Daily Development for Friday, June
8,
2007
by: Patrick A. Randolph, Jr.
Elmer F. Pierson
Professor of
Law
UMKC School of Law
Of Counsel: Blackwell Sanders Peper
Martin
Kansas City,
Missouri
dirt@umkc.edu
Another
Jack Murray special: Welcome back, Jack!!
ATTORNEYS'
FEES;
BANKRUPTCY: U.S. Supreme Court rules that Bankruptcy Code does not
disallow
contract-based claims for attorneys' fees based solely on fact that fees
at
issue were incurred litigating issues of bankruptcy
law.
Travelers Casualty & Surety Co. of America v.
Pacific
Gas & Electric Co., 127 S.Ct. 1199 (2007).
An issue
that has
been litigated (with conflicting results) is whether the Bankruptcy Code
disallows a lender's contract-based claims for attorneys' fees based
solely on
the fact that the fees at issue were incurred litigating issues of
bankruptcy
law. On March 20, the U.S. Supreme Court, in Travelers Casualty &
Surety Co.
of America v. Pacific Gas & Electric Co., 127 S.Ct. 1199 (2007),
settled
this issue by concluding that it does not. Lenders can collect these
fees where
otherwise permitted.
Prior to the bankruptcy proceedings
in this
case, Travelers Casualty & Surety Co. of America ("Travelers"), a
creditor
of the debtor, had issued a surety bond on the debtor's behalf
guaranteeing the
debtor's payment of state worker's compensation benefits. Travelers
filed a
claim in the debtor's subsequent bankruptcy proceeding to protect itself
in the
event of the debtor's future default of payment of the workers'
compensation
benefits. The bankruptcy court, the U.S. District Court, and the Ninth
Circuit
Court of Appeals all denied Travelers' application for work done
negotiating the
language in the debtor's post-petition reorganization plan and
disclosure
statement that provided for Travelers' right of indemnification and
indemnity in
the event of default. But the U.S. Supreme Court held that Travelers was
not
precluded from filing an unsecured claim for its contractual attorneys'
fees,
merely by virtue of the fact that the fees sought had been incurred in
litigating issues of
federal bankruptcy law.
This
decision by
the Supreme Court abrogated a prior holding by the Ninth Circuit, In re
Fobian,
951 F.2d 1149, which had held that where the ability to recover
attorneys' fees
was basically one interpreting federal bankruptcy law, attorneys' fees
could not
be recovered even though the dispute arose out of a contract containing
a
provision for the recovery of such fees. This rule (called the "Fobian
rule")
was contrary to the rule applied by the Fourth Circuit Court of Appeals
in In re
Shangri-La, Inc., 167 F.3d 843, 848-49 (C.A.4 1999), and the Supreme
Court
therefore granted certiorari in the Travelers Casualty & Surety Co.
case to
resolve the conflict.
The Supreme Court acknowledged that
generally the "American Rule" does not award attorneys' fees to the
winner of
litigation, but held that the rule does not apply when where the parties
have
entered into an enforceable contract allocating attorneys' fees. The
Supreme
Court stated that the ability to recover attorneys' fees was basically
one of
state law and that "unless some federal interest requires a different
result,
there is no reason why such interests should be analyzed any differently
simply
because an interested party is involved in a bankruptcy proceeding." Id.
at 1205
(quoting Butner v. United States, 440 U.S. 48, 57 (1999)). The court
also found
that there was nothing in the Bankruptcy Code that supported the Fobian
rule and
that the Bankruptcy Code simply directs bankruptcy courts to determine
whether
applicable state law would permit the recovery of attorneys' fees and to
apply
that same result to disputes in bankruptcy proceedings. As a result of
the
Supreme Court'
s ruling, a creditor having a legitimate claim can now
safely
include attorneys' fees (assuming the contract between the parties
allows such
fees) as part of its bankruptcy claim whether or not the fees arise out
of
litigation involving issues of federal bankruptcy law (but the resultant
increase in the amount of the claim will not alter the relative priority
or
ultimate collectability of the claim).
Reporters
Comment 1:
Interestingly, the Supreme Court refused to consider the debtor's
argument that
506(b) of the Bankruptcy Code disallows unsecured claims for
contractual
attorneys' fees where -- as in this case -- the creditor's entire claim
was
unsecured. (Section 506(b) authorizes claims for contractual attorneys'
fees to
the extent the creditor is oversecured, but disallows such claims to the
extent
the creditor is either not oversecured or completely unsecured.) The
court
stated that the debtor had not raised or addressed this argument in the
courts
below and that the debtor "has failed to identify any circumstances that
would
warrant an exception to that rule in this case." Id. at 1207. The court
further
stated that in this particular case "[w]e granted certiorari to resolve
a
conflict among the lower courts regarding the Fobian rule, which is
analytically
distinct from, and fundamentally at odds with, [the debtor's] reading of
506."
Id. The court reasoned that such
a reading of 506 "would
prohibit all
unsecured creditors from recovering contractual postpetition attorneys'
fees in
bankruptcy proceedingsE2=80=93 even if those fees were incurred while
litigating
issues of state law." Id. at n.4. The court was careful, however, to
state that
"[w]e conclude only that the Court of Appeals erred in disallowing that
claim
based on the fact that the fees at issue were incurred litigating issues
of
bankruptcy law." Id. at 1208.
Reporters Comment
2: Section
506(b) of the Bankruptcy Code permits a secured creditor, to the extent
that its
claim is oversecured, to collect interest on such claim and any
reasonable fees
(including attorneys' fees, costs, and charges) that are provided for in
the
loan documents. See, e.g., In re Foertsch, 167 B.R. 555, 562 (Bankr.
D.N.D.
1994) (holding, in context of request for recovery of attorneys' fees,
that in
order to recover "fees, costs and charges" under 506(b), creditor
must
establish: (1) that it is oversecured in excess of the amount requested;
(2)
that the amount requested is reasonable; and (3) that the agreement
giving rise
to the claim provides for recovery of the fee, cost or charge
requested); In re
Udhus, 218 B.R. 513, 517 (9th Cir. B.A.P. 1998) (same, with respect to
claim by
creditor for "administrative costs"); In re Direct Transit, Inc., 226
B.R. 198,
201, 203 (8th Cir. B.A.P. 1998) (ruling that 506(b) permits a
claim for
additional charges if the c
laim is oversecured, the charge is
provided for
in the agreement, and it is reasonable; In re Hyer, 171 B.R. 67, 70
(Bankr. W.D.
Mo. 2004) (holding that oversecured creditor is entitled to enforce
valid
contractual obligation for payment of attorneys' fees where an
attorneys' fee
provision is included in the debt instrument, as long as the fees
requested are
reasonable.)
Reporters Comment 3: The
oversecured creditor
generally can collect attorneys' fees even if applicable state law
prohibits the
collection of such fees by the creditor. See, e.g., In re Hyer, supra,
171 B.R.
69 (stating that "506(b) allows an oversecured creditor to recover
attorneys'
fees if they are provided in the security agreement, notwithstanding
Kansas
law." [Note: The Kansas Legislature amended Kan. Stat. Ann.
58-2312 in 1994,
to allow the inclusion of attorneys' fee provisions in notes, mortgages
or other
credit agreements. 1994 Kan. Sess. Laws Ch. 276, 3]); In re
American Metals
Corp., 31 B.R. 229, 234 (Bankr. D. Kansas 1983) (same); In re Schriock
Const.,
Inc., 104 F.3d 200, 203 (8th Cir. 1997) (holding that attorneys' fees
provisions
in loan documents are enforceable in bankruptcy even though state law
prohibits
them).
Reporters Comment 4: Another issue that
bankruptcy courts
have wrestled with is whether the "reasonableness" of the charges under
506(b)
is determined by state or federal lawE2=80=93 or both. See, e.g., In
re Dixon, 228
B.R. 166, 177 (Bankr. W.D. Va. 1998) ("[t]he reasonableness of charges
under
506(b) is determined by reference to the relevant state contract law").
But see
In re 268 Ltd., 789 F.2d 674, 676-77 (9th Cir. 1986) (applying single
federal
standard of "reasonableness" with respect to issue of whether an
attorneys' fees
provision is allowable under 506(b)); cf. In re Hudson
Shipbuilders, 794 F.2d
1051, 1058 (5th Cir. 1986) (holding that fees otherwise enforceable
under state
law were still subject to 506(b)'s requirement that fees be
"reasonable"); In
re Hyer, supra, 171 B.R. at 71 ("11 U.S.C. 506(b) is not
dependent upon state
law. 11 U.S.C. 506(b) allows the recovery of reasonable
attorneys' fees to an
oversecured creditor if they are provided for in the underl
ying
agreement,
which is the case herein").
Reporters Comment 5:
Bankruptcy
courts also have reached conflicting results with respect to the issue
of
whether 506(b) applies only to post-petition (as opposed to
pre-petition and
post-petition) fees and charges. See, e.g., In re Nunez, 317 B.R. 666,
670
(Bankr. D. Pa. 2004) ("We hold that section 506(b) applies only to
post-petition
interest, fees and costs sought as part of a secured claim. Quite
simply,
interest, fees and costs arising pre-petition are already a part of a
secured
creditor's proof of claim in the first instance, rendering section
506(b)
inapplicable"). But see In re Hyer, supra, 171 B.R. 70 ("When an
oversecured
creditor is entitled to enforce a valid contractual obligation for the
payment
of attorneys' fees, 11 U.S.C. 506(b) applies whether the
attorneys' fees were
incurred before or after the filing of the bankruptcy petition."). Cf.
Laxa v.
United States (In re Laxa), 312 B.R. 394, 398 (D. Ariz. 2003) ("While
post-petition charges, including penaltie
s, may be included in a
secured
claim only as authorized by section 506(b), pre-petition charges,
including
penalties, are properly included as part of the secured claim"
(citations
omitted)). See also In re Leatherland Corp., 302 B.R. 250, 256-57
(Bankr. D.
Ohio 2003) ("Even though they all assert they are interpreting the plain
meaning
of the statute . . . courts have arrived at differing conclusions as to
whether
506(b) applies to prepetition as well as to postpetition fees,
costs and
charges" (citations omitted)).
Reporters Comment
6: It is
incomprehensible that the debtor's attorneys did not argue, at any stage
during
the proceedings in the lower courts, the applicability and relevance of
506(b)
of the Bankruptcy Code in this particular matter. The debtor was
therefore
barred from raising this important issue before the Supreme Court, even
though
Travelers' entire claim was unsecured. The Supreme Court seems to have
vacillated on how it would have ruled if this issue had been properly
raised,
and was careful to clearly limit its holding to overturning the Fobian
rule.
Reporters Comment 7: Lenders should be
careful to request
specifically, in state foreclosure proceedings, that attorneys' fees and
other
charges and fees (such as a prepayment premium) provided for in the note
and/or
mortgage be specifically included in the foreclosure judgment so that
the state
court will allow such fees and charges and bankruptcy courts will permit
collection of such fees and charges if a bankruptcy proceeding is
subsequently
filed by or against the mortgagor. See, e.g., In re McClung (Bankr.
D.Kan., Dec.
11, 2003), ("If [the lender] wished to assert its right, under the note
and
mortgage that were the subject of the suit, to a prepayment penalty, it
was
required to raise the issue in the foreclosure proceeding it commenced
in state
court, or be forever barred").
The reporter for this item
was
Jack Murray of the First American Title Insurance Company in
Chicago.
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