According to a letter obtained Thursday by The Associated Press, Knight alleges the university also violated the Indiana Open Door Law, inflicted emotional distress and interfered with his ability to find a coaching job.
"If the university doesn't negotiate with us, we have no choice but to sue," said Knight's attorney, Russell E. Yates of Denver.
Knight was fired Sept. 10 by IU President Myles Brand after 29 years as coach for violating its "zero-tolerance" policy. The firing came after Knight grabbed a freshman student by the arm and lectured him on manners after he greeted the coach informally.
Knight had 180 days to notify the university of his intention to sue. That deadline is Friday.
Yates said Knight was driving to his home in Arizona after he spent time with the St. Louis Cardinals at spring training in Jupiter, Fla., and was unavailable for comment.
The university denied the allegations.
"We were disappointed and even taken aback to hear the allegations contained in the notice of tort claim," university spokeswoman Susan Dillman said. "The charges are frivolous and totally without merit."
The letter, dated March 2, said the damages were "lost income, pain and suffering, mental humiliation and interference with his ability to obtain subsequent employment."
Yates' letter said the university's actions cost Knight more than $7 million.
"That's a number we put in there that if we had to sue and there were punitive damages, that's what it would be," Yates said. "That's nowhere near what we think we're entitled to under the contract."
Yates said Knight had not instructed him to file notice, but that not doing so would have constituted "malpractice." He said Knight would be "surprised" to learn he had filed notice with the university.
John Walda, president of Indiana's Board of Trustees, said he also was surprised by the action, but cautioned it was only Knight's intent to file a lawsuit.
"Since I am familiar with the background, I know the actions are not supported factually," said Walda, who was co-chairman of a university investigation into Knight last spring. "They border on being frivolous."
Dillman had no comment on what the university's next step will be.
"This is not a lawsuit, it is simply a step in the process," she said. "We certainly would hope that he does not choose to pursue this further."
Yates said he has tried to negotiate a deal with the university, whih he said hired a Chicago law firm to represent it.
"I met with them and they said, 'We'll give you a counter,' " Yates said. "I've never had a written counter, so I had to take the steps necessary to protect him."
Knight had a 661-240 record with three national championships during his career at Indiana and ranks fifth all-time with 763 victories, including his time as Army's coach.
Controversy is nothing new to Knight, who has become embroiled in a number of incidents through the years, including one almost a year ago when former player Neil Reed claimed Knight choked him during a practice.
The university started an internal investigation, which turned up a videotape that showed Knight putting his hand around Reed's neck.
That led to the university imposing the "zero-tolerance" policy on Knight.
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