Authorize requests for lawyer’s fees, or not, in the event of bankruptcy (In re HTO & In re Sylvester)

Question: What causes a claim for attorney’s fees to be allowed or denied in bankruptcy?

Short answer: Services (i) must be “necessary” and (ii) must require legal expertise.

Two recent reviews

Two recent opinions address this issue:

Each of these opinions deals with a request for fees by a lawyer for a trustee in bankruptcy. A notice authorizes the application of charges (In re HTO Architect), while the other does not (In re Sylvester).

The following is a summary of each opinion and the facts and justifications for authorizing (or not) the request for fees filed by the trustee’s lawyer. The two opinions, together, provide a way forward for lawyers.

In re HTO Archeck

The debtor initially files a petition in Chapter 11, then converts to Chapter 7, and the trustee hires a court-approved attorney.

The trustee collects funds totaling $359,633.73, of which $290,000 comes from avoided transfers. This amount will not provide distribution to unsecured creditors, but:

  • The debtor’s estate would have been administratively insolvent had it not been for the successful efforts of the trustee’s attorney.

The lawyer is asking for fees of $133,566.00 and costs of $3,827.97. An unsecured creditor opposes it.

The bankruptcy court awards the requested costs. Here is its reason for being.

–Legal standard (necessity)

Below §330legal services and fees must be “necessary”, which is determined in terms of when the services were rendered.

The “necessary” test is whether the services provided were “reasonably likely to benefit the estate”. This is an objective test that begs the question: what services would a reasonable lawyer have rendered in these circumstances?

The court may reduce or deny the requested fee where, (i) “the underlying services have conferred no real benefit to the estate” or (ii) “the request is based on incomplete or inaccurate time records”.

Time spent preparing expense claims is compensable – there is “no specific cap on the allowable amount charged for expense claim preparation”, but the 3-5% range is a “helpful measure “.

Royalty requests must also meet Fed.R.Bankr.P. 2016 requirements, including:

  • “a detailed statement of (1) services rendered, time spent and expenses incurred, and (2) sums requested”; and
  • disclosure of (i) previous payments to the claimant, (ii) any indemnification agreement between the claimant and the client, and (iii) any sharing of indemnification.

– Decision and conclusions

The lawyer’s request is authorized. Here are the reasons why:

  • The lawyers are voluntarily reducing their fees for preparing the request to $5,000, or 3.74% of the overall fees requested;
  • Lawyers agree not to charge for various services; and
  • $91,164.50 of the $133,566.00 request is for litigation services, the remainder for case administration, asset analysis, collection and disposition, etc.

In re Sylvester

–Summary of the Fifth Circuit

Sharon Sylvester files for bankruptcy. At the end of his case, the bankruptcy court orders him to pay certain fees to his Chapter 7 trustee’s attorney.

Sylvester argues that the bankruptcy court applied the wrong legal standard. We agree and cancel the price.

–Context: allowable fees below

Sharon Sylvester’s bankruptcy goes smoothly: all claims are paid in full and funds are returned to Sylvester.

The trustee’s lawyer filed a request for fees in the amount of $16,185. Sylvester opposes this, arguing that the services rendered fall under the trustee’s legal obligations and do not require legal expertise.

The bankruptcy court rejects Sylvester’s objection and grants the attorney’s request, even though the court acknowledges:

  • A trustee’s attorney may not be paid for services that coincide or overlap with the trustee’s duties as defined in § 704, except where the complexity or difficulty requires legal expertise; and
  • The attorney’s time entries show that “some of the duties could fall into the broad categories identified as the duties of the § 704(a) administrator.”

The bankruptcy court explains:

  • The “demarcation between” the tasks that a trustee must perform and the tasks that can be delegated to a lawyer “is often not black or white”;
  • This bankruptcy is “particularly successful”, with creditors paid in full and money returned to the debtor; and so
  • Some “wiggle room” is granted in favor of the lawyer’s request.

Sylvester appeals. The district court asserts under “essentially the same reasoning as the bankruptcy court” and “pays particular attention to the ‘positive result’.”

–Fifth Circuit Reversals and Returns

Fifth Circuit Court of Appeals Says: The Bankruptcy Court Failed to Apply the Proper Legal Standard.

The Bankruptcy Code provides that an attorney may only be remunerated under Section 330(a) for legal services—that is to say, only for “activities requiring legal expertise that a trustee would not generally be expected to perform without the assistance of a lawyer”.

Operational statuses include:

  • § 704 directs a trustee to “collect and reduce to money the property of the estate”, “to be responsible for all property received” and “to investigate the financial affairs of the debtor”;
  • § 327 allows the trustee to employ attorneys to assist him;
  • § 330(a) allows “reasonable compensation for necessary services rendered” (emphasis added) — “necessary” refers to services requiring the expertise of a lawyer;
  • Section 326 limits the compensation of a Chapter 7 trustee to a percentage of the funds distributed, which limitation “cannot be circumvented by engaging others to act as trustees”; and
  • § 328 allows a trustee “to exercise the functions of an attorney. . . for the succession” and to be remunerated only for services which require “the assistance of a lawyer”.

Case precedents include:

  • The Fourth Circuit says that “the courts may not compensate an attorney for services required by law by the trustee” except where unique difficulties require legal expertise;
  • According to the Ninth Circuit, only “legal services” can be allowed in a claim for costs under § 330(a); and
  • Bankruptcy courts agree.

In this case, the bankruptcy court failed to apply the proper legal standard:

  • He simply assumed that the tasks identified in the lawyer’s request “required legal expertise”, without making such a determination;
  • Such an assumption becomes inappropriate by combining (i) the conclusion that “some” of the tasks identified in the request might not require legal expertise, and (ii) the fact of not even trying to identify and refuse the services not compensable;
  • It is difficult to distinguish legal services from non-legal services, but the court must at least make the effort;
  • A positive result is not a valid reason to compensate non-legal services; and
  • The onus is on the attorney to justify compensation for the services, and the bankruptcy court allows fees without proof that the services required legal expertise.

Conclusion

Lawyers employed by a bankruptcy estate want to be paid for their services [so says Captain Obvious].

The two notices described above provide collective guidance on what is required for allocation and what may result in parts of an application being refused.

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