into court against his will, as well as claims by

another person whose rights might be irretrievably impaired

unless he could assert them in an existing federal court action.

Owen Equipment and Erection Co. v. Kroger, 43

65, 375-76

(1978).   As discussed infra, applicant's rights could be

irretrievably impaired if it is excluded from the instant

proceeding.

     We conclude that §1367(b) does not deprive the district

court of supplemental jurisdiction over a counterclaim or cross-

claim raised by an intervening defendant, even where the

intervenor shares citizenship with an original party.
     B. §1367(a)

     Turning to §1367(a) itself, the parties do not dispute that

district court had original jurisdiction over the claims against

Alpha brought by DEFCO and National Housing, pursuant to 28

U.S.C. §1332.    We conclude easily that because the claims of

DEFCO, National Housing, and Sylvan all concern performance of
the agreements with Alpha, Sylvan's claims are "so related to

claims in the original action . . . that they form part of the

same case or controversy."

     Having determined that (1) the jurisdictional principle of

alignment applies to §1367(b); (2) proper alignment requires us

to treat applicant as a defendant; (3) §1367(b) does not

eliminate supplemental jurisdiction over a cross-claim or

counterclaim raised by an intervening defendant; and (4)

applicant has satisfied the elements of §1367(a), we conclude

that a failure to exercise supplemental jurisdiction over

Sylvan's claims would be an abuse of discretion.

                                III.

     Sylvan moved to intervene pursuant to Fed. R. Civ. P.

24(a)(2).1 Rule 24(a) authorizes intervention where
     (1) the application for intervention is timely; (2) the
     applicant has a sufficient interest in the litigation; (3)
     the interest may be affected or impaired, as a practical
     matter by the disposition of the action; and (4) the
     interest is not adequately represented by an existing party
     in the litigation.


Alcan 

.

   1Rule 24(a)(2)   provides:

     Upon timely application anyone shall be permitted to
     intervene in an action . . . when the applicant claims an
     interest relating to the property or transaction which is
     the subject of the action and the applicant is so situated
     that the disposition of the action may as a practical matter
     impair or impede the applicant's ability to protect that
     interest, unless the applicant's interest is adequately
     represented by existing parties.
      DEFCO and National Housing concede that Sylvan's application

is timely and that it has an interest in the transactions which

are the subject of the litigation.    Plaintiffs' Brief at 8.   To

address the final two elements of Sylvan's proof, however, we

must clarify the interest conceded by plaintiffs.

      Sylvan asserts it has an interest "in maintaining Alpha's

continued viability and tax exempt status in addition to insuring

[sic] that Alpha acts in accordance with its corporate purposes

and powers."   Intervenor's Brief at 11.   We agree that Sylvan

shares with Alpha an interest in the latter's "continued

viability," which may be threatened by specific performance of

the contracts, as well as limiting Alpha to actions authorized by

its charter and by-laws.

      Regarding defendant's tax-exempt status, the same statute

that confers the exemption also mandates that "no part of the net

earnings of [the corporation] inures to the benefit of any

private shareholder or individual."    26 U.S.C.A. §501(c)(3)

(1988).   DEFCO is itself a nonprofit corporation, so its contract

with Alpha may comply with the private inurement rule;    on the

other hand, the text of the contracts may violate the rule.     See

App. at 18, 21, 27-28.   We express no opinion on this ultimate

issue, nor as to whether partial payment on the contracts

violates §501(c)(3).

      Sylvan also refers us to unspecified U.S. Department of

Treasury regulations which may be implicated by Alpha's

contracts.   In its Answer, Alpha invoked "OMB A-122."    App. at

41.   We take this as a reference to Office of Management and
Budget Circular A-122, "Cost Principles for Nonprofit

Organizations," 45 Fed.Reg. 46022 (July 8, 1980).    Neither Alpha

nor Sylvan refers to a particular passage in this lengthy

document, but we note that the Circular mandates that only

"reasonable" costs for professional services are allowable uses

of certain government grants, contracts or awards.   

at 46023, 46031.   Presumably Alpha and Sylvan wish to

argue that the agreements with DEFCO and National Housing provide

"unreasonable" compensation for professional services, as the

government defines "reasonable," and thus court-ordered payment

of "unreasonable" compensation would violate the Circular.     We

again express no opinion as to whether performance of the

contracts has or would violate OMB Circular A-122.   Whether the

threat arises under §501(c)(3) or OMB Circular A-122, we do agree

that Sylvan has an interest in preserving defendant's tax

exemption.
     A. impairment of interest

     We have held that the third element of intervention pursuant

to Rule 24(a)(2) requires us to assess the practical consequences

of the litigation.   Incidental effects on legal interests are

insufficient; "rather, there must be 'a tangible threat' to the

applicant's legal interest."   

(quoting

Harris v. Pernsley, 

, 601 (3d Cir.), cert. denied,

(1987)).   We have also pointed out that the

possibility of a subsequent collateral attack by an applicant

will not preclude an applicant from demonstrating that his

interest would be impaired, particularly in light of "our policy
preference which, as a matter of judicial economy, favors

intervention over subsequent collateral attacks."     

.

        The instant litigation presents a "tangible threat" to

Sylvan's interest in the preservation of Alpha's tax exemption

and in the corporation's continued viability.     Moreover, an

adjudication of Alpha's obligations to DEFCO and National Housing

could preclude Sylvan from maintaining a state court action

pursuant to 15 Pa.C.S. §5503 to ensure that Alpha acts pursuant

to its corporate powers and purposes.     Thus, Sylvan's legal

interests could be impaired by disposition of the instant case.
        B. Inadequacy of representation

        Finally, an applicant has "'[t]he burden, however minimal .

. . to show that his interests are not adequately represented by

the existing parties.'"     

(quoting Hoots

v. Pennsylvania, 

, 1135 (3d Cir. 1982)).

        In its Answer, Alpha does not defend on the grounds that its

contracts with DEFCO and National Housing are void as illegal.

App. at 40-42.2    The Pennsylvania Supreme Court applies "the

general rule that an agreement which violates a provision of a

statute, or which cannot be performed without violation of such a

provision, is illegal and void."     American Ass'n of Meat
Processors v. Casualty Reciprocal Exch., 

, 495, 

, 68 (1991).     An illegal contract can never provide the

    2
     Alpha does raise the defense of impossibility of performance
because the "trust agreements" themselves prevent private
inurement. See Answer ¶38, App. at 41.
basis for a cause of action: "The law when appealed to will have

nothing to do with it, but will leave the parties just in the

condition in which it finds them."    

v.

Brunozzi, 

, 114-15, 

(1950)).    Alpha is not

barred from contending that the contracts violate §501(c)(3) or

OMB Circular A-122, but its Answer does not set forth the

defense.3

        If the district court determines that Alpha's contracts

violated §501(c)(3) or OMB Circular A-122, however, the contracts

might still be enforceable; Alpha would simply lose its tax

exemption.     Hence Sylvan wishes to argue that, even if not void

as illegal, Alpha's contracts are voidable as unauthorized by its

corporate charter or by-laws.    See, e.g., Bolduc v. Board of

Supervisors, 

, 1190-91, 152 Pa.Commw. 248 (Pa.Commw.

1992)(contract voidable when entered into by township acting

beyond its corporate powers), appeal denied, 

, 

(1993).    Alpha has not and may not raise the defense of

ultra vires.    15 Pa.C.S. §5503; Downing v. School Dist., 

, 138, 

, 40 (1948)("a corporation which has received

and retained the benefits and advantages of a contract should not

be allowed to escape its obligations upon a plea of ultra

vires"); Wagner v. Somerset County Memorial Park, Inc., 

     Under the Pennsylvania and federal rules, illegality is an
affirmative defense which must be pleaded, but under Pennsylvania
law the defense is not waived by failure to plead it.
Fed.R.Civ.P. 8(c); Pa.R.Civ.P. 1030(a); American Ass'n of Meat

.
440, 442, 

(1953); American Mut. Liability Ins. Co. v.

Bollinger Corp., 

, 1186 (W.D.Pa. 1975).

        Sylvan alleges that defendant's charter empowers it to

undertake only those activities permitted by §501(c)(3), and thus

a transaction yielding private inurement would be ultra vires.

See Motion to Intervene, App. at 71-72.4    See also By-Laws,

Supplemental Appendix ("S.A.") at 143.     In addition, Sylvan

alleges that the charter authorizes Alpha to pay only reasonable

compensation for services rendered.     App. at 72.   See also By-

Laws, S.A. at 144.

        Consequently, we conclude that Alpha has not and cannot

adequately represent Sylvan's interests, as defendant has failed

to raise the defense of illegality and is statutorily prohibited

from arguing that the contracts are ultra vires.      In sum, Sylvan

has satisfied its burden under Rule 24(a)(2), and it was an abuse

of discretion to deny its motion for intervention.

                                 IV.

        For the foregoing reasons we will reverse the order of the

district court and remand for further proceedings consistent with

this opinion.




    4
    The appellate record does not include the corporate charter.