An Updated Analysis of Recent Postpetition Attorney s Fees Post-Travelers Decisions

An Updated Analysis of Recent Postpetition Attorney s Fees Post-Travelers Decisions Richard J. Corbi Author s Note: Similar issues, analysis, and case arguments appear in my earlier article: Update: Postpetition Attorney s Fees Following the Supreme Court Decision of Travelers Casualty and Surety Co. of America v. Pacific Gas and Electric Co., 17 Norton J. Bankr. L. & Prac. 339 (April 2008). Supreme Court Decision The Supreme Court, in Travelers Casualty & Surety Co. of America v. Pacific Gas & Electric Co., 1 held that the Ninth Circuit s Fobian 2 rule, which held that claims of creditors for attorney s fees for litigating bankruptcy issues must be disallowed, 3 had no support in section 502 of the Bankruptcy Code or elsewhere. 4 In Travelers, the Supreme Court refused to address the arguments based on other bankruptcy theories as grounds to disallow postpetition attorney s fees pursuant to a prepetition contract because such arguments were neither raised nor addressed in the lower courts. 5 The Supreme Court explained: we express no opinion with regard to whether, following the demise of the Fobian rule, other principles of bankruptcy law might provide an independent basis for disallowing Travelers claim for attorney s fees. 6 The Court remanded Travelers. 7 Since the Travelers decision, courts have split on the allowance of such fees based on various arguments. Other Methods to Disallow Postpetition Fees Pursuant to a Prepetition Agreement Shortly after the Travelers decision, one commentator provided a different method to disallow postpetition attorney s fees pursuant to a The author is an associate in the Bankruptcy & Restructuring Group of the New York City office of Proskauer Rose LLP and may be reached at rcorbi@proskauer.com. The author wishes to thank Professor Richard Lieb of Cooley Godward Kronish LLP of New York City and of the St. John s University School of Law LL.M. in Bankruptcy Program for his guidance. 313

314 Norton Journal of Bankruptcy Law and Practice [Vol. 19 # 3] prepetition fee agreement. 8 Professor Mark Scarberry proposed that the plain meaning of sections 502(b) and 506(a) and (b) provide a threestep system which precludes postpetition attorney s fees on unsecured claims. 9 First, Scarberry explained that section 502(b) allows a claim in an amount determined at the petition date. He contends that there must be instances where the claim would develop after the commencement of the case but is only allowed in its amount as of the petition date, with increased amounts that would be part of the postpetition claim not allowed under section 502(b). 10 Second, the allowed amount of the claim is used in section 506(a), which determines the secured and unsecured amounts of the creditor s claim. 11 Because section 506(a) refers to the allowed amount of the claim of [the] creditor, it is a reference to section 502(b), according to Scarberry. 12 Pursuant to section 506(a), two amounts the allowed amount of the claim and the value of the collateral must be determined, which are then compared and bifurcated, with the allowed claim being secured to the extent of the value of the collateral and any remaining amount creates an unsecured claim. 13 As a result, section 506(a) takes the amount of the allowed claim pursuant to section 502(b) and treats it as completely secured or bifurcates it into a secured and unsecured amount. 14 Third, section 506(b) provides for allowance of an additional amount in particular, fees, interest, and costs beyond the allowed amount under section 502(b). 15 Scarberry points to the words reasonable fees, costs, and charges under section 506(b) which describe what section 506(b) does for an oversecured claim. 16 The fees, costs, and charges shall be allowed under 506(b) in a similar way that postpetition interest is allowed so long as an agreement or statute provides for them. 17 In relying on the U.S. Supreme Court decision of U.S. v. Ron Pair Enterprises, Inc., 18 Scarberry explained that section 506(b) adds interest and fees to the prepetition amount of the claim, and since section 502(b) determines the prepetition amount of the claim, which is as of the date of the filing of the bankruptcy case, the amount of the secured claim held by an oversecured creditor prior to the application of 506(b) cannot include postpetition attorney s fees. 19 Scarberry concluded: Because post-petition fees are not allowed by section 502(b) but rather by section 506(b), we are left with the clear conclusion that post-petition fees cannot be allowed in favor of undersecured creditors or wholly unsecured creditors, neither of whom receive any benefit from section 506(b). That conclusion establishes, as a matter of the plain meaning of sections 502(b), 506(a), and 506(b), as they deal with claims, that post-petition fees are not allowable on unsecured claims. 20

Recent Postpetition Attorney s Fees Post-Travelers Decisions 315 Some courts have addressed these arguments and disagreed with them, most notably, Ogle v. Fidelity & Deposit Co. of Maryland. 21 Ogle v. Fidelity & Deposit Company of Maryland The Second Circuit Court of Appeals decision of Ogle v. Fidelity & Deposit Co. of Maryland 22 held that the Bankruptcy Code does not bar an unsecured claim for postpetition attorney s fees authorized by a prepetition contract valid under state law. 23 The Second Circuit also proceeded to refute the arguments for disallowance put forth by Scarberry which were advanced by the debtors (defined below). 24 In Ogle, Fidelity & Deposit Company of Maryland entered into several agreements with Agway, Inc. (Agway or the Debtors), which required Agway to indemnify Fidelity for attorney s fees that it would incur if it had to enforce the agreements. 25 Pursuant to the agreements, Fidelity provided surety bonds to Agway s insurers, and in turn, Agway indemnified Fidelity for any payments made under the bonds and legal fees in connection with the enforcement of the agreements. 26 Prior to Agway s Chapter 11 bankruptcy filing, it had not defaulted on the payments to the insurers, and as a result, Fidelity s claim was only a contingent right to payment under the agreements. 27 When Agway defaulted on the payments to the insurers, the insurers sought payment from Fidelity, and Fidelity made payments consistent with the bonds. 28 Fidelity incurred legal fees in enforcing the indemnity rights against Agway in litigation. 29 The bankruptcy court ruled that Agway was liable for Fidelity s postpetition fees, which the district court affirmed. 30 The issue before the Second Circuit was whether an unsecured creditor is entitled to recover postpetition attorney s fees pursuant to a prepetition contract when such fees were contingent on postpetition bankruptcy events. 31 The Second Circuit relied on Travelers to explain that section 502(b) (2) does not bar an unsecured creditor s ability to recover postpetition fees when the claim is based on an otherwise enforceable contract allocating fees among the parties and when none of the section 502(b)(2) to (9) exceptions apply. 32 In Ogle, the Second Circuit held that the contract between Agway and Fidelity was enforceable as a matter of state substantive law, none of the section 502(b)(2) to (9) exceptions applied, and, according to Travelers, the Bankruptcy Code is silent as to whether unsecured claims for contract attorney s fees are allowed while litigating issues of bankruptcy law and litigating issues of contract law generally. 33 Therefore, the Second Circuit held that postpetition fees authorized by an enforceable prepetition contract are allowable under section 502(b)(2). 34 Second, the Second Circuit, although acknowledging that it is a fair question as to whether section 506(b) of the Bankruptcy Code expressly disallows Fidelity s claim for attorney s fees either by negative inference

316 Norton Journal of Bankruptcy Law and Practice [Vol. 19 # 3] or otherwise, 35 quickly dismissed such a notion because neither section 506(b) nor the legislative history provides any insight on the status of a contractual claim by an unsecured creditor for attorney s fees. 36 Third, the Ogle court refuted the other reasons that Agway provided in order to disallow the fees. One, Agway relied on United Sav. Ass n of Texas v. Timbers of Inwood Forest Associates, Ltd., a decision that stated that section 506(b) allows an oversecured creditor to receive postpetition interest only out of the security cushion, but that an undersecured creditor who lacks any such cushion falls within the general rule disallowing postpetition interest. 37 The Second Circuit dismissed Agway s reliance on Timbers because while section 502(b) (2) bars claims for unmatured interest, it does not similarly bar (or even reference) claims for postpetition attorneys fees. 38 Next, Agway relied on the statutory construction argument expression unius by attempting to use section 502(e)(2) 39 as a basis to show that it provides an exception to section 502(b) for reimbursement and contribution and therefore provides an exception for the allowance of attorney s fees. 40 The Second Circuit did not draw the same inference by silence or omission from section 502(e)(2) as Agway did because Travelers required the court to presume that claims enforceable under applicable state law will be allowed in bankruptcy unless they are expressly disallowed. 41 Finally, the Second Circuit also dismissed Agway s equality of distribution among creditors policy argument. Specifically, the Second Circuit relied on the United Merchants decision because even though it construed the Bankruptcy Act, not the Bankruptcy Code, its analysis was still relevant: When equally sophisticated parties negotiate a loan agreement that provides for recovery of collection costs upon default, courts should presume, absent a clear showing to the contrary, that the creditor gave value, in the form of a contract term favorable to the debtor or otherwise, in exchange for the collection costs provision. Such a creditor should recover more in the division of the debtor s estate because it gave more to the debtor at the time it made the loan. Rather than providing an undeserved bonus for one creditor at the expense of others, allowing a claim under a collection costs provision merely effectuates the bargained-for terms of the loan contract. 42 Other Arguments Not Addressed by the Parties or Courts Several arguments to disallow the postpetition attorney s fees were addressed in an amicus brief by amici law professors in support of the respondent in Travelers, some of which were addressed by the Ogle

Recent Postpetition Attorney s Fees Post-Travelers Decisions 317 court, while the other arguments have either not been raised by the litigants or been raised by judges in other courts. 43 First, Travelers ignored precedent directly on point and controlling in the Supreme Court s decision in Randolph & Randolph v. Scruggs, 44 which held that a creditor s general unsecured claim for legal fees incurred by the creditor would not be allowed under a prepetition contract if the services were not beneficial to the estate. 45 Scruggs involved a claim for preparing a deed of assignment prior to bankruptcy, in which the deed provided that the assignee would pay reasonable attorney s fees. 46 Four months later, the debtor filed for bankruptcy, and the appointed trustee set aside the deed of assignment. 47 The creditor filed a claim for: professional services rendered in preparing the deed, advising the creditor, defending the state court lawsuit to wind up the corporation, and services rendered in the bankruptcy in resisting the debtor s being adjudicated bankrupt. 48 The Scruggs Court allowed the prepetition claim for preparing the deed of assignment but did not allow any claim that did not benefit the estate. 49 Scruggs emphasized that the services may be allowed so far as they benefited the estate[.] No ground appears for allowing the item for services in resisting an adjudication in bankruptcy. 50 Second, a particular feature of the Bankruptcy Code is the temporal divide between prepetition and postpetition bankruptcy events. For more than a century and a half the theory of the English bankrupt[cy] system has been that everything stops at a certain date. 51 This temporal argument could be used to show that because everything stops at the petition date, postpetition requests for fees based on a prepetition contract claims may be subject to disallowance. Conclusion With the sea of case law on attorney s fees and courts beginning to look at what Travelers did and did not address, it will only be a matter of time before the Supreme Court reviews this issue again in the face of the wave of bankruptcies that have occurred during the past three years where wide-ranging parties from the U.S. government to general unsecured trade creditors are most likely not to be paid in full, thus making every claim for recovery even more contentious. NOTES 1. Travelers Cas. and Sur. Co. of America v. Pacific Gas and Elec. Co., 549 U.S. 443, 127 S. Ct. 1199, 167 L. Ed. 2d 178, 47 Bankr. Ct. Dec. (CRR) 265, 57 Collier Bankr. Cas. 2d (MB) 314, Bankr. L. Rep. (CCH) P 80880 (2007). 2. In re Fobian, 951 F.2d 1149, Bankr. L. Rep. (CCH) P 74399 (9th Cir. 1991) (abrogated by, Travelers Cas. and Sur. Co. of America v. Pacific Gas and Elec. Co., 549 U.S. 443, 127 S. Ct.

318 Norton Journal of Bankruptcy Law and Practice [Vol. 19 # 3] 1199, 167 L. Ed. 2d 178, 47 Bankr. Ct. Dec. (CRR) 265, 57 Collier Bankr. Cas. 2d (MB) 314, Bankr. L. Rep. (CCH) P 80880 (2007)). 3. Fobian, 951 F.2d at 1153. 4. See Travelers, 549 U.S. 443, 127 S. Ct. at 1205-1206. 5. See Travelers, 549 U.S. 443, 127 S. Ct. at 1207 (citing Cooper Industries, Inc. v. Aviall Services, Inc., 543 U.S. 157, 168-169, 125 S. Ct. 577, 160 L. Ed. 2d 548, 59 Env t. Rep. Cas. (BNA) 1545, 34 Envtl. L. Rep. 20154 (2004)). 6. See Travelers, 549 U.S. 443, 127 S. Ct. at 1207-1208. 7. See Travelers, 549 U.S. 443, 127 S. Ct. at 1208. 8. Mark S. Scarberry, Interpreting Bankruptcy Code Sections 502 and 506: Post-Petition Attorney s Fees in a Post-Travelers World, 15 Am. Bankr. Inst. L. Rev. 611 (2007). 9. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 648-652, 657. 10. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 648-649. 11. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 649. 12. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 649. 13. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 649. 14. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 649. 15. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 649. 16. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 650. 17. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 650. 18. U.S. v. Ron Pair Enterprises, Inc., 489 U.S. 235, 109 S. Ct. 1026, 103 L. Ed. 2d 290, 18 Bankr. Ct. Dec. (CRR) 1150, Bankr. L. Rep. (CCH) P 72575, 89-1 U.S. Tax Cas. (CCH) P 9179, 63 A.F.T.R.2d 89-652 (1989). 19. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 651. 20. See Scarberry, 15 Am. Bankr. Inst. L. Rev. at 651. 21. Ogle v. Fidelity & Deposit Co. of Maryland, 586 F.3d 143, 52 Bankr. Ct. Dec. (CRR) 89, 62 Collier Bankr. Cas. 2d (MB) 1247, Bankr. L. Rep. (CCH) P 81617 (2d Cir. 2009), cert. denied, 2010 WL 531913 (U.S. 2010). 22. Ogle, 586 F.3d 143. 23. Ogle, 586 F.3d at 146. 24. Ogle, 586 F.3d at 147-149. 25. Ogle, 586 F.3d at 145. 26. Ogle, 586 F.3d at 145. 27. Ogle, 586 F.3d at 145. 28. Ogle, 586 F.3d at 145. 29. Ogle, 586 F.3d at 145. 30. Ogle, 586 F.3d at 145. 31. Ogle, 586 F.3d at 145. 32. Ogle, 586 F.3d at 147 (relying on Travelers, 549 U.S. 443, 127 S. Ct. at 1199). 33. Ogle, 586 F.3d at 147 (relying on Travelers, 549 U.S. 443, 127 S. Ct. at 1199). 34. Ogle, 586 F.3d at 147. 35. Ogle, 586 F.3d at 147. 36. Ogle, 586 F.3d at 148 (relying on In re United Merchants and Mfrs., Inc., 674 F.2d 134, 138, 6 Collier Bankr. Cas. 2d (MB) 321, Bankr. L. Rep. (CCH) P 69005 (2d Cir. 1982)). 37. Ogle, 586 F.3d at 148 (quoting United Sav. Ass n of Texas v. Timbers of Inwood Forest Associates, Ltd., 484 U.S. 365, 372-373, 108 S. Ct. 626, 98 L. Ed. 2d 740, 16 Bankr. Ct. Dec. (CRR) 1369, 17 Collier Bankr. Cas. 2d (MB) 1368, Bankr. L. Rep. (CCH) P 72113 (1988)). 38. Ogle, 586 F.3d at 148.

Recent Postpetition Attorney s Fees Post-Travelers Decisions 319 39. According to 11 U.S.C.A. 502(e)(2): A claim for reimbursement of contribution of such entity that becomes fixed after the commencement of the case shall be determined, and shall be allowed under subsection (a), (b), or (c) of this section, or disallowed under subsection (d) of this section, the same as if such claim had become fixed before the date of the filing of the petition. 40. Ogle, 586 F.3d at 148. 41. Ogle, 586 F.3d at 148-149 (quoting Travelers, 549 U.S. 443, 127 S. Ct. at 1199). 42. Ogle, 586 F.3d at 149 (quoting United Merchants, 674 F.2d at 137). 43. See Brief in Support of Respondent by Amici Curiae Professors Richard Aaron, et. al., 2006 WL 3805866 (Dec. 22, 2006). 44. Randolph & Randolph v. Scruggs, 190 U.S. 533, 23 S. Ct. 710, 47 L. Ed. 1165 (1903). 45. See Scruggs, 190 U.S. at 539. 46. See Scruggs, 190 U.S. at 534. 47. See Scruggs, 190 U.S. at 534. 48. See Scruggs, 190 U.S. at 534. 49. See Scruggs, 190 U.S. at 539. 50. See Scruggs, 190 U.S. at 539-540. 51. Sexton v. Dreyfus, 219 U.S. 339, 31 S. Ct. 256, 55 L. Ed. 244 (1911).