By Daniel Gill
A push to ease big up-front costs of Chapter 7 bankruptcy is gaining attention as proponents seek to change bankruptcy law to help the worse off financially avoid a more painful restructuring.
The American Bankruptcy Institute’s Commission on Consumer Bankruptcy has been asked to help with the effort to find a way for attorneys to file Chapter 7 cases without being paid all their fees up front, as is now the practice. Only Congress can change the Bankruptcy Code.
The issue is important for debt-ridden consumers who’d benefit more from Chapter 7, but who can’t afford a lump sum advance payment. These debtors often are forced into Chapter 13, a longer and more expensive process with less assurance of good results.
There were about 364,000 Chapter 7 petitions filed in the first nine months of 2017, according to Epiq Systems. It’s not clear how many more debtors are put off from seeking that type of relief because of cost.
Attorneys fees in Chapter 7 cases can run anywhere from $500 to $5,000 but are typically between $1,500 and $2,500 for individuals, depending on where in the country they’re filed.
At least two bankruptcy judges have advocated publicly for the change, arguing that without such a provision, destitute debtors who can’t afford to pay their legal fees in advance would be forced to file Chapter 13 cases, which allow for fees to be paid after the filing but can take longer and be more expensive.In Chapter 7, a debtor’s nonexempt assets, those that cannot be kept, are liquidated by a trustee, and the proceeds distributed to creditors. Subject to certain exceptions, the debtor is awarded a discharge, effectively wiping out debts. The process can be relatively quick, with a debtor receiving a discharge within months of filing the case.
In Chapter 13, individuals receiving regular income can obtain debt relief while retaining their property. To do so, the debtor must propose a plan that uses future income to repay all or a portion of the debt over a three- to five-year period. The debtor receives a discharge only after making all the plan payments.
The problem is that those who may be best suited for a Chapter 7, the poorest of the poor, are often compelled to file Chapter 13 if they want guidance from an attorney through the bankruptcy system.
“It’s an access to courts issue,” John Rao told Bloomberg Law Oct. 16. Rao is an attorney with the National Consumer Law Center, based in Boston.
Practitioners agree that filing Chapter 13 is more expensive for the debtor in the long run, and there is a much greater risk that the desired result—the granting of the discharge—won’t be realized in a Chapter 13 case. For example, the debtors may fail to make all their plan payments, Rao said.
But Chapter 13 may be the only option for debtors who can’t afford to pay their entire legal fees in advance of a Chapter 7 filing.
“Current practice nationally is to prohibit a Chapter 7 debtor from entering into an agreement to pay his attorney fees over a period of time, including the period after discharge,” Judge Rebecca B. Connelly, of the U.S. Bankruptcy Court for the Western District of Virginia, wrote in a prepared statement submitted to the commission.
“I talk to people all the time who don’t have the money to file a Chapter 7,” M. Jonathan Hayes told Bloomberg Law Oct. 16. Hayes is a member of Simon Resnik & Hayes in Sherman Oaks, Calif., and has practiced consumer bankruptcy law for 37 years in the Central District of California.
Hayes said that he would likely accept cases for $500 down and the rest paid over time if he were allowed. But he can’t accept those types of clients, who often end up trying to file themselves or going to petition preparers who are not attorneys, or seeking out less experienced counsel.
Section 524(f) allows a debtor to voluntarily reaffirm—or agree to pay—a debt that would otherwise be discharged in bankruptcy. But for a lawyer to ask a client to reaffirm a debt for attorneys’ fees would be fraught with ethical concerns. Can a lawyer demand a client reaffirm a debt that would otherwise be discharged? That arguably creates a conflict of interest for the attorney, Rao said.
In order to reaffirm the debt ethically, the debtor would need advice from an independent counsel, not a “realistic solution,” Rao said.
The ABI Commission on Consumer Bankruptcy is charged with researching and recommending improvements to the consumer bankruptcy system that can be implemented within its existing structure, according to its website.
Connelly has suggested that the commission recommend changes that would authorize a Chapter 7 debtor to contract to pay attorney fees over a period of time, from exempt assets or other non-property of the estate, or that would permit voluntary repayment of attorney fees. Alternatively, she suggested excepting debtor attorney fees in Chapter 7 from the discharge.
“I don’t know that making Chapter 7 attorney fees non-dischargeable is the right way to solve the problem, but there should be some way for a lawyer to get paid after the case is filed,” Hayes said.
Rao said “the simplest solution would be to have a narrow exception to the Chapter 7 discharge.”
Not everyone agrees that attorneys’ fees in a Chapter 7 are dischargeable. Judge Paul W. Bonapfel, of the U.S. Bankruptcy Court for the Northern District of Georgia, has stated that those fees actually create a post-petition claim, arising only upon the filing of the bankruptcy case. Post-petition claims in a Chapter 7 aren’t eliminated by the debtor’s discharge.
But at least one circuit court has taken a position opposite to that of Bonapfel. In Bethea v. Robert J. Adams & Assocs., the Seventh Circuit ruled that the attorneys fees were discharged and ordered that fees they collected after the case was filed be returned to the debtors.
Some attorneys, unable to accept a fee over time for filing a Chapter 7, instead put their clients into a Chapter 13. Most jurisdictions allow “fee-only” Chapter 13 cases.
Bonapfel has said at continuing education seminars that he doesn’t see how an attorney can ethically put a client into Chapter 13 just because it’s the only way the client can afford bankruptcy counsel without paying his legal fees in advance.
“Those fee only chapter 13 plans are a violation of professional responsibility and the lawyer’s duties to the client,” he told Bloomberg Law Oct. 13.
And as noted by Connelly, the common practice is that Chapter 7 fees are discharged, making it hazardous for an attorney to represent a Chapter 7 debtor without being paid in full upfront.
A question then is: could making an attorney’s fees for a Chapter 7 filing non-dischargeable solve this dilemma?
To contact the reporter on this story: Daniel Gill in Washington at firstname.lastname@example.org
To contact the editor responsible for this story: Jay Horowitz at JHorowitz@bna.com
Copyright © 2017 The Bureau of National Affairs, Inc. All Rights Reserved.
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