Attorney’s fees discharged in bankruptcy

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Attorneys who represent clients in precarious financial conditions continue representation at their own financial risk.

A promise from the client not to seek discharge of the fees in bankruptcy is unenforceable.

U.S. Bankruptcy Judge Thomas S. Utschig concluded, “At best, [the attorney] obtained an unenforceable promise from the debtor not to file bankruptcy. Turning that unenforceable promise into the basis of a nondischargeability claim would itself seem to undermine the purpose of the code, which is to grant debtors a discharge in all but those few cases in which fraud is clearly proven.”

Worse, the attorney is now on the hook for the attorney fees his former client incurred defending the debt’s discharge.

The client, Layne Dean Sasse, was sued after an altercation outside a tavern in La Crosse in 2004. He retained Terry Davis, of Rice, Heitman & Davis, S.C., to defend him.

According to Davis, in September 2006, Sasse, who then owed Davis more than $4,000, promised that he would not file bankruptcy, and that, even if he did, he would not seek discharge of his debt to Davis.

The case ultimately settled with Sasse paying the plaintiff $800 and a big screen television. He then met with a bankruptcy attorney and filed for bankruptcy less than three months after the settlement. At that time, he owed Davis more than $12,000.

Davis filed an adversary complaint, alleging that Sasse fraudulently induced him to continue his representation in the state court suit. On Aug. 13, Judge Utschig dismissed the proceeding and awarded Sasse attorney fees.

To except a debt from discharge under 11 U.S.C. 523(a)(2)(A), a creditor must show: the debtor made a false representation of fact; the debtor either knew the representation was false or made the representation with reckless disregard for its truth; the representation was made with an intent to deceive; and the plaintiff justifiably relied upon the false representation.

Assuming without deciding that Sasse did make a promise to pay Davis, the court nevertheless found that Davis failed to offer evidence of fraudulent intent or justifiable reliance.

Citing Klingman v. Levinson, 831 F.2d 1292 (7th Cir. 1987), the court noted that pre-petition waivers of discharge are generally not enforceable.

The court also cited a 9th Circuit opinion for support, Bank of China v. Huang, 275 F.3d 1173 (9th Cir. 2002), in which the 9th Circuit refused to enforce a settlement agreement which contained a representation that the debtor would not file for bankruptcy.

Because a prepetition waiver of discharge is unenforceable, the court concluded that the same must be true of a prepetition promise not to file bankruptcy at all.

The court further found no evidence of intent to defraud, citing two other recent cases involving attorneys and their clients, both of which found no fraud, but only a failure to pay. DePerno Law Office v. Sears, 2010 WL 1664024 (Bankr.S.D.Ala., Apr. 22, 2010); Andresen & Arronte, PLLC, v. Hill, 425 B.R. 766 (Bankr.W.D.N.C. 2010).

Although Sasse filed bankruptcy shortly after settling the state court case, the court said it was “conceptually difficult” to use that timing to prove that a representation made two years earlier was fraudulent.

The court also found no evidence that Sasse knew a promise not to file for bankruptcy was unenforceable.

Finally, the court held that Davis could not have reasonably relied on the promise. “[B]etween an experienced attorney and a client relying upon his advice, it was Mr. Davis who should have known that the prepetition promise not to file bankruptcy was unenforceable.”

After dismissing Davis’ adversary complaint, the court ordered Davis to pay $5,000 worth of attorney fees that Sasse incurred defending the discharge of the debt under sec. 523(d), finding that Davis’ position was not “substantially justified.”

David Ziemer can be reached at [email protected].

What the court held

Case: Rice, Heitman & Davis, S.C. v. Sasse, No. 09-219

Issues: Did a debtor fraudulently induce an attorney to continue

representation by promising not to discharge the fees in bankruptcy?

Holdings: No. The attorney could not have reasonably relied on a promise not to file for bankruptcy.

Attorneys: For Plaintiff: Terry A. Davis, Sparta; For Defendant: Brian K. Murphy, La Crosse.