Daily Development for
Thursday, January 16, 1996

by: Patrick A. Randolph, Jr.
Professor of Law
UMKC School of Law

BANKRUPTCY; ATTORNEY'S FEES: Attorney's fee provisions are enforceable in bankruptcy even though state law outlaws them.

First Western Bank & Trust v. Drewes (in re schriock Const., Inc.) #95-4005, ___ F.3d ____ (8th Cir. 1997)

Debtor executed a series of security agreements with Bank that provided that Debtor was obligated "on demand for all costs of collection" including, specifically, attorney's fees. State law (North Dakota) provided specifically that such provisions are void. North Dakota Century Code Sec. 26-06-04.

When Debtor declared bankrupcy, Bank attempted to enforce the attorney's fee provision pursuant to Bankruptcy Code Section 506(b), which provides that oversecured creditors are permitted to recover certain postpetition costs:

"To the extent that an allowed secured claim is secured by property the value of which, after any recovery under subsection (c ) of this section, is greater than the amount of such claim, there shall be allowed to the holder of such claim, interest on such claim, and any reasonable fees, costs or charges provided for under the agreement under which such claim arose."

The Eighth Circuit ruled here that even though the attorney's fee provision was void ab initio as a matter of North Dakota law, it was enforceable in the bankruptcy proceeding because the Bank merely had to show that the agreement "provided for" attorney's fees. The court, relying upon excerpts from legislative reports, reasoned that it was the clear intent of section 506(b) to provide for such a creditor's right in this case.

The court dismissed the debtor's argument that the parties had elected to subject the contract to North Dakota law because the documents included a choice of law clause selecting North Dakota law. The court stated that "Section 506(b) does not require creditors to forego the common contractual tool of choice of law provisions in order to have the benefit of federal bnakruptcy law."

Comment 1: Although the court describes its ruling as supported by "the clear majority," in fact most of the cases it cites are distinguishable, but one consistent case is in re Hyer, 171 B.R. 67 (W.D. Mo. 1994).

Comment 2: The answer the court gives to the problem of the choice of law clause is really no answer at all. If the parties have elected North Dakota law, then clearly they have contracted that the attorney's fee agreement not be enforced. A better answer might be the answer given in the noted U.S. Supreme Court opinion in de la Cuesta, which held due on sale clauses enforceable in federal savings and loan association mortgages notwithstanding California state law to the contrary and notwithstanding choice of law clauses in those mortgages electing California state law. The Supreme Court stated, in a nutshell, that the election of California law was in fact also an election of federal law as well, to the extent that federal law dealt with special situations such as federal associations. The same argument could be made here concerning federal bankruptcy law.

Comment 3: Compare: In re Kroh Brothers Devel. Co., 88 B.R. 997 (W.D. Mo. 1988) (relies upon state law to disallow oversecured creditor's 506(b) claim for a pre-payment penalty.)

Comment 4: The problem with legislative reports as the basis for drawing out the intent of the Congress is that the intellectual corruption that appears to pervade our Congress has reached the process of legislative history. Reports are filed willy-nilly, in all manner of committeee and forums, by various groups of legislators, some written and filed even after the passage of legislation, replete with self-serving language characterizing the intent of the legislation. These reports are often contradictory, and certainly most of those voting on the legislation have no exposure to them at all. To borrow from Mark Twain: "There are lies, damn lies, and legislative history."

Comment 5: Notwithstanding all of the above, the editor has little problem with the result. If the Congress really does want to provide for attorney's fees, it can do so whether the contract provides for it or not, and the Congress can certainly elect to use language in the instrument as the "trigger" to impose attorney's fees. If the editor were drafting these documents in North Dakota, the editor would provide that attorney's fees were payable "except as otherwise provided by law," simply because the editor is uncomfortable drafting contract language that specifically violates the generally applicable law.

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