Friday, May 11, 2007

Texas State Court Strikes Down Ch. 11 Litigation Trust Agreement As Void Against Public Policy

A Texas Court of Appeals has ruled that a litigation trust created under a chapter 11 plan of reorganization was void as against public policy as a “Mary Carter Agreement.” Turoff v. McCaslin, 2007 Tex. App. LEXIS 2343 (Tex. App.—Waco, 3/21/07). As a result, the court sustained a take-nothing summary judgment rendered against the plan trustee and in favor of the corporate officers and directors (D & O Defendants) and the corporate auditor who had been sued.

The Litigation Trust Agreement

ProMedCo Management Company (PMC) and its affiliates filed bankruptcy in 2000 amidst allegations that they had operated as a Ponzi scheme. On April 30, 2002, the Bankruptcy Court confirmed a plan of reorganization which provided for a Litigation Trust Agreement . The Litigation Trust Agreement was intended to provide a vehicle for pursuing claims against the D & O Defendants and the corporate auditor Arthur Andersen, as well as to allocate any proceeds recovered between the beneficiaries of the trust.

The beneficiaries of the trust were the Bank Group, the Preferred Shareholders and the unsecured creditors. The Bank Group agreed to advance $400,000 to fund the trust and would receive the first $800,000 in proceeds. The Bank Group and the Preferred Shareholders were to divide 95% of any proceeds over $800,000, while the unsecured creditors would receive 5%. Each of the parties which contributed claims to the trust released each of the other parties contributing claims.

Thus, the essence of the trust was an agreement by the Debtors, the Bank Group and the Preferred Shareholders to pool their claims for the benefit of the Bank Group and Preferred Shareholders (and to a de minimus extent the unsecured creditors) and not to sue each other. The covenant not to sue apparently protected the Bank Group from being sued by the Preferred Shareholders based on allegations that it had withheld critical information from the Preferred Shareholders at the time of their investment. Thus, rather than suing each other, the Bank Group and Preferred Shareholders agreed to combine forces and jointly pursue the D & O Defendants and Arthur Anderson under the framework of the Litigation Trust Agreement.

The D & O Defendants cried foul and filed a Motion for Summary Judgment seeking to characterize the Litigation Trust Agreement as a “Mary Carter Agreement.” Because a Mary Carter Agreement is void under Texas law, invalidating the trust would deprive the trustee of standing to pursue the claims.

Who Was Mary Carter Anyway?

The seminal Texas case on Mary Carter Agreements is Elbaor v. Smith, 845 S.W.2d 240 (Tex. 1992). In that case, the plaintiff sued three doctors and a hospital. The plaintiff then settled with two of the doctors and the hospital. Instead of dismissing out the settling defendants, these parties continued to participate in the trial where they could point the blame at the non-settling defendant. In return for this collaboration, they could be reimbursed for the amount of their settlement out of amounts recovered from the non-settling defendant. Needless to say, this was a problem, because the jury was given the impression that the case involved one plaintiff against four defendants, when in fact the real alignment was that one plaintiff and three defendants were all out to get the remaining defendant.

The Court of Appeals explained the problem with Mary Carter Agreements as follows:

“The classic Mary Carter Agreement exists when the settling defendant retains a financial stake in the plaintiff’s recovery and remains a party at the trial of the case. (citation omitted). It presents to the jury a sham of adversity between the plaintiff and a settling defendant, while these parties are actually allied for the purpose of securing a substantial judgment for the plaintiff and, in some cases, exoneration for the settling defendant. (citation omitted). These types of agreement tend to promote litigation rather than settle it and distort the trial against the nonsettling defendants. (citation omitted). And Texas does not favor settlement arrangements that tend to skew the trial process, mislead the jury, promote unethical collusion among nominal adversaries, and create the likelihood that a less culpable defendant will be hit with the full judgment. (citation omitted).”

Slip Op. at p. 4.

The Litigation Trustee pointed out that the Litigation Trust Agreement did not meet the literal definition of a Mary Carter Agreement. Critically, there was not a settling defendant who concealed the fact of settlement in return for a share of the proceeds. Instead, the potential adversaries settled out their claims well before any litigation was ever brought so that there were no sham defendants in the suit.

The Court of Appeals did not allow such a literal reading of the Texas case law to restrict it. It stated:

“(T)he law on Mary Carter Agreements in Texas has evolved to include agreements that violate the principles laid out in Elbaor even if the precise structure of the agreement does not fit the precise pattern of an agreement previously determined to be in violation of public policy. (citation omitted). A strict application of Elbaor is not necessary to find a Mary Carter Agreement.”


The Court of Appeals found that the Litigation Trust Agreement was a Mary Carter Agreement based upon the following factors:

1. The beneficiaries in the trust had a financial interest in the outcome of the litigation;
2. The beneficiaries were required to cooperate and assist with the suit;
3. The beneficiaries mutually released each other as well as four individuals employed by Goldman Sachs (one of the preferred shareholders);
4. The beneficiaries “skewed” the trial process by settling their claims between themselves and contributing their other claims to the trust; and
5. It appeared likely that less culpable defendants would be hit with the full judgment.

Thus, it seems that the Court of Appeals was offended by the fact that the Litigation Trust Agreement was essentially a joint venture between the Bank Group and the Preferred Shareholders to settle the claims between them and present a united front against the other potential defendants.

Bankruptcy Order Not So Supreme

The Court of Appeals also rejected an argument that the Supremacy Clause precluded the court from invalidating the Litigation Trust Agreement. The Court of Appeals was careful to note that the Litigation Trustee had not argued for the application of collateral estoppel or res judicata so that the court did not consider these doctrines.

The Court of Appeals stated that there were three types of pre-emption arguments: (1) where Congress has expressly pre-empted all state laws in a field; (2) where Congress has inferentially pre-empted all state laws in a field; and (3) where state law actually conflicts with federal law. The Court of Appeals analyzed the Supremacy Clause argument under the third type of pre-emption and found that it did not. According to the Court of Appeals, the issue as framed by the Litigation Trustee was whether the trial court’s summary judgment order stood as an obstacle to the execution of the Confirmation Order.

The Court of Appeals noted that the Litigation Trustee “provides no case law to support the concept that a Confirmation Order, itself, preempts a state trial court’s decision in litigation that does not relate to the bankruptcy proceeding.” The Court rejected an argument that the Bankruptcy Court’s finding that the plan was proposed in good faith and not by any means forbidden by law would prevent another court from determining that implementation of the Litigation Trust Agreement was forbidden by state law. Finally, the court noted that the purpose of the Litigation Trust Agreement, as stated in the Confirmation Order, was to “liquidate the Contributed Causes of Action.” The Court noted that one definition of “liquidate” was to determine the amount of a claim or damages. Because the Confirmation Order could not guaranty the success of the claims in state court, the state court’s order granting summary judgment liquidated the claims within the meaning of the Confirmation Order and thus implemented rather than conflicted with the Confirmation Order.

What Does It All Mean?

From the perspective of the Litigation Trust, this decision was a disaster. A structure commonly used in chapter 11 plans and specifically approved by order of the Bankruptcy Court was struck down as invalid by a state court with the result that parties who had allegedly contributed to the downfall of the debtors were able to escape liability. The result is particularly galling because the Court of Appeals really had to reach to apply the Mary Carter doctrine. Unlike a “traditional” Mary Carter Agreement, there was no sham defendant participating in the litigation and the terms of the agreement were disclosed to the world before the litigation was ever filed.

However, it may be that the problem lay with this particular litigation trust agreement and not with litigation trusts in general. Specifically, the Court of Appeals may have done rough justice by stretching state law (and this ruling does appear to be a stretch) to strike down an agreement that served only a dubious bankruptcy policy. The Litigation Trust Agreement served three constituencies:

(a) the Bank Group;
(b) the Preferred Shareholders; and
(c) the Unsecured Creditors.

Taking these in reverse order, the unsecured creditors had very little interest in the litigation. They would receive 5% of proceeds in excess of $800,000. It appears likely that the unsecured creditors were thrown into the trust as window dressing to make it appear that the trust served a valid bankruptcy purpose.

On the other hand, the Preferred Shareholders received a significant share of the trust despite the fact that they likely did not have a cognizable bankruptcy interest. Under the absolute priority rule, the interest of the preferred shareholders should have been canceled out unless the unsecured creditors received payment in full. Thus, their participation in the Litigation Trust Agreement was clearly based on their contribution of causes of action to the trust and their release of claims against the Bank Group. It can be argued that this was “new value” which would allow them to participate under the plan. However, the fact remains that they were using the bankruptcy case as a vehicle to make a deal with the Bank Group which could have been done outside of bankruptcy.

The Bank Group has the strongest claim to a share of the pie. As secured creditors of the debtors, they had the right to be paid out of causes of action asserted by the estate. However, they also had an independent interest in not getting sued. The Litigation Trust Agreement can be viewed as an agreement by the Bank Group to pay $400,000 to settle claims which could have been asserted by the Preferred Shareholders. Rather than having the money go directly to the Preferred Shareholders, the parties agreed that the money would be used to fund a joint venture between them. The complicating factor here is that it is impossible to unscramble whether the Bank Group received more value from being able to recover a share of the proceeds from the estate’s causes of action (a proper bankruptcy interest) or from not being sued by the Preferred Shareholders (a private interest). No doubt, it was the mixed nature of these interests which made the Litigation Trust Agreement appear to be beneficial, since it resolved both interests in one package.

In a perverse way, it can be argued that no substantial bankruptcy purpose was maligned by the Court’s ruling. The Bank Group paid $400,000 and received a release of claims. While they did not receive anything more, this was a risk that they took. The Preferred Shareholders were entitled to nothing under the absolute priority rule and that is exactly what they received. The unsecured creditors stood to gain very little, so that they lost very little as well.

Having said all this, it is still a bit unseemly that the D & O Defendants apparently sat back and did not challenge the plan in bankruptcy court and then attacked the validity of the structure created by the plan in state court. It could be that they didn’t know enough to raise the objection at the time or it could be that they waited to press the argument in a local state court which would be less receptive to the subtleties of federal bankruptcy law.

It is also confusing why the Litigation Trustee relied upon the Supremacy Clause, which is basically a pre-emption doctrine, when there were other arguments which could have been made. Section 1141(a) provides that the plan is binding upon the debtor, creditors, equity security holders, persons acquiring property from the debtor and persons issuing securities under the plan. It seems highly likely that the D & O defendants were either creditors or equity security holders. The Court of Appeals does not mention this section at all. As a result, it is unclear whether it glossed over the issue to get to the result it wanted or whether this argument was not made. It is also perplexing why the Litigation Trustee did not argue that the Confirmation Order had res judicata or collateral estoppel effect upon the D & O Defendants or why judicial estoppel was not urged.

Regardless of what could have or should have been argued or how the Court of Appeals should have applied the law, this case should be required reading for chapter 11 lawyers drafting litigation trust agreements in the future.

Tuesday, May 08, 2007

BAPCPA Allows Bad Faith Debtor To Escape Trustee Based on Failure To Make Necessary Filings

In a recent case described as “the poster child for a bad faith debtor,” the debtor was allowed to escape bankruptcy over the objection of his chapter 7 trustee because he failed to file meaningful schedules within 45 days from the petition date. In re Walter Lee Hall, Jr., No. 06-11248 (Bankr. W.D. Tex. 4/23/07). This result, according to the court, was mandated by BAPCPA.

The pro se Debtor filed his first case on May 17, 2006. He filed schedules and a statement of financial affairs, but omitted schedules E, F and G and the Form B22C Means test. However, his major offense was failure to provide his tax returns to the chapter 13 trustee. As a result, the Court concluded that the chapter 13 case had been automatically dismissed on the 46th day after the petition date based on 11 U.S.C. §521(i)(1).

The Debtor then filed a second chapter 13 case on August 15, 2006. He filed schedules which substantially consisted of the notations “TAB” and “To Be Amended.” The Debtor’s chapter 13 plan was similarly deficient. After a hearing, the Court declined to continue the stay in the second case. Among other things, the Court found that the Debtor was pursuing Chapter 13 for the purpose of frustrating his secured creditors without any legitimate hope to reorganize. While the Chapter 13 Trustee’s motion to dismiss was pending, the Debtor converted his case to Chapter 7. This time, he filed a Schedule B which listed two automobiles, but no other personal property. The 341 meeting was never completed due to the fact that the Debtor either failed to appear or invoked his 5th Amendment privilege against self-incrimination. In the course of other hearings, it became apparent that the Debtor had transferred three parcels of real property to a corporate entity he controlled.

The Court entered a Show Cause Order as to why the case should not be dismissed. The United States Trustee and the Chapter 7 Trustee appeared and requested that the case be retained, while the Debtor failed to appear. The Debtor then filed a motion requesting that the Court determine that his case had been automatically dismissed for failure to comply with the provisions of §521(a). The Debtor filed a Notice of Withdrawal of Document with respect to this motion on the day of the hearing.

At this point, the court was faced with a dilemma. There were assets which could be liquidated to pay creditors and no party was requesting dismissal of the case. However, the Court found that under Section 521(i)(1), “the case shall be automatically dismissed on the 45th day after the filing of the petition” if the Debtor fails to file the information required by Section 521(a). Under Section 521(i)(2), the court is required to enter an order reflecting that the case had been dismissed on request by a party in interest. Following the unambiguous statutory language, the court found that the Debtor was a party in interest and that the Court was required to dismiss the case based upon the Debtor’s failure to file the required documents even though the Debtor was no longer requesting dismissal. Thus, the Debtor, by the simple expedient of not meeting his obligations under Title 11, was able to receive an automatic dismissal of his case. To temper the result, the Court ordered that the case be dismissed with prejudice to refile for a period of two years. Thus, the Court would be protected from seeing this Debtor again for a period of two years. However, the Chapter 7 Trustee who was prepared to pursue the Debtor’s non-exempt and fraudulently transferred assets was left empty-handed.

This case stands in marked contrast to In re Cochener, 2007 Bankr. LEXIS 460 (Bankr. S.D. Tex. 2007)(discussed on this blog on 5/7/07). In that case, a Debtor who sought to evade her obligations under Title 11 was not allowed to dismiss her case and, in the end, both debtor and counsel were sanctioned for their efforts to evade the Chapter 7 trustee. In a perverse display of irony, the Court in that case cited it as an example of abuse justifying the enactment of BAPCPA. However, in the Hall case decided under BAPCPA, the Debtor was allowed a free pass out of bankruptcy court due to his own derelictions, while the diligent Chapter 7 Trustee received nothing. It is truly bizarre that BAPCPA allows the fortunate but dishonest debtor to escape from bankruptcy based on his own failings, when prior law would have brought him to account. Whether it was intentional or not, Congress has not done any favors for Chapter 7 Trustees.

Monday, May 07, 2007

Brief Representation Comes Back to Haunt Attorney Six Years Later

“The law has not been dead, though it has slept.” Shakespeare, Measure for Measure, Act. II, Scene ii, l. 90.

A Houston lawyer recently discovered that the passage of time was not sufficient to protect him from the consequences of actions taken in a brief representation nearly six years earlier. In re Cochener, 2007 Bankr. LEXIS 460 (Bankr. S.D. Tex. 2/6/07). The Court began its tome of an opinion with the comment that:

“In 2005, Congress enacted the Bankruptcy Abuse Prevention and Consumer Protection Act (BAPCPA) to rectify perceived fraud and abuse in the bankruptcy system. . . . In the case at bar, which was initiated upon the voluntary filing of a Chapter 7 petition in 2001, the conduct of (the Debtor) and one of her attorneys demonstrates why Congress perceived that there was sufficient abuse to warrant passage of this legislation.”

That a federal bankruptcy judge would acknowledge that BAPCPA might have been a legitimate response to a problem is extraordinary enough that this case bears some scrutiny.

What Happened

The Debtor filed her chapter 7 petition on May 1, 2001, some six months after being divorced. She showed $403.00 in assets and approximately $111,000.00 in debts. The Debtor’s ex-husband informed the Trustee that the Schedules and Statement of Financial Affairs were far from accurate. As a result, the Trustee asked some searching questions and requested additional documents at the first meeting of creditors. The Debtor’s initial lawyer agreed that the documents would be produced and that the Debtor would appear for a continued creditors’ meeting.

Based on the conduct of the first meeting, the Debtor’s attorney had enough sense to realize that he was in over his head. He referred the Debtor to an attorney who was Board Certified in Consumer Bankruptcy Law and had been practicing for fifteen years. He also told the new attorney that there were allegations of concealed assets.

The new attorney apparently decided that the Debtor had made a horrible mistake in filing for bankruptcy. Even before he was formally substituted into the case, he prepared and filed a Motion to Dismiss the chapter 7 case. The motion represented that the interests of creditors would be better served by permitting dismissal and that no creditor would be prejudiced by dismissal. However, the motion did not make any factual allegations. At the same time, counsel blithely informed the trustee that based on the motion to dismiss, the Debtor would not be attending the continued meeting. The Trustee objected to the dismissal and informed the Debtor’s new counsel that attendance at the creditor’s meeting was not optional.

Nevertheless, the Debtor and her new counsel failed to attend the creditors’ meeting, which the Trustee continued yet again. The Debtor’s substitute counsel informed the Trustee that they would not be attending once again, based on the pending Motion to Dismiss. The Debtor also failed to produce any of the documents requested.

At the hearing upon the Debtor’s Motion to Dismiss, the Court apparently continued the hearing and instructed the Trustee to conduct discovery. When the Trustee requested dates for a Rule 2004 exam, Debtor’s counsel did not respond. When the Trustee noticed the exam anyway, Debtor’s counsel objected to the production requests on the basis that they went back more than one year. This was material because one of the allegations was that the Debtor had transferred property to her son more than one year before the petition, but less than the four years in which an action could be commenced under the Texas Uniform Fraudulent Transfer Act.

The Debtor failed to appear for the scheduled Rule 2004 exam and counsel contended that he had not heard from her in several weeks. Shortly thereafter, the Debtor’s second lawyer filed a motion to withdraw. At this point, he had been representing the Debtor for just over five months. The Court allowed Debtor’s second attorney to withdraw, but noted that “This order is without prejudice to any claims, ethical or otherwise, held by the Ch. 7 trustee.”

The Trustee’s counsel informed Debtor’s second attorney that he should reimburse the Trustee for the cost of responding to the Motion to Dismiss. Counsel never accepted the Trustee’s offer to make amends. This would prove to be a poor choice.

The Motion to Dismiss was eventually denied, some eleven months after it was filed. The Trustee eventually found out that the Debtor had transferred away over $90,000 in assets. The Trustee obtained a default judgment in the adversary proceeding he brought to recover these assets. Finally, several years later and after filing a forcible detainer action, the Trustee recovered two pieces of real property. The properties had been thoroughly trashed and the words “Thou Shalt Not Steal or Covet” and other similar phrases had been written on the walls. The Debtor and her son blamed this vandalism upon day laborers who did not otherwise speak English but were apparently able to quote the Bible in a foreign language.

On May 9, 2006, the Trustee’s counsel sent Debtor’s substitute counsel the first of several letters stating that the Trustee intended to seek sanctions. The third letter provided Debtor’s counsel with a proposed motion for sanctions and informed him that the motion would be filed the next day if a settlement offer was not forthcoming. Debtor’s counsel did not make a settlement offer and so the Motion for Sanctions was filed some five years after the substitute counsel had first been retained. The Court subsequently issued its own show cause order requiring the Debtor, her son and the initial attorney to show cause why they should not be sanctioned as well.

At the hearing on sanctions, it was brought out that Debtor’s second attorney was the same attorney who had been sanctioned by Judge Steen in the case of In re Thomas, 337 B.R. 879 (Bankr. S.D. Tex. 2006), which had involved false scheduling of IRS claims.

The Court’s Ruling

One of the more interesting aspects of this case was the passage of time. Although not explicitly stated by the court, claims for sanctions are apparently not subject to traditional limitations periods. In the introduction to its opinion, the Court summarily disposed of the delay issue, stating:

"The attorney . . . raises certain defenses, not the least of which is that his actions occurred in 2001, and to sanction him now after the passage of this much time is absurd and unfair. It is neither. Indeed, (counsel) has known since 2001 that the Chapter 7 trustee was very unhappy with his conduct, and ever since the Trustee's initial expression to (counsel) of misgivings about his conduct, the Trustee has repeatedly told him that he needed to reimburse the Trustee for the unnecessary legal fees and expenses which the Trustee incurred due to (counsel's) conduct. . . . Given that, in 2006, the Trustee was finally able to liquidate certain assets, the existence of which (counsel) did everything in 2001 to prevent the Trustee from uncovering , the Trustee's Motion for Sanctions is hardly absurd or untimely. Just the converse: it is reasonable and timely."

Opinion, at 2-3.

Thus, with apologies to Neil Young, sanctions, like rust, never sleep.

Having disposed of the timeliness issue, the Court concluded that Rule 9011 did not apply. Because the Trustee did not send a sanctions demand letter until May 9, 2006, some four years after the court ruled upon the motion to dismiss, counsel was never given the opportunity to withdraw the offending pleading. As a result, sanctions under this rule were not available. However, that was not the end of the inquiry.

Instead, the Court found that it could use its inherent powers under §105 to impose sanctions. On the surface, this appears to be an end run around the text of the rule. However, it is one endorsed by the Supreme Court. In Chambers v. Masco, 501 U.S. 32, 111 S.Ct. 2123, 115 L.Ed.2d 27 (1991), the Supreme Court stated that a court’s inherent power includes situations where “neither the statute nor the Rules are up to the task.” Thus, the text of Rule 9011 appears to be largely superfluous, since the court can find that the rule is not up to the task and grant relief beyond what is expressly authorized.

The Court also found that where the relief requested does not include disbarment or suspension, that proof by a preponderance of the evidence will suffice.

The Court found that counsel had engaged in five instances of sanctionable conduct: (1) he “concocted” a reason for her not to attend the first meeting of creditors and then instructed her not to do so; (2) he personally did not attend the meeting of creditors; (3) he filed a Motion to Dismiss “which included blatantly false factual and legal contentions;” (4) he wrote a letter to the Trustee’s counsel objecting to production of documents which disingenuously argued the wrong look-back period as a ground for not producing documents; and (5) he instructed the Debtor not to produce documents after prior counsel had agreed that the Debtor would do so. The Court found that sanctions were particularly appropriate because the attorney was board certified.

The Court also found that sanctions could be imposed under 28 U.S.C. §1927, which allows the court to order any attorney “who so multiplies the proceedings in any case unreasonably or vexatiously” to pay “the excess costs, expenses and attorneys’ fees reasonably incurred because of such conduct.”

The Court imposed aggregate sanctions in the amount of $25,121.89 against the Debtor’s substitute counsel, consisting of: (1) disgorgement of the $2,500 retainer paid to counsel; (2) reimbursement of the Trustee’s attorney’s fees of $6,901.25 and costs of $704.47 incurred in responding to the Motion to Dismiss; and (3) reimbursement of the Trustee’s attorney’s fees of $13,951.25 and costs of $1,064.92 incurred in prosecuting the Motion for Sanctions. The Court also imposed sanctions against the Debtor and her son in the amount of $50,000 for damage to the real properties.

In its Conclusion, the Court made the following comments which summed up its feelings about the matter:

“Lawyers occupy a special position in this country’s judicial system. Not only are they representatives of an advocates for their clients, but they are also officers of the court who bear responsibility for ensuring the integrity and fairness of our judicial system. (citation omitted). Particularly in the consumer bankruptcy system, where the clients are typically very unsophisticated about their legal duties and in desperate straits personally, attorneys must take emphatic care to encourage their clients to comply with the requirements of the Bankruptcy Code and the Bankruptcy Rules.

“In the case at bar, (Debtor’s substitute counsel) not only failed to take such care; he went out of his way to encourage the Debtor to disregard the duties imposed upon her. . . .

“At the Sanctions hearing, (Debtor’s substitute counsel) testified that ‘I believe my representation of (the Debtor) was in accordance with acceptable practice. (citation omitted). This Court strongly disagrees. (Counsel’s) gaming of the judicial process by filing a frivolous Motion to Dismiss, his instructions to the Debtor not to attend the continued Meeting of Creditors and not to produce documents which (Debtor’s original counsel) had already agreed she would produce, and his misinforming the Trustee’s counsel about the one-year look back period—all of which was done to impede the Trustee’s investigation of the Debtor’s financial affairs—was completely inimical to acceptable practice, in Houston or anywhere else.

In sum, (Counsel’s) conduct I this Court has done much to justify the passage of BAPCPA. Congress might well be pleased to know that its perception of abuse is not unfounded. Congress would probably not be pleased to learn about (Counsel’s) conduct. For his actions, he will need to immediately write a cashier’s check to the Trustee in the amount of $25,121.89.”

Opinion, at 143-145.

What Does It Mean?

The Court’s grounds for awarding sanctions raise questions about where zealous advocacy of a client ends and when obstruction of the bankruptcy process begins. The initial strategy employed by counsel sought to protect his client from the consequences of her actions. This strategy was one possible response to a difficult predicament. As noted by the Court:

“At the Sanctions hearing, (counsel) testified that his job as counsel for the Debtor, was to look out for her interests, not the interests of creditors. (citation omitted). This court agrees with (counsel) that he had a duty to look out for the Debtor’s interests. This Court disagrees with the approach that he took to do so.”

Because there is not an automatic right to dismiss a chapter 7 case, as there is in chapter 13, counsel faced the prospect that a tenacious trustee would refuse to let go of the case once allegations of fraud had been raised. That is in fact what happened. The case went south for counsel when he failed to change tactics once he became aware that the Trustee and the ex-husband were not going to allow the case to quietly go away. At this point, both his duty to the Court and his instinct for self-preservation should have created a conflict between him and his client. This conflict could only be resolved by insisting that the client cooperate with the Trustee or by making a prompt withdrawal. The fact that counsel continued to pursue a doomed strategy was not only a poor choice, but was guaranteed to earn the Trustee’s enmity and the Court’s disdain.

The Debtor in this case did not need much encouragement to behave badly. Unfortunately counsel provided, and continued to provide, that encouragement over a period of several months (at least according to the Court’s findings). A prompter attempt to make the Debtor cooperate with the Trustee probably would not have changed the Debtor’s behavior. However, it might have salvaged counsel’s reputation.

A second lesson to be learned is that Debtor’s counsel lost a valuable opportunity to quietly settle the matter. Over a period of several years, the Trustee’s counsel patiently counsel to reimburse the Trustee for his expenses in opposing the Motion to Dismiss. These quiet efforts were followed by several increasingly more insistent letters. Had counsel heeded these warnings and settled up with the Trustee, he could have limited his liability to $7,000 and avoided a 100+ page written opinion. This illustrates the rule that nearly any bad situation can be made worse by failing to address it early on.


This case was appealed to the U.S. District Court. On December 28, 2007, U.S. District Judge Sim Lake issued a Memorandum Opinion in which he affirmed the portion of the order requiring Debtor's counsel to return his retainer in the amount of $2,500, but reversed the remaining award in the amount of $22,621.89. Barry v. Sommers, No. H-07-0629 (S.D. Tex. 12/28/07). The case has now been appealed to the Fifth Circuit Court of Appeals.

On October 23, 2008, the Fifth Circuit reversed the District Court opinion and entered an order affirming the Bankruptcy Court opinion. Matter of Cochener, No. 08-20048, 2008 WL 4681579 (5th Cir. 2008).