Bifurcated Chapter 7 Attorney’s Fee Agreements Serve A Valid Purpose That is Not Prohibited By The Bankruptcy Code

Written by

Jeffrey M. Carbino

Jensen Bagnato, Wilmington, Del. and Philadelphia, Pa 

An initial negative reaction to a Chapter 7 debtor incurring post-petition debt for bankruptcy representation within minutes of filing a Chapter 7 petition could almost certainly be anticipated from bankruptcy judges and the Office of the United States Trustee as such a debt negatively impacts a debtors “fresh start.Recently, a Utah bankruptcy court held that the bifurcation of pre-petition and post-petition attorneys fees attorneysfees is not per se prohibited and does not constitute a violation of the automatic stay under 11 U.S.S 362(k). In re Hazlett, 609 B.R. 430 (Bankr. D. Utah 2019), motion for reconsideration denied, In re Hazlett, 2020 Bankr. Lexis 390* (Bankr. D. Utah February 13, 2020)

In Hazlett, the debtor retained Capstone Law pursuant to an agreement under which the debtor would not pay a retainer but rather would pay post-petition costs and expenses in the 

00 in ten monthly installments of $240. Capstone used a factoring service, BK Billing, which purchased the account from Capstone for $1,800 and collected the payments from the debtor. Capstones attorney fully explained the arrangement to the debtor and filed all the necessary paperwork to initiate the debtors chapter 7 bankruptcy. The debtor’s case was uneventful, a no-asset report was filed by the Chapter 7 trustee and the debtor received his discharge of over $29,000 in debts within 113 days after the petition date. 

There was a complication, however; specifically, the debtor had consulted with Lincoln Law prior to consulting with Capstone Law regarding the filing of a Chapter 7 bankruptcy. The debtor declined Lincoln Laws representation, however, because he lacked the funds to pay Lincoln Laws retainer. Capstone offered the debtor three options to accomplish the filing of his Chapter 7 bankruptcy case: (i) the upfront retainer option of paying $2,400 to Capstone which would include attorneysfees and the court filing fee; (ii) the $500-down option under which the debtor would pay a $500 retainer for the preparation of the bankruptcy petition, statement of social security number and application to pay the court filing fees in installments (the “Initial Bankruptcy Papers) after which the debtor could either proceed pro se, hire another attorney to complete the bankruptcy case or enter into a post-petition fee arrangement with Capstone to complete the bankruptcy case; and (iii) the “Zero Down Optionof preparing and the filing of the Initial Bankruptcy Papers for $0 down and entering into a post-petition agreement pursuant to which Capstone would represent the debtor after the bankruptcy filing for $2,400 that could be paid in monthly installments. 

Capstone’s difficulty arose post-discharge when an attorney from Lincoln Law made an unsolicited call to the debtor purportedly to inquire why the Debtor engaged Capstone, rather than Lincoln Law, to represent him in the bankruptcy case notwithstanding the fact that Capstone still represented the debtor. Lincoln Law then contacted the U.S. Trustee to report alleged improprieties by Capstone Law in the bankruptcy case. The U.S. Trustee filed a motion to reopen the bankruptcy case to review Capstones retainer agreements and the use of BK Billing to factor the post-petition fee. Ultimately, the U.S. Trustee filed a motion for sanctions against Capstone for (i) the marketing of zero-down Chapter 7 bankruptcy services; (ii) the bifurcation of bankruptcy services into pre-petition and postpetition fee arrangements; (iii) filing the petition and Initial Bankruptcy Papers for purportedly no charge; (iv) the reasonableness of the $2,400 post-petition fee; and (v) the propriety of using electronic signatures in bankruptcy. Under its motion, the U.S. Trustee sought (i) cancellation of the attorney fee agreements with Capstone Law under $ 329 and Local Rule 20911; (ii) sanctions under Local Rules 20903, 2091-1(a) and 5005-2(c); and (iii) sanctions and other relief under $ 526

In its motion for summary judgment, Capstone asserted that: (i) it made full disclosures so that the debtor was able to make an informed decision about the use of the bifurcated fee arrangement; (ii) the bifurcated arrangement allowed the debtor to obtain a discharge without complications that otherwise he could not have afforded to obtain; (iii) its fee of $2,000 was reasonable under $ 329; and (iv) the use of electronic signatures does not merit the imposition of sanctions. 

The Court entered a Memorandum Decision and Order granting Capstones Motion for Summary Judgment, finding tha

  1. The procedures and business practices of Capstone in this matter facilitated the Debtor’s ability to retain and pay for legal counsel to guide the debtor through the Chapter 7 process with sufficient competence to expeditiously obtain a Chapter 7 discharge;
  2. Capstone provided adequate explanations and disclosures of the debtor’s various options to seek bankruptcy relief, which options involved different levels of costs, services and methods of payment;
  3. Based upon the services provided by Capstone, the debtor’s financial circumstances at the time of the bankruptcy filing, and the debtor’s successful receipt of a discharge, … the $2,400 fee charged by Capstone was reasonable;
  4. Capstone’s use of e-signatures, in this case, does not merit the imposition of sanctions; an
  5. There is no basis for the Court to impose sanctions or to order Capstone to refund any portion of the payment received from the debtor.

Lincoln Law filed its Motion for Sanctions on behalf of Capstones client, the debtor, seeking the following relief: (i) disgorgement of all fees paid by the debtor in the case under § 329, (ii) restriction of Capstones efiling privileges and (iii) sanctions and other relief under SS 

105 and 362(k). The interesting issue raised by Lincoln Laws Motion was whether Capstone Law was liable for any damages that may have resulted from a violation of the automatic stay if the stay had been violated. As noted by the court, the plain language of § 362 states that the “automatic stay has no effect whatsoever upon claims which arose after the petition.” 

The Court concluded without difficulty that Capstones attorneys fees did not arise under the prepetition agreement as alleged by the debtor. Capstone’s fees arose under Option of preparing and the filing of the Initial Bankruptcy Papers for $0 down and entering into a post-petition agreement pursuant to which Capstone would represent the debtor after the bankruptcy filing for $2,400 that could be paid in monthly installments. After Capstone filed the Chapter 7 petition, the debtor signed a post-petition agreement to pay Capstone $2,400 in ten monthly installments for post-petition services, and those fees were reasonable. The Court found that Capstone had a reasonable, legal basis to employ bifurcated fee agreements when the clients were unable to pay the full retainer prior to their bankruptcy filing. On the other hand, the court was adamant that “fees for pre-petition services should not be directly or surreptitiously slipped into the fee charged for post-petition services.The court further concluded that the debtor was an adult who, based upon his inability to pay an up-front retainer, made an informed business decision to enter into a postpetition agreement for BK Billing to advance Capstone’s legal fees and to repay BK Billing with monthly installments of $240 each for ten months.

In summary, the Hazlett Court recognized that bifurcated Chapter 7 attorneys fee agreements serve a purpose that is not prohibited by the Bankruptcy Code, namely, allowing individuals access to attorneys for a Chapter 7 bankruptcy despite the debtors inability to pay attorneys fees. In reaching that conclusion, the Court found that (i) the bifurcated fee agreement with Capstone was in the debtors best interests and without that agreement the debtor could not have an attorney to file his Chapter 7 petition; (ii) Capstones fees were reasonable; and (iii) significantly, Capstone had provided full and complete disclosures to the debtor in writings acknowledged by the debtor so that he had made an informed business decision. Like in every bankruptcy case, an attorney is welladvised to properly inform her client and to charge that client a reasonable fee