On March 13, 2015, on remand from the Fifth Circuit, the U.S. Bankruptcy Court for the Western District of Texas allowed a trustee’s claim for a foreclosure commission under 11 U.S.C. § 502, but the court denied the mortgagee’s § 502 attorneys’ fees claim.[1] Both claims had previously been found unreasonable under § 506.
Background
The debtor borrowed money from Wells Fargo to purchase an office building. After defaulting on its loan, the debtor tried to fend off foreclosure by filing a chapter 11 bankruptcy case. The debtor was unsuccessful in its attempts to sell the property, and Wells Fargo ultimately obtained relief from the automatic stay to have the trustee under the deed of trust post the subject property for foreclosure.
The property sold for $4.355 million, leaving a $240,464 surplus. The deed of trust securing the property provided for recovery of attorneys’ fees and a 5 percent foreclosure commission. Wells Fargo sought reimbursement of its attorneys’ fees, and the trustee sought recovery of the foreclosure commission.
The lower court initially found only $7,500 of the commission and none of the attorneys’ fees reasonable under § 506.[2] The Fifth Circuit upheld the § 506 findings, but remanded the case to have the bankruptcy court consider whether the remainder of the commission or any of the attorneys’ fees could be allowed as unsecured claims under § 502, and if so, whether they were still allowable after previously being disallowed under § 506.[3]
Analysis
Are These Types of Claims Allowable Under § 502?
The bankruptcy court first looked at the procedural hurdles before it. The trustee had filed a proof of claim in the amount of $217,750, representing her 5 percent commission, and Wells Fargo had filed a proof of claim that included $83,326.80 in legal fees. If a creditor files a proof of claim, the claim is deemed allowed,[4] but because the debtor filed objections to both claims and sufficiently rebutted any presumption of their validity, the burden fell on Wells Fargo and the trustee to produce evidence to support their claims.[5]
When a party in interest objects to a § 502 claim, the court determines the amount of the claim as of the petition date unless it falls under one of nine exceptions.[6] The only exception relevant in this case was located in § 502(b)(1), which states that “such claim is unenforceable against the debtor and property of the debtor, under any agreement or applicable law for a reason other than because such claim is contingent or unmatured.”[7] The Supreme Court has found that § 502(b)(1) should be interpreted “with the settled principle that ‘[c]reditors’ entitlements in bankruptcy arise in the first instance from the underlying substantive law creating the debtor’s obligation, subject to any qualifying or contrary provisions of the Bankruptcy Code.’ That principle requires bankruptcy courts to consult state law in determining the validity of most claims.”[8]
With regard to Wells Fargo’s claim for attorneys’ fees, Texas law requires the fees to be reasonable after considering numerous factors.[9] A long analysis of the factors was not required here, as Wells Fargo failed to present legal invoices, contemporaneous time records or substantive testimony; it relied solely on statements and testimony that it was billed $83,327 in legal fees.[10] The court found that without evidence on the factors, it had “no meaningful way to determine if the fees were in fact reasonable and necessary.”[11] Therefore, Wells Fargo’s § 502 claim for attorneys’ fees was not enforceable.[12]
In contrast, the trustee provided ample undisputed documentation to support her § 502 claim, as well as testimony regarding the documents, her appointment and the commission. The debtor also agreed to the 5 percent commission by executing the deed of trust and by conceding that it was reasonable at the remand hearing. Under the deed of trust and state law, the court held that the trustee’s § 502 claim for the remainder of her commission was allowable.[13]
Does Disallowance of a Claim Under § 506 Foreclose Allowance Under § 502?
The debtor’s primary argument for disallowance under § 502 was that § 506(b) was the only way that fees and costs could be allowed for an oversecured claim. The Fifth Circuit found the argument problematic, noting that the First, Eleventh and Ninth Circuits had already analyzed the issue and determined that disallowance under § 506 does not foreclose allowance under § 502.[14] On remand, the bankruptcy court performed its own detailed analysis.
The bankruptcy court first compared the statutes and found § 506(b) to be narrow in that it only addresses oversecured claims.[15] In contrast, § 502 addresses the allowance or disallowance of all claims that can be filed against an estate. The court also found that when “Congress intended to provide an exception to the general allowance provisions of § 502, it did so expressly in § 502(b), and § 506 is not one of the exceptions listed in section 502(b).”[16] Furthermore, § 506 is silent on what would happen to a claim that is disallowed as a secured claim.[17]
Next, the bankruptcy court turned to the Supreme Court’s unanimous decision in Travelers Casualty & Surety Co. of America v. Pacific Gas & Electric Co. [18] for further guidance. Travelers was instructive because it looked at the text of § 502 and the § 101(5)(A) definition of “claim,” holding that courts should allow claims against an estate if the claims are enforceable under substantive nonbankruptcy law, unless one of the exceptions contained in § 502(b) applies.[19]
Reading Travelers in conjunction with the well-settled rule that a federal test of “reasonableness” applies to the allowance of claims under § 506 clearly establishes that separate and distinct tests apply under each section.[20] Simply put, different tests apply under §§ 502 and 506.[21] Therefore, the test under § 502 is not whether claims are reasonable, but whether they are enforceable. Consequently, the bankruptcy court determined that disallowance of a claim under § 506 does not independently foreclose allowance under § 502.
Conclusion
The bankruptcy court found that disallowance under § 506 did not foreclose enforceability of a creditor’s claim under § 502. After determining that all procedural requirements were satisfied, the court found that the trustee’s claim for the remainder of her foreclosure commission was allowable under § 502, because the claim was enforceable under the deed of trust and state law and did not fall within any of the exceptions listed in § 502(b). In contrast, the mortgagee’s claim for attorneys’ fees was disallowed under § 502 because the mortgagee provided no evidence to support the fees pursuant to the standard prescribed by Texas law.
[1] Wells Fargo Bank N.A. v. 804 Congress L.L.C. (In re 804 Congress L.L.C.), Case No. 10-12184-tmd (Bankr. W.D. Tex. Mar. 13, 2015) [Docket No. 211].
[2] Id. at *2, n.2 and 3.
[3] Wells Fargo Bank N.A. v. 804 Congress L.L.C. (In re 804 Congress L.L.C.), 756 F.3d 368, 377-80 (5th Cir. 2014).
[4] 11 U.S.C. § 502(a).
[5] 804 Congress L.L.C., Case No. 10-12184-tmd, at *5-7.
[6] 11 U.S.C. § 502(b); Travelers Cas. & Sur. Co. of Am. v. Pac. Gas & Elec. Co., 549 U.S. 443, 449 (2007).
[7] 11 U.S.C. § 502(b)(1).
[8] Travelers, 549 U.S. at 444 (internal citation omitted).
[9] 804 Congress L.L.C., 756 F.3d at 377-78 (citing Garcia v. Gomez, 319 S.W.3d 638, 646 (Tex. 2010)).
[10] 804 Congress L.L.C., Case No. 10-12184-tmd, at *12.
[11] Id. (citing Arthur Anderson & Co. v. Perry Equip. Corp., 945 S.W.2d 812, 818 (Tex. 1997) (citing Tex. Disciplinary R. Prof. Conduct 1.04, reprinted in Tex. Gov’t Code, tit. 2, subtit. G. app. (State Bar Rules, art. X, § 9))).
[12] Id. at *13.
[13] Id. at *13-14; 804 Congress L.L.C. 756 F.3d at 376 (citing Adams v. First Nat’l Bank of Bells/Savoy, 154 S.W.3d 859, 874 (Tex. App.-Dallas 2005, no pet.) (enforcing 5 percent commission provision)); see also Airline Commerce Bank v. Commercial Credit Corp., 531 S.W.2d 171, 176 (Tex. App.-Houston [14th Dist.] 1975, writ ref’d n.r.e.) (same)).
[14] 804 Congress L.L.C., 756 F.3d at 378-80 (citing UPS Capital Bus. Credit v. Gencarelli (In re Gencarelli), 501 F.3d 1, 5 (1st Cir. 2007); Welzel v. Advocate Realty Invs. L.L.C. (In re Welzel), 275 F.3d 1308, 1317-18 (11th Cir. 2001); Joseph F. Sanson Inv. Co. v. 268 Ltd. (In re 268 Ltd.), 789 F.2d 674, 678 (9th Cir. 1986)).
[15] 11 U.S.C. § 506(b).
[16] 804 Congress L.L.C., Case No. 10-12184-tmd, at *17 (citing SNTL Corp. v. Centre Ins. Co. (In re SNTL Corp.), 571 F.3d 826, 841-45 (9th Cir. 2009)).
[17] Id. at *18, n.93 (citing SNTL, 571 F.3d at 842 (“Section 502(b), which applies to claims generally, does disallow unmatured interest (see 11 U.S.C. § 502(b)(2)); it does not specifically disallow attorneys’ fees of creditors or certain other charges. Section 506(b), on the other hand, specifies what may be included in a secured claim.”); Gencarelli, 501 F.3d at 5 (“There is universal agreement that whereas section 506 furnishes a series of useful rules for determining whether and to what extent a claim is secured (and, therefore, entitled to priority), it does not answer the materially different question of whether the claim itself should be allowed or disallowed…. Rather, the general rules that govern the allowance or disallowance of claims are set out in section 502.” (internal citation omitted)).
[18] 549 U.S. 443 (2007).
[19] Id. at 452-53.
[20] Id. at 445; see also Welzel, 275 F.3d at 1315 (citing First W. Bank & Trust v. Drewes (In re Schriock Constr. Inc.), 104 F. 3d 200 (8th Cir. 1997); 268 Ltd., 789 F.2d at 675-76; Unsecured Creditors’ Comm. 82-00261C-11A v. Walter E. Heller & Co. S.E. Inc. (In re K.H. Stephenson Supply Co.), 768 F.2d 580 (4th Cir. 1985)); Blackburn-Bliss Trust v. Hudson Shipbuilders Inc. (In re Hudson Shipbuilders Inc.), 794 F.2d 1051, 1056-57 (5th Cir. 1986).
[21] SNTL, 571 F.3d at 842 n. 17; Welzel, 275 F.3d at 1314-16 (discussing reasonableness standard under § 506(b) versus enforceability standard under state law); see also Hudson Shipbuilders, 794 F.2d at 1058 (finding that bankruptcy courts should determine “reasonableness” under § 506 using the factors set forth in Am. Benefit Life Ins. Co. v. Baddock (In re First Colonial Corp. of Am.), 544 F.2d 1291, 1299 (5th Cir. 1977).