CYNTHIA A. NORTON, Chief Bankruptcy Judge.
At the heart of this matter is which court — bankruptcy or district — should decide whether the debtors' bankruptcy attorneys violated bankruptcy code provisions and applicable bankruptcy and ethical rules and should be sanctioned. The defendant attorney and his law firm argue that the bankruptcy court lacks jurisdiction and authority to decide these issues. They argue that the act of sanctioning is an exercise of criminal contempt powers, such that only the district court should decide and enter judgment in these four consolidated cases. They request that the district court use its discretion to withdraw the reference of the plaintiff United States Trustee's complaints against them. This court reports and recommends that the district court deny the defendants' motions.
The relationship between consumer debtors and their bankruptcy attorneys is unique in that the bankruptcy code and rules expressly require full disclosure of fee arrangements, mandatory court review, and disallowance of fees determined to be unreasonable.
To put these cases into context, most courts hold that bankruptcy attorney fees are treated the same way as any other dischargeable debt.
As a result, most consumer bankruptcy attorneys follow one of two approaches: they get paid a reasonable flat fee up front; or they make a reasonable bifurcation of fees for pre- and postpetition services. If the fee arrangement is fully disclosed to the court, and the fees charged for both the pre- and postpetition services are reasonable, this court has generally informally allowed such bifurcation. Indeed, such treatment of fees is in part necessitated by the fact that many courts, including this one, require consumer debtors' attorneys to represent their clients throughout the entire bankruptcy case, notwithstanding if the case becomes more complicated than anticipated.
The UST's theory in these cases is that attorney Jason Amerine and his law firm, Castle Law Office of Kansas City, P.C. ("Castle Law" or the "Defendants"), employed an improper and undisclosed factoring-type billing arrangement for their consumer debtor clients who were unable to prepay the attorney fees, and that that arrangement made it appear that all, or nearly all, of the fees were incurred for postpetition services when they were not. The UST alleges that, as a result of this practice, Castle Law overcharged debtors and misled the court about the nature of the fees, and in so doing, violated a number of bankruptcy code provisions and ethical rules.
The debtors in these cases filed voluntary petitions for chapter 7 relief in July 2017 and were represented in their filings by the defendant attorney Jason Amerine and his law firm, Castle Law. The UST filed complaints against the Defendants in each of the four cases, which were then assigned to this judge. By agreement of the parties, the four complaints have been consolidated for discovery and pre-trial proceedings.
The UST alleges that, on January 31, 2017, Ms. James retained Castle Law to file a chapter 7 bankruptcy petition for a total flat fee of $1,650, comprised of $1,250 in attorney fees, $65 for a credit report fee, and $335 for the court filing fee. The UST refers to this agreement with Ms. James as the "Initial Contract." According to the UST, the Initial Contract provided that all fees Ms. James paid under the agreement were "non-refundable" and stated, essentially, that they would not file Ms. James' bankruptcy case until she had paid the $1,650 in toto, and that if she failed to do so, she forfeited all the fees paid. Ms. James made payments to Castle Law totaling $225 under the Initial Contract in the five-month period between the initial January 31 meeting and May 25, 2017.
The UST alleges that, in May 2017 — five months after Ms. James retained Castle Law to represent her in her bankruptcy case — Castle Law entered into a blanket Accounts Receivable Assignment Agreement (the "Factoring Agreement") with BK Billing, LLC, a company located in Utah. According to the UST, BK Billing markets itself to consumer bankruptcy attorneys as providing a means of offering "little or no money down" chapter 7 cases using a two-contract model that purports to bifurcate the services and fees of consumer bankruptcy cases into prepetition and postpetition periods.
The UST asserts that, under the Factoring Agreement (as later amended), Castle Law sold its accounts receivables for postpetition bankruptcy services to BK Billing in exchange for payment, shortly after the filing of the case, of a discounted portion of the total attorney fee. Specifically, BK Billing advanced 75% of the postpetition fee to Castle Law. Castle Law's portion was, however, subject to a "holdback" whereby BK Billing distributed 60% of the fees to Castle Law immediately after the client account was factored and placed 15% in escrow. In turn, BK Billing collected from the debtor the total amount due. According to the UST, the holdback permitted BK Billing to draw from the escrow for costs and expenses incurred if the debtor failed to pay.
Under the Factoring Agreement, the UST alleges, Castle Law was able to enter into "little or no money down" arrangements with clients, including the debtors in each of these cases, under which Castle Law would represent its clients both pre- and postpetition, but structure the agreements so that all or virtually all the payments were intended to compensate solely for postpetition services, regardless of when the work was actually performed. According to the UST, this permitted Castle Law and BK Billing to collect payments from the clients without violating the automatic stay and discharge injunction provisions of the bankruptcy code.
The UST alleges that, shortly after Castle Law entered into the Factoring Agreement with BK Billing in May 2017, Castle Law contacted Ms. James and offered to go ahead and file her case with no additional money down — recall, she had only paid $225 of the $1,650 due by this point — if she would agree to enter into new fee agreements. The UST alleges that the purpose of this offer was to bring her account, which had not been subject to the factoring arrangement previously, within the Factoring Agreement.
Ms. James agreed, and on July 6, 2017, Castle Law entered into a new "Attorney-Client Retainer Agreement" with Ms. James, which the UST refers to as the "Pre-Petition Contract." According to the UST, the Pre-Petition Contract replaced the Initial Contract.
The Pre-Petition Contract apparently did not address the $225 Ms. James had already paid Castle Law. The UST alleges that the fee of $2,175 was in addition to the $225. The Pre-Petition Contract also did not provide for the court's filing fee or the credit report fee. According to the UST, assuming that the $2,175 included the filing fee and credit report fee, the attorney fee portion was $1,775. When added to the $225 Ms. James had already paid, her actual attorney fee for the chapter 7 bankruptcy was thus $2,000 (exclusive of expenses), an increase of $775 (or approximately 60%) over the $1,250 originally agreed to. The UST asserts the new agreement thus shifted the full cost of BK Billing's involvement under the factoring arrangement to Ms. James.
As part of her new agreement with Castle Law, Ms. James also signed a Recurring Payment Authorization and Consent Form (the "ACH Agreement") authorizing BK Billing to automatically withdraw $85 every two weeks from Ms. James' checking account from August 11, 2017 until the entire $2,175 was to be paid in full on July 27, 2018.
A couple of weeks after entering the new fee arrangement with Castle Law, on July 25, 2017, Ms. James met with an associate attorney at Castle Law and executed the chapter 7 petition, which Castle Law filed on her behalf later that day. Castle Law paid the court filing fee with the petition. Even though Ms. James had initially retained Castle Law more than six months earlier, the filing was "skeletal," in that it did not include the required schedules, statements, and related documents. DK 1.
The filing of the skeletal petition triggered this court's order to show cause ("OTSC") why the case should not be dismissed unless all schedules, statements, and other documents were filed no later than August 9, 2017. DK 8.
The day after the court issued its OTSC, Ms. James apparently signed the Post-Petition Contract. The UST alleges that, because Ms. James' case was subject to dismissal without the filing of the schedules, she had no choice but to sign the Post-Petition Contract. The Post-Petition Contract allegedly required Ms. James to agree that the attorney fees would be nondischargeable.
The UST contends that, on or about July 27, 2017 (two days after filing Ms. James' case, and on the day Ms. James entered into the Post-Petition Contract), Castle Law uploaded to BK Billing's system a number of documents, including the ACH Agreement dated July 6, 2017; the "Notice of Bankruptcy Case Filing" dated July 25, 2017; the Post-Petition Contract dated July 27, 2017; copies of Ms. James' pay stubs; and a copy of her June 2017 bank account statement, together with a canceled check.
Four days later, BK Billing paid Castle Law $1,305 under the Factoring Agreement in connection with Ms. James' case, even though Ms. James had not paid anything to BK Billing by that time. BK Billing "held back" $326.25 as escrow under the amended BK Billing Agreement.
Before the OTSC deadline, Castle Law filed Ms. James' schedules and statements. DK 11. The filings included the "Disclosure of Compensation of Attorney for Debtor(s)."
Ms. James also filed her statement of financial affairs ("SOFA") with her schedules. Question Number 16 on Ms. James' SOFA asked:
Ms. James answered that question by stating that she had paid nothing to Castle Law and again failed to disclose BK Billing. The UST alleges that these disclosures about compensation were false and misleading (although he does not place the blame at Ms. James' feet).
Along with the documents filed on August 8, Castle Law also filed a "Verification by Debtor," in which Ms. James declared under penalty of perjury that she had read the schedules and statements filed and that they were true and correct to the best of her knowledge. DK 12. The Verification bears Ms. James' signature and a hand-written date of August 8, 2017.
The chapter 7 trustee conducted the meeting of creditors on August 28, 2017. DK 15.
Soon thereafter, the chapter 7 trustee issued a Report of No Distribution [DK 17], meaning, in essence, that there were no assets to distribute to creditors. Other than the issue with the attorney fees, Ms. James' bankruptcy case (as well as the other three cases) proceeded uneventfully and each of the debtors ultimately received their discharge.
Meanwhile, however, the UST investigated Castle Law's fee agreements and its Factoring Agreement with BK Billing, and ultimately filed complaints in Ms. James' and the other three consolidated cases.
The UST alleges that Ms. James had actually signed the prepared schedules and statements on August 1, 2017, but Castle Law waited a week — until just before the OTSC deadline — to file them. The UST alleges that Castle Law post-dated the schedules and statements on August 8 to make it appear Castle Law had done most of the work postpetition.
The UST also alleges that, to prevent disclosure of the Factoring Agreement, Castle Law made numerous misrepresentations to the court in its Disclosures of Compensation filed in the cases, including the amount to be paid, that Ms. James was the source of the fees, and that Castle Law had received nothing to date (except for the filing fee), whereas it had already received $1,305 from BK Billing and $225 from Ms. James before the Disclosures were filed. The UST also alleges that, when the UST inquired about the situation, Castle Law attempted to hide the arrangement.
The UST's complaints in these cases each set forth five counts:
The UST seeks varying forms of relief in addition to other general equitable relief with respect to each specific count. In Count I, the UST seeks, among other things, the imposition of an appropriate civil penalty under § 526(c)(5)(B), which expressly authorizes such civil penalties for violations of § 526 as well as an injunction. Count II requests that the court declare the debtors' contracts with Castle Law be declared void and unenforceable, and that all amounts collected under the contracts be disgorged under §§ 526(c)(1) and 105(a). Count III also requests that the fees be disgorged "as a remedial sanction" and other sanctions as may be appropriate under §§ 329 and 105(a). Count IV likewise requests disgorgement of fees under § 329. Count V requests that this court refer Mr. Amerine's alleged violations of the MRPC to the United States District Court for the Western District of Missouri en banc for further proceedings.
The crux of Castle Law's argument for discretionary withdrawal of the reference is that the bankruptcy court lacks jurisdiction and authority to adjudicate the UST's claims. This court disagrees.
Federal district courts have original jurisdiction over bankruptcy cases.
The district court's automatic reference of bankruptcy matters may be withdrawn, under either discretionary or mandatory grounds, on timely motion and for cause shown.
A district court has discretion to withdraw the reference for "cause shown."
Whether the district court should withdraw the reference to the bankruptcy court is committed to the district court's sound discretion.
This court finds Defendants' arguments exceedingly difficult to decipher, so difficult, in fact, that the court held a follow-up conference after the motion was fully briefed. At that conference, the court pointed out that the Defendants appeared to be conflating the terms "jurisdiction" and "authority," and offered the Defendants an opportunity to further explain their arguments in supplemental briefing. Unfortunately, the supplemental briefing has not clarified the Defendants' position, but only muddled it.
As the court understands it, Defendants concede that the complaints as pled are "core" proceedings, since the complaints allege violations of the bankruptcy code and rules and thus constitute proceedings "arising in" or "arising under" the bankruptcy code. They assert, however, that since the bankruptcy court might impose punishment for those violations, somehow the possibility of being punished transmutes those core counts into noncore ones over which the bankruptcy court then magically loses its jurisdiction and authority at the time punishment is imposed. This makes no sense.
"Core" proceedings are statutorily defined, and include matters generally considered essential to the nature of the bankruptcy process, such as matters concerning the administration of the estate, allowance of claims, matters of dischargeability, applicability of the stay, and so on.
Notwithstanding that the UST's complaints allege violations of the bankruptcy code and rules — and would therefore be indisputably core — the Defendants maintain that the nature of the punishment for those violations divests the complaints of "coreness" as of the time of any judgment. Citing International Union, United Mine Workers of America v. Bagwell,
The UST is not seeking to hold the Defendants in either civil or criminal contempt. The fact that certain sections of the bankruptcy code provide for civil penalties without giving the violator an opportunity to purge the violation does not mean the penalty is criminal in nature. Indeed, as the UST points out, the Honorable M. Douglas Harpool so held in a case in which the UST similarly asserted violations of §§ 526, 528, 329, and Rule 2016.
Second, the United States Supreme Court has affirmed that courts have inherent authority to sanction. In Chambers v. NASCO, Inc.,
Indeed, the Eighth Circuit unfortunately has had more than a few appeals deriving from bankruptcy court sanctions orders, and in not one has the Eighth Circuit ever held that bankruptcy courts lack jurisdiction or authority to sanction bankruptcy attorneys, including sanctions that any criminal charges have been brought against Defendant. Rather, the Plaintiff is seeking damages, fines and arguably penalties, pursuant to the relevant [statutes] governing Mr. Bisges' conduct before the bankruptcy court."). involve discipline.
The Defendants next assert that at least some of the claims made here belong to the debtors, and not to the UST. It is true that § 526(c)(1) provides that only a debtor may enforce an attorneyclient agreement that violates the code. But that is not what the UST is seeking to do here. Rather, § 526(c)(5)(B) specifically authorizes the UST to bring a claim against an attorney for violations of § 526. And, § 307 of the bankruptcy code expressly confers standing on the UST to bring violations by attorneys to the court's attention.
The Defendants' argument — taken to its logical extreme — is that bankruptcy courts have no authority to regulate attorneys who appear before them or to penalize them for improper conduct. This court has already observed that the bankruptcy code is unique in its statutorily required court scrutiny of the attorney-client relationship. Congress expressly conferred standing on the UST to bring these violations to the court's attention in part because unsophisticated debtors may not know their attorneys are taking advantage of them.
In sum, this court recommends that the district court find all the UST's claims are core, and that the bankruptcy court has both jurisdiction and authority to determine them and enter final judgment. This factor weighs heavily against withdrawal of the reference.
The second and third factors — delay and costs to the parties and the efficient use of judicial resources — weigh in favor of denial of the motions. This court is intimately familiar with both the procedural history and the alleged facts of these cases, in addition to being deemed an expert in substantive bankruptcy law and procedure. To start over now before another court would only further delay resolution of this matter and could only further add to the costs.
The remaining factors — uniformity of bankruptcy administration, the prevention of forum shopping, and the presence of a jury demand — also support denial of the withdrawal motions. The Defendants have not demanded a jury trial. And, bankruptcy courts certainly have an interest in ensuring that the bankruptcy code and rules are uniformly applied to bankruptcy attorneys, and that sanctions, including discipline, be imposed where appropriate. This bankruptcy judge also has experience in doing so.
The bankruptcy court respectfully recommends: (1) that the district court determine that the bankruptcy court has jurisdiction over each of the counts pled in the UST's complaints; (2) that the district court determine that all counts of the complaints are core and that therefore the bankruptcy court has statutory authority to hear and determine the UST's complaints and to enter final judgments on all counts; (3) that Defendants' other arguments not addressed herein be rejected as having no legal merit; and (4) that the district court deny the Defendants' motions to withdraw reference in these four cases.
