268 Ltd., Matter of

• Decision Date: 29 July 1986
• Docket Number: No. 84-2837,84-2837
• Parties: , 14 Collier Bankr.Cas.2d 904, Bankr. L. Rep. P 71,137 In the Matter of 268 LIMITED, A Nevada Limited Partnership, Debtor. JOSEPH F. SANSON INVESTMENT CO., a Limited Partnership and Joseph F. Sanson, Individually, Plaintiffs-Appellants, v. 268 LIMITED, A Nevada Limited Partnership, Defendant-Appellee.
• Court: U.S. Court of Appeals — Ninth Circuit

Page 674

789 F.2d 674

54 USLW 2586, 14 Collier Bankr.Cas.2d 904,

Bankr. L. Rep. P 71,137

In the Matter of 268 LIMITED, A Nevada Limited Partnership, Debtor JOSEPH F. SANSON INVESTMENT CO., a Limited Partnership and Joseph F. Sanson, Individually, Plaintiffs-Appellants, v. 268 LIMITED, A Nevada Limited Partnership, Defendant-Appellee.

No. 84-2837.

United States Court of Appeals Ninth Circuit.

Argued and Submitted Jan. 15, 1986.

Decided May 5, 1986.

As Amended July 29, 1986.

Gerald M. Gordon, Wiener, Waldman, Gordon, Ltd., Las Vegas, Nev., for plaintiffs-appellants.

Joshua Landish, Leonard Wilson, Las Vegas, Nev., for defendant-appellee.

Appeal from the United States District Court for the District of Nevada.

Before MERRILL, GOODWIN and ALARCON, Circuit Judges.

GOODWIN, Circuit Judge:

Appellee-debtor 268 Limited, a Nevada limited partnership organized to acquire and operate an apartment complex for investment purposes, purchased the Shenandoah Square Apartments from appellant Joseph F. Sanson Investment Company (Sanson). Sanson retained a security interest in the property evidenced by a note secured by a first deed of trust. The deed of trust provided that in the event of default and sale of the property by the trustee, five percent of the balance remaining due at the time of default would be paid to Sanson as attorney's fees.

After the filing of an involuntary petition under Chapter 11 against 268 Limited, default on the secured obligation, and sale of the real property securing the debt, Sanson applied to the bankruptcy court for $197,500 in attorney's fees provided in the deed of trust. The court awarded $20,000.

The property sold for about $1,000,000 in excess of the outstanding principal. Funds were thus available to pay the contractually set fee. The bankruptcy court, relying upon 11 U.S.C.A. Sec. 506(b) (West Supp.1986), ¹ limited the fees to the amount it deemed reasonable under the circumstances. The district court affirmed the award. We must therefore decide whether the bankruptcy court was correct in making its own reasonableness assessment, or whether it should have enforced the contractual fee provision if it was valid under the governing state law.

We hold that Sec. 506(b) preempts the state law governing the availability of attorney's fees as part of a secured claim, and that the bankruptcy court correctly engaged in an independent reasonableness inquiry.

The Law Governing Reasonableness under Section 506(b).

Sanson argues that it is entitled to the agreed fee if that fee would be allowed under the state law governing the contract. 268 Limited argues that the bankruptcy court must assess the reasonableness of the claim without regard to state law.

Both the language and the structure of Sec. 506(b) require rejection of Sanson's argument. Sanson's theory is linguistically untenable because it implicitly equates reasonableness with enforceability. It argues that if the contractual fee provision would be enforceable under Nevada law, then the amount provided is reasonable per se under Sec. 506(b). Reasonableness and enforceability are not, however coterminous. A concededly unreasonable fee provision might be enforceable under state law, whereas a reasonable one might be unenforceable for reasons unrelated to the size of the fee. Thus, we cannot agree that by requiring that contractual fee agreements be reasonable Congress meant only that they must be enforceable under the law governing the enforcement of the contract. To give Sec. 506(b)'s limitation meaning, we must read it to provide for an ex post reasonableness determination by the bankruptcy court.

Sanson's argument also ignores the structure of Sec. 506(b). The statute treats interest and "fees, costs or charges" claimed under Sec. 506(b) differently. The interest provision is not subject to the reasonableness limitation. When an oversecured creditor seeks interest on his or her claim, the bankruptcy courts apply the security agreement's interest rate. See, e.g., In re Rutherford, 28 B.R. 899, 902 (Bankr.N.D.Ill.1983); In re Elmwood Farm, Inc., 19 B.R. 338, 341 (Bankr.S.D.N.Y.1982); see also 3 Collier on Bankruptcy p 506.05, at 506-42 (15th ed. 1985). Sanson reads the fee provision as the interest provision is read, thus ignoring the express reasonableness limitation imposed on fees.

Section 506(b)'s legislative history also favors reading the statute as preempting the state law governing the reasonableness of fee provisions. The statute was enacted as part of the Bankruptcy Reform Act of 1978. References to it in the Act's legislative history are brief. Both the Senate and the House Reports state only that the provision "codifies current law" by entitling an oversecured creditor to fees. S.Rep. No. 95-989, 95th Cong. 2d Sess. 68, reprinted in 1978 U.S.Code Cong. & Ad.News 5787, 5854; H.R.Rep. No. 95-595, 95th Cong., 2d Sess. 356-57, reprinted in 1978 U.S.Code Cong. & Ad.News 5787, 6312. The enforceability of attorney's fees agreements between oversecured creditors and debtors was governed by state law prior to the enactment of Sec. 506(b). Unsecured Creditor's Committee v. Walter E. Heller & Co. Southeast, Inc., 768 F.2d 580, 582 (4th Cir.1985). The reports thus support Sanson's view that state law governs reasonableness under Sec. 506(b).

However, a comparison of the various predecessor bills with Sec. 506(b) as enacted suggests that Congress ultimately rejected the reference to state law.

The first House predecessor bill did favor the application of state law. H.R. 6, 95th Cong., 1st Sess. (1977), introduced in January 1977, contained no reasonableness limitation at all. It afforded secured status to an oversecured creditor's interest on his claim, and "any fees, costs, or charges provided under the agreement under which such claim arose." A subsequent bill, H.R. 8200, 95th Cong., 1st Sess. (1977), as amended by the Committee on the Judiciary, read "[t]here shall be allowed to the holder of such claim, to the extent collectible under applicable law interest on such claim, and any reasonable fees, costs, or charges provided under the agreement under which the claim arose." The reasonableness provision suggests a move away from a state law standard. The "to the extent collectible under applicable law" language supports Sanson's argument, but may modify only the interest clause that immediately proceeds.

The Senate bill contained the reasonableness limitation, but omitted the "to the extent collectible under applicable law" language. S. 2266, 95th Cong., 1st Sess. (1977).

Congress enacted the Senate version of the bill. Although the differences were worked out without formal conference, Senator De Concini and Representative Edwards, the floor managers of the Act, made identical statements on the floors of their respective Houses regarding Sec. 506(b). They stated that the House version had been rejected in favor of the Senate version, and that fee agreements would be enforceable "notwithstanding contrary law." 124 Cong.Rec. 32,398, 33,997 (1978). Thus, despite the language of the House and Senate Reports, Congress declined to require that the bankruptcy courts consult the governing state law to determine the reasonableness of fees claimed under Sec. 506.

Section 506(b)'s legislative history is silent as to why Congress ultimately chose to displace pre-bankruptcy contractual arrangements. The legislative history of the Code's provisions imposing reasonableness limitations on other pre-bankruptcy obligations suggests, however, that they were intended to prevent overreaching or the collusive use of fee arrangements. In 11 U.S.C. Sec. 329 (1982 & Supp. II 1984), Congress limited the fees available to attorneys for work performed "in contemplation of" bankruptcy during the year before the filing of the petition to those deemed reasonable. The reports discussing Sec. 329 state that "[p]ayments to a debtor's attorney provide serious potential for evasion of creditor protection provisions of the bankruptcy laws, and serious potential for overreaching by the debtor's attorney, and should be subject to careful scrutiny." S.Rep. No. 95-989, supra, at 39, reprinted in 1978 U.S.Code Cong. & Ad.News at 5825; H.R.Rep. 95-595, supra, at 329, reprinted in 1978 U.S.Code Cong. & Ad.News at 6285. Similarly, 11 U.S.C.A. Sec. 502(b)(4) (West Supp.1986) disallows claims by "an insider or attorney of the debtor" to the extent that the claim exceeds the "reasonable value" of the services rendered. This provision, enacted as Sec. 502(b)(5) and renumbered without alteration by the 1984 amendments to the Bankruptcy Code, was designed to "prevent[ ] overreaching by the debtor's attorneys and [the] concealing of assets by debtors." S.Rep. No. 95-989, supra, at 63, reprinted in 1978 U.S.Code Cong. & Ad.News at 5849; H.R.Rep. 95-595, supra, at 353, reprinted in 1978 U.S.Code Cong. & Ad.News at 6309.

We note that when Congress intended state law standards to apply in bankruptcy it did so explicitly. 11 U.S.C. Sec. 502(b)(1) (Supp. II 1984) disallows claims against the estate that are "unenforceable against the debtor, under any agreement or applicable law for a reason other than because such claim is contingent or unmatured." Thus the validity of claims against the estate, with a few statutory exceptions, is determined by state law and private agreement. Congress' explicit reference to state law when it intended such law to apply cuts against Sanson's argument that the term "reasonable" in Sec. 506(b) requires only state law enforceability of the deed of trust's fee provision.

Sanson argues that Butner v. United States, 440 U.S. 48, 99 S.Ct. 914,...