The Bankruptcy Code can stack the odds against a creditor, even one with an otherwise valid claim. Here’s an example:
A creditor’s post-petition claim under state law against a trustee for attorneys’ fees, otherwise valid under state law, does not give the creditor an administrative claim for lack of benefit to the estate, according to Bankruptcy Judge Sarah A. Hall of Oklahoma City.
Well before bankruptcy, the debtor made a claim on its insurance carrier. The insurer denied coverage. In bankruptcy, the debtor scheduled a potential claim against the insurer.
The chapter 7 trustee later sued the insurance company in state court and lost. The state court’s judgment in favor of the insurance company included about $370,000 in attorneys’ fees under an Oklahoma fee-shifting statute.
The insurer filed an administrative claim in the chapter 7 case. The trustee objected and won in Judge Hall’s September 29 opinion.
Judge Hall first decided whether the claim was pre-petition or post-petition. To resolve questions of the type, she said that the Tenth Circuit has adopted the “conduct theory,” and not the “accrual theory.” She added that bankruptcy law, not state law, determines when a claim arises.
Judge Hall said that a claim is pre-petition if there was pre-petition conduct that gave rise to the claim.
In the case before Judge Hall, the claim for attorneys’ fees did not arise under the contract and did not arise when the insurer denied the claim before bankruptcy. Rather, the insurer had a contingent claim when the trustee sued during the course of the chapter 7 case.
Judge Hall therefore held that the claim arose pre-petition.
Even though the claim was pre-petition, Judge Hall was required to decide whether the insurer held a “claim” and was therefore a “creditor.”
Relevant to the case at hand, Section 101(10)(A) defines a “creditor” as an “entity that has a claim against the debtor that arose at the time of or before the order for relief concerning the debtor.” [Emphasis added.]
Judge Hall said that the insurer “holds only a post-petition claim and, therefore, ‘cannot be a creditor, cannot file a proof of claim, and, even if [the insurer] could file one, it cannot by definition have an ‘allowed’ claim as of the petition date.” She therefore disallowed the insurer’s claim as a post-petition claim.
Judge Hall said that the insurer could receive payment from the estate “only if” it would be entitled to an administrative expense. However, administrative expenses are narrowly defined in the Tenth Circuit.
To have an administrative claim, the claim must have arisen from a transaction with the estate and must be directly and substantially beneficial to the estate, Judge Hall said, citing authority.
Although the fee award arose from a transaction with the estate, Judge Hall said it was “far from directly benefitting the estate.” Indeed, she said it was “against the bankrupt estate.” [Emphasis in original.]
For having provided no benefit to the estate, Judge Hall said that the insurer would be entitled to an administrative claim only if there were an exception. In that regard, she cited the Supreme Court’s decision in Reading Co. v. Brown, 391 U.S. 471 (1968).
In Reading, negligence by a receiver conducting the business of a debtor under “old” Chapter XI of the Bankruptcy Act caused fire damage to the property of an adjoining landowner. Out of “fairness,” the Court held that “damages resulting from the negligence of a receiver acting within the scope of his authority as receiver give rise to ‘actual and necessary costs’ of a Chapter XI arrangement.” Id. at 485.
Since the Tenth Circuit narrowly interprets administrative priorities, Judge Hall said that her circuit “has declined to expand Reading’s so-called ‘fundamental fairness’ doctrine.” Similarly, she cited the Fifth Circuit for having held there is no administrative claim for a trustee’s good faith attempt to liquidate the estate.
From the authorities, Judge Hall held there will be an administrative priority under Reading if there is a post-petition claim arising from the operation of the business and “tortious or otherwise wrongful conduct.”
Judge Hall saw no unfairness to the insurer from denial of the claim for attorneys’ fees given the so-called American rule that each party bears its own expenses. To apply Reading, she said, “would require this Court to broaden the exception far beyond what the Tenth Circuit (and the majority of other circuits) would allow.”
Furthermore, Judge Hall said, granting an administrative priority would have a “chilling effect” on trustees in pursuing “legitimate claims.”
Judge Hall disallowed the insurer’s claim as a post-petition claim and as a claim for an administrative expense.
The Bankruptcy Code can stack the odds against a creditor, even one with an otherwise valid claim. Here’s an example:
A creditor’s post-petition claim under state law against a trustee for attorneys’ fees, otherwise valid under state law, does not give the creditor an administrative claim for lack of benefit to the estate, according to Bankruptcy Judge Sarah A. Hall of Oklahoma City.
Well before bankruptcy, the debtor made a claim on its insurance carrier. The insurer denied coverage. In bankruptcy, the debtor scheduled a potential claim against the insurer.
The chapter 7 trustee later sued the insurance company in state court and lost. The state court’s judgment in favor of the insurance company included about $370,000 in attorneys’ fees under an Oklahoma fee-shifting statute.
The insurer filed an administrative claim in the chapter 7 case. The trustee objected and won in Judge Hall’s September 29 opinion.