The bankruptcy judges in the Western District of Kentucky have effectively banned so-called bifurcated fee arrangements where chapter 7 debtors pay counsel fees after filing. The October 5 opinion by Bankruptcy Judge Joan A. Lloyd of Louisville, Ky., also bars lawyers from advancing the filing fee before filing and collecting the filing fee after filing.
Although the decision by Judge Lloyd largely follows holdings by Bankruptcy Judge Laurel M. Isicoff of Miami, Judge Lloyd declined to adopt Judge Isicoff’s decision to allow bifurcated fee arrangements so long as disclosures are up to snuff. See In re Brown, 631 B.R. 77 (Bankr. S.D. Fla. June 16, 2021). To read ABI’s report on Brown, click here.
Judge Lloyd declined to follow one of her sister judges from the Eastern District of Kentucky who allowed the use of bifurcated fee arrangements in certain delineated circumstances. See In re Carr, 613 B.R. 427 (Bankr. E.D. Ky. 2020). To read ABI’s report on Carr, click here.
Judge Lloyd discussed the issue with the other judges in her district, who agreed that her legal conclusions would be the opinion of all judges in the district.
The Arrangement to Pay Fees After Filing
The fee bifurcated arrangement on review by Judge Lloyd was the most aggressive that a debtor’s lawyer could employ. The arrangement was designed as an end run on Lamie v. U.S. Trustee, 540 U.S. 526, 538 (2004), where the Supreme Court held that a chapter 7 lawyer cannot require the debtor to pay for post-petition services after filing if the obligation arose pre-petition.
Judge Lloyd was reviewing a dozen chapter 7 cases filed by the same lawyer. The debtor-clients paid nothing before filing. The lawyer even advanced the filing fee before filing.
The client signed two engagement agreements, one before filing and one afterward. Under the prefiling agreement, the client paid nothing. However, the lawyer interviewed the client, prepared and filed the petition, paid the filing fee and filed a list of creditors. The client was not obligated to sign a post-filing engagement agreement.
When the client signed the post-filing agreement, the lawyer became obligated to prepare and file the other required documents and attend the meeting of creditors. The post-filing agreement did not require the lawyer to appear in adversary proceedings.
Under the post-filing agreement, the client became obligated to pay a total of $2,500 in monthly installments in the first year after filing. In addition to the lawyer’s services, the payments covered the $335 filing fee paid by the lawyer before filing.
Unknown to the client, the lawyer had a factoring agreement with a secured lender. Immediately after filing, the lender would pay the lawyer 60% of the $2,500 fee. The lender collected the client’s monthly payments and had a security interest in the lawyer’s receivables.
For its services, the lender was entitled to retain 25% of collections from the client. The lender retained another 15% of the fee to cover its advances under the $50,000 line of credit with the lawyer.
In her opinion, Judge Lloyd said that the same lawyer “consistently charged” a $1,250 flat fee for clients who paid the entire fee before filing.
After an initial hearing about the fee arrangements, Judge Lloyd required the lawyer to seek an ethics opinion from the Kentucky Bar Association. The bar group declined to offer an opinion, for a variety of reasons.
The fee and factoring arrangements failed on many levels. Judge Lloyd found multiple violations of the Bankruptcy Code, the Bankruptcy Rules and the Kentucky Rules of Professional Conduct.
Lawyer Can’t Walk Away After Filing the Petition
Judge Lloyd said that the factoring agreement was “clearly designed to defeat existing bankruptcy law and rules enacted over at least a century ago to protect debtors, and all the machinations inherent in its processes will not save it from review and censure. Further, the Kentucky Rules of Professional Conduct are no less forgiving to counsel.”
Judge Lloyd was no less critical about the notion that the lawyer has no obligations after filing if the client declines to sign a post-filing engagement agreement. Under the local rules, she said that filing the petition obligated the lawyer to perform all services in the ensuing chapter 7 case. In other words, the client’s failure to sign the post-petition engagement agreement could not relieve the lawyer from the obligation to prepare and file the remaining required papers and represent the client in the chapter 7 case, other than in adversary proceedings.
Furthermore, the client’s obligation to repay the $335 filing fee after filing was a discharged debt that the lawyer could not collect after filing.
More particularly, Judge Lloyd held that advancing the filing fee and the concomitant repayment obligation in the post-filing agreement violated both the Bankruptcy Code and the Kentucky ethics rules. In addition to violating the automatic stay and the discharge injunction, advancing the filing fee violated Section 526(a)(4), because the lawyer was advising the client to incur more debt in advance of bankruptcy.
Judge Lloyd saw a “serious conflict of interest” when the lawyer asked the client to sign the post-petition agreement although the lawyer was already obligated to perform the post-filing services and was barred from collecting the filing fee.
Judge Lloyd concluded that the lawyer made inadequate disclosure about the bifurcated agreement and none regarding the factoring arrangement. She said, among other things, that the client was paying far more for representation and had no role in negotiating the factoring costs that raised the price for the debtor. The failure to disclose the factoring agreement was “[p]articularly troublesome,” Judge Lloyd said.
Judge Lloyd concluded that the factoring agreement violated the Bankruptcy Code, the Bankruptcy Rules, the local rules, and the state’s ethics rules. With regard to the factoring agreement, Judge Lloyd said “it is doubtful that any amount of disclosure can remedy the problem.”
Judge Lloyd also identified undisclosed fee-splitting as a consequence of the factoring agreement, a failure of disclosure in the lawyer’s Rule 2016 disclosure, and a violation of Section 329. She said that the failure to disclose was “particularly troubling” because the client was being charged “a higher fee” than someone who paid in advance of filing.
Finally, Judge Lloyd held that the fee was not “reasonable,” given the $1,250 flat fee the same lawyer would charge clients who paid in advance of filing.
Judge Lloyd said that similar arrangements may not be used “by any attorney” in the district.
For a client who can’t pay the filing fee in advance of filing, Judge Lloyd noted at the end of her opinion that debtors may pay the filing fee in installments or ask for a waiver of the fee. To pay counsel fees after filing, she said that debtors can use chapter 13.
The bankruptcy judges in the Western District of Kentucky have effectively banned so-called bifurcated fee arrangements where chapter 7 debtors pay counsel fees after filing. The October 5 opinion by Bankruptcy Judge Joan A. Lloyd of Louisville, Ky., also bars lawyers from advancing the filing fee before filing and collecting the filing fee after filing.
Although the decision by Judge Lloyd largely follows holdings by Bankruptcy Judge Laurel M. Isicoff of Miami, Judge Lloyd declined to adopt Judge Isicoff’s decision to allow bifurcated fee arrangements so long as disclosures are up to snuff. See In re Brown, 631 B.R. 77 (Bankr. S.D. Fla. June 16, 2021). To read ABI’s report on Brown, click here.
Judge Lloyd declined to follow one of her sister judges from the Eastern District of Kentucky who allowed the use of bifurcated fee arrangements in certain delineated circumstances. See In re Carr, 613 B.R. 427 (Bankr. E.D. Ky. 2020). To read ABI’s report on Carr, click here.
Judge Lloyd discussed the issue with the other judges in her district, who agreed that her legal conclusions would be the opinion of all judges in the district.