Monday, September 15, 2008

Reminder about U.S. Supreme Ct's Reversal of 9th Circuit's Fobian Rule on Creditors' Atty Fees: Fees Recoverable Even on Issues Peculiar to B'cy Law

By Andrew Toth-Fejel, Bankruptcy Litigation Support for Attorneys,

Travelers Casualty & Surety Co. of America v. Pacific Gas & Electric Co.
549 U.S. 443, 127 S.Ct. 1199, 167 L.Ed.2d 178 (2007)
U.S. Supreme Court, on Writ of Certiorari to 9th Circuit
Argued January 16, 2007—Decided March 20, 2007

It's a year and a half year old opinion and this Bulletin usually presents opinions only days or weeks old, but . . . THIS ONE is a U. S. Supreme Court bankruptcy opinion, which is of itself rare enough, it has to do with that favorite subject of attorney fees, AND reverses our 9th Circuit and its attorney fee rule that has been binding since 1991, so this opinion deserves another look. It affects virtually every bankruptcy case, and many attorneys may not be aware of its implications.

The essential background: Since the 1991 9th Circuit decision of In re Fobian, 951 F.2d 1149, the law in this Circuit (and in a number of other Circuits which adopted Fobian), was that attorneys' fees incurred by an unsecured creditor in postpetition litigation of issues "governed entirely by federal bankruptcy law" could not be recovered, even when otherwise contractually authorized. So in the interim lots of effort has gone into distinguishing between attorney fees based on litigating bankruptcy law issues, which are disallowed, and those based on litigating other issues, which are allowed.

In Travelers the Supreme Court rejected this Fobian bifurcation in a unanimous decision, stating that "we generally presume that claims enforceable under applicable state law will be allowed in bankruptcy unless they are expressly disallowed." The Court focused on §502 of the Code on the allowance of claims, and found nothing in the enumerated exceptions to disallow contractually enforceable attorney fees. Besides relying on this "plain statutory text" the Court put a lot of weight on the principle "that state law governs the substance of claims," and that substance should not be analyzed differently simply because that the obligor on a claim is in bankruptcy.

The Court denigrated the Fobian Rule, saying that it "finds no support in the Bankruptcy Code, either in §502 or elsewhere," that indeed in its decision the 9th Circuit hadn't even tried to base the rule on the Code but rather on its own prior opinions, which the Supreme Court dismissed summarily as not providing "any basis for disallowing a contractual claim for attorney's fees incurred litigating issues of federal bankruptcy law."

So What? The implication are huge, on a system-wide level and on a case-by-case one. For example, if undersecured mortgage holders, as a general set of creditors, can add their attorney fees to their claims for objecting to Chapter 13 plans or for filing motions for relief from stay at the very earliest opportunity, that gives them some more incentive to do so, and in many cases much less incentive for debtors to put up much of a fight. That can lead to, and to some extent perhaps already has led to, increased aggressiveness in creditor practices for entire industries. And any particularly disgruntled creditor--such as a former employer pursuing a breach of a non-compete agreement, a former business partner, or even an ex-spouse with a prenuptial agreement--anywhere there is an attorney fee provision in an applicable contract--can now make defending a nondischargeability complaint much riskier for Chapter 7 debtors. And in Chapter 13 cases such creditors, whether institutional or individual, can significantly dissipate funds available for distribution to other creditors.

In the real world the "tail" of attorney fees has more often than not wagged the "dog" of substantive legal rights and principles, and in
Travelers the Supreme Court has added, in the bankruptcy world, a chunk more heft to that tail.

By Andrew Toth-Fejel, Bankruptcy Litigation Support for Attorneys,

© 2008 Bankruptcy Litigation Support for Attorneys