Friday, December 26, 2008

Last Week's New Circuit Court Opinions on BAPCPA: Fifth Circuit Says "Gag Rule" Against Advising Debtors to "Incur More Debt" IS Constitutional

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

Hersh v. U.S (In re Hersh)
Fifth Circuit Court of Appeals No. 07-10226
December 18, 2008

In Ross-Tousey v. Neary (In re Ross-Tousey)
Seventh Circuit Court of Appeals Case No. 07-2503 (02008 WL 5234070)
December 17, 2008

These two Circuit Court of Appeals opinions of last week continue the long march of BAPCPA issues through the appellate courts. The Bankruptcy Bulletin of this last Tuesday dealt with the above Ross-Tousey opinion, in which the Seventh Circuit addressed an issue never previously addressed by a Circuit Court: whether a debtor who has no monthly vehicle loan or lease expense can claim a vehicle ownership deduction when applying the means test. In the other opinion, the one addressed in this Bulletin, the Fifth Circuit weighed in on an issue that had been addressed in the Eighth Circuit in Milavetz, Gallop & Milavetz v. United States: the constitutionality of BAPCPA's sections 526(a)(4) and 527(b), part of the "debt relief agency" provisions which prohibit an attorney from advising his or her client "to incur more debt in contemplation of" filing for bankruptcy. But whereas the Eighth Circuit had declared § 526(a)(4) to be unconstitutional, the Fifth Circuit held that it was constituional through the doctrine of constitutional avoidance. (This issue is currently also before the Ninth Circuit, on the appeal of Olsen v. Mukasey, 350 B. R. 906 (D. Or. 2006), an Oregon U. S. District Court opinion covering much of the same ground.)

See this website's previous Bankruptcy Bulletin on the Eighth Circuit Milavetz opinion, entitled "
526(a)(4) Is Unconstitutional, Says 8th Circuit: Attorneys ARE "Debt Relief Agencies" But MAY Advise Clients to Incur Additional Debt," which also refers to the Oregon Olsen case.

In a Nutshell

In its relatively long (38 pages) unanimous opinion, the Fifth Circuit panel held first that bankruptcy attorneys qualify as ‘debt relief agencies’ under 11 U.S.C. § 101(12A) of the Bankruptcy Code. The Court then affirmed the district court’s holding that § 527(b), which compels that certain information regarding bankruptcy proceedings be conveyed by the “debt relief agency” to “assisted persons,” does not violate the First Amendment. But most importantly the Court reversed the district court’s holding that § 526(a)(4), which prohibits an attorney from advising his or her client to incur debt in contemplation of filing for bankruptcy, is unconstitutional on its face. In doing so and disagreeing with the Eighth Circuit's Milavetz majority decision, the Fifth Circuit explicitly agreed with its dissent.

Facts, Statutes, and Proceedings Below

Hersh, an experienced Texas debtors' bankruptcy attorney, filed suit in federal district court (NOT bankruptcy court) shortly after BAPCPA's effective date for declaratory and injunctive relief to stop the government from enforcing §§ 526(a)(4) and 527(b), arguing that they "violate the First Amendment right to free speech." She also argued that she was not a "debt relief agency" under BAPCPA's § 101(12A).

§§ 526(a)(4) and 527(b) govern the conduct of "debt relief agencies." § 526(a)(4) prohibits debt relief agencies from advising assisted persons to incur debt “in contemplation of” bankruptcy or to incur debt to pay attorney or bankruptcy petition preparer fees. § 527(b) requires debt relief agencies to disclose specific basic information about bankruptcy to persons being counseled.

The U.S. district court granted Hersh summary judgment on her § 526(a)(4) claim, giving her declaratory judgment that the subsection violates the First Amendment, and permanently enjoined all agents of the U.S. from enforcing it. The court dismissed the § 527(b) claim deciding that it advanced a compelling governmental interest without unduly burdening the attorney-client relationship. Both parties appealed.

The Fifth Circuit Panel's Rationale

On Attorneys as "Debt Relief Agencies"
The Fifth Circuit panel agreed with the only Circuit Court to have ruled on this issue, the Seventh Circuit in the Milavetz opinion cited above, that attorneys are included in the § 101(12A) definition of "debt relief agency" by a plain reading of the statutory language and that of the constituent terms. Particularly, since " 'debt relief agency' is broadly defined as 'any person who provides any bankruptcy assistance to an assisted person' " under § 101(12A), and '[b]ankruptcy assistance' is defined to include 'providing legal representation with respect to a case or proceeding under' the Bankruptcy Code," therefore "a debt relief agency includes any person who provides legal representation in a bankruptcy proceeding to an assisted person. As only attorneys can provide legal representation, they are necessarily included in the definition of 'debt relief agency.' ” So the Court held specifically that an attorney providing "bankruptcy assistance" "in return for the payment of money or other valuable consideration" to an "assisted person" is a "debt relief agency" under BAPCPA. Note this does not include attorneys counseling creditors or others, only "debtors contemplating their own bankruptcy."

On Constitutionality of § 526(a)(4) as to First Amendment
The Court squarely addressed the only Circuit Court opinion to have addressed this issue, that of the Seventh Circuit in Milavetz just three months earlier, which had concluded that this subsection was overly broad and unconstitutional as applied to attorneys because it precluded attorneys from providing clients with prudent bankruptcy planning that did not violate bankruptcy law. The Fifth Circuit panel instead analyzed in detail the standard which should apply in determining this statute's constitutionality, and held that under the doctrine of constitutional avoidance it could construe § 526(a)(4) to avoid constitutional problems. The Court agreed that
[i]f If interpreted literally and broadly, section 526(a)(4) would raise serious constitutional problems because, as Hersh suggests, it would restrict some speech that is protected by the First Amendment.
. . . .
To avoid potential constitutional questions regarding section 526(a)(4)’s restrictions on speech, this court construes the statute to prevent only a debt relief agency’s advice to a debtor to incur debt in contemplation of bankruptcy when doing so would be an abuse of the bankruptcy system.
The Court justified the application of the doctrine of constitutional avoidance as to this statute by 1) equating (strangely, in my mind) the phrase in the subsection "in contemplation of " bankruptcy necessarily with an intent to abuse the system, 2) indicating that the statutory remedies for violations of the subsection speaks only to advice given for abusive behavior, 3) showing how this reading of the statute reflected the legislative history, and 4) the subsection's "placement . . . among three provisions meant to curb abuse of the bankruptcy system."

So the Court held
that under the doctrine of constitutional avoidance, the language of section 526(a)(4) can and should be interpreted only to prohibit attorneys from advising clients to incur debt in contemplation of bankruptcy when doing so would be an abuse or improper manipulation of the bankruptcy system. Thus, section 526(a)(4) has no application to good faith advice to engage in conduct that is consistent with a debtor’s interest and does not abuse or improperly manipulate the bankruptcy system.
The Court made a major distinction between whether to analyze § 526(a)(4) as "facially unconstitutional" or rather only invalid "as applied," and it addressed only the former because Hersh did not challenge the latter. In a footnote the Court speculated that it was "questionable" whether she would have standing to do so because she brought the suit before she had been harmed by enforcement of the statute, before it was applied against her. To determine that a statute is "facially unconstitutional," "[t]he party challenging the statute must demonstrate 'a realistic danger that the statute itself will significantly compromise recognized First Amendment protections of parties not before the [c]ourt’ before a statute will be struck down as facially overbroad." Under this tough standard, the Court held that since it construed the statute as not including attorneys giving counsel to incur debt appropriately, "there is no significant imbalance between any protected speech the statute restricts and the speech that the statute legitimately restricts."

On Constitutionality of § 527(b) as to First Amendment
The Fifth Circuit panel agreed with the district court that this notice section does not violate the First Amendment because it “advances a sufficiently compelling government interest and does not unduly burden either the attorney-client relationship or the ability of a client to seek bankruptcy.” Although agreeing that the First Amendment "protects compelled speech as well as compelled silence" and so "protects an attorney's right not to provide her client with certain factual information, the Court cited a number of "compelled speech" cases in the U.S. Supreme Court in which the compelled speech of professionals was deemed appropriate. Here the Court concluded that "the government's interest sought to be furthered by section 527(b) was 'substantially compelling' for First Amendment purposes."

The Fifth Circuit affirmed the trial court, the U. S. District Court for the Northern District of Texas, that attorneys are "debt relief agencies" if they get paid for providing "bankruptcy assistance" to "assisted persons," and thus attorneys are forbidden from advising such persons to incur debt which violates bankruptcy laws but are NOT forbidden from advising persons to incur debt which does not violate the laws. The Fifth Circuit panel also affirmed the trial court's decision that § 527(b) does not violate the First Amendment. But it reversed the trial court in holding that § 526(a)(4) is facially constitutional, and so it dissolved the injunction by the trial court against enforcement of this section by the agents of the government, presumably primarily by the U.S. Trustee.

by Andrew Toth-Fejel
Bankruptcy Litigation Support for Attorneys

Please note that this writer is not licensed to practice law in Oregon. This means that he is not legally permitted to give any legal advice or provide and legal services. This Bulletin and the entire contents of this website is written only for attorneys. and is not intended for the public. If any non-attorney is reading this, you must consult an attorney about ANYTHING you read here. Nothing in this website is intended to be nor should be read as being legal advice to anyone.

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