In re Zamora

• Decision Date: 03 January 2002
• Docket Number: No. 97-51080.,97-51080.
• Citation: 274 B.R. 268
• Parties: In re Gloria P. ZAMORA, Debtor.
• Court: U.S. Bankruptcy Court — Western District of Texas

274 B.R. 268

In re Gloria P. ZAMORA, Debtor.

No. 97-51080.

United States Bankruptcy Court, W.D. Texas, San Antonio Division.

January 3, 2002.

Joseph W. Shulter, San Antonio, TX, for Debtor.

Johnny W. Thomas, San Antonio, TX, trustee.

MEMORANDUM OPINION ON DEBTOR'S MOTION TO AWARD ATTORNEY FEES AFTER CONVERSION TO CHAPTER SEVEN AND REQUEST FOR DECLARATORY RELIEF

LEIF M. CLARK, Bankruptcy Judge.

Debtor converted her case from Chapter 13 to Chapter 7. At the time of conversion, the Chapter 13 Trustee had funds on hand and/or received funds after conversion from the employer of the Debtor. Since Debtor did not have the monies available to pay the attorney fees for the Chapter 7 conversion and representation. Debtor assigned the funds to the Law Offices of Roger N. Havekost. The Chapter 13 Trustee refused to tender the funds to the Debtor's attorney and objected to the method of payment proposed by the Debtor. The debtor then filed a motion to authorize the payment of its attorney fees and sought declaratory relief regarding the procedures that might be permitted. This memorandum opinion serves as both a ruling on the discrete dispute and as a holding for how and under what circumstances a debtor's intended assignment of funds due from the chapter 13 trustee is to be honored by the chapter 13 trustee.

Background and Arguments of the Parties

In 1994, Congress amended section 348 to resolve a conflict in the circuits regarding to whom funds held by the chapter 13 trustee upon conversion of a case should be disbursed. New section 348(f)(1)(A) overruled previous case law,¹ and now provides that, "property of the estate in the converted case shall consist of property of the estate, as of the date of filing of the petition, that remains in the possession of or is under the control of the debtor on the date of conversion." See 11 U.S.C § 348(f)(1)(A); see also In re Frausto, 259 B.R. 201, 209 (Bankr.N.D.Ala.2000). Because post-petition earnings are, by definition (and common sense), not property of the estate as of the date of the commencement of the case,² once a chapter 13 case is converted to chapter 7 (or dismissed, for that matter), any monies that represent post-petition earnings that may remain in the hands of the chapter 13 trustee belong not to the bankruptcy estate but to the debtor.³ Thus, in the ordinary case, once a case is converted, the chapter 13 trustee must send the debtor those monies (after deducting certain administrative expenses and costs).

The failure of a chapter 13 case has real consequences for the debtor's attorney. If the case is converted, the lawyer will have a continuing duty to perform various services for the debtor, including preparing conversion schedules and appearing with the debtor at a new first meeting of creditors. Unfortunately, the debtor is unlikely to have any excess funds on hand with which to pay the lawyer, because the plan has already devoted all of the debtor's net disposable income to paying claims, leaving only enough money for the debtor to support herself and her dependents. If the plan fails, it is usually because the debtor lacks enough money to even make the plan work (or to achieve confirmation). Once the case is converted, the debtor's lawyer can no longer be paid out over time under a court-supervised distribution scheme — in fact the debtor's lawyer in chapter 7 cannot be paid out of estate assets at all. See 11 U.S.C. § 330(a).⁴ The only ready source of funds the debtor often has with which to pay the lawyer for the cost of representation in the converted case will therefore be the funds that remain on hand in the chapter 13 trustee's account resulting from undisbursed pay order deductions taken out of the debtor's paycheck during the chapter 13 case.

The debtor could, of course, simply pay the lawyer directly with the funds the debtor receives from the chapter 13 trustee once they are received, but the debtor's lawyer may be understandably reluctant to rely on payment in this fashion. The debtor, after all, might choose to use those funds to pay for something else — a car payment, a mortgage payment, groceries, utilities, a new television — leaving the lawyer unpaid. The lawyer, anticipating this possibility, might well choose to minimize the credit risk by asking the client debtor to simply assign to the lawyer the debtor's right to receive the funds due the debtor from the chapter 13 trustee. The equities favor obtaining this sort of assignment in the case of a conversion, because the lawyer is expected to perform additional services for the debtor, in the face of a substantial likelihood of nonpayment unless the funds on account with the chapter 13 trustee are applied to pay for these services. It is for these reasons that the debtors in this case chose to assign their right to receive money from the Chapter 13 Trustee to their lawyers to pay for the cost of representation in the converted case. No doubt the attorney encouraged this procedure as well, for good reasons.

The chapter 13 trustee objects to having to honor such assignments, however. While not directly challenging the right of the debtor to assign the funds to her lawyer, the trustee suggests that such a process, if widely permitted, "has serious potential for overreaching by a debtor's attorney." The trustee also points out that his accounting procedures (apparently mandated by the United States Trustee) do not contain a disbursement category for payment to attorneys other than payment for allowed attorneys' fees.⁵ Says the trustee, the final report required of the trustee by statute would "potentially show payments to the attorney of an exaggerated amount for attorney fees," leaving the trustee open to attack by either the debtor or by the Office of the United States Trustee. The trustee's next concern is that debtors might end up suing the trustee over disputes regarding money paid over to the attorney pursuant to an assignment (perhaps arguing that the assignment was fraudulently obtained, for example). The trustee also suggests that, if any of the money paid over to the attorney is for work done "pre-conversion," the trustee may find himself participating in paying off a debt that is in fact dischargeable in the debtor's chapter 7 bankruptcy case, without appropriate protections afforded by section 524(c). See 11 U.S.C. § 524(c); In re Jastrem, 253 F.3d 438 (9th Cir. 2001). Finally, the trustee suggests that no more should be paid over to the attorney than can be attributable to conversion work, so that the balance should be refunded directly to the debtor.

Analysis

The precise question presented on the facts of this case is whether a debtor can assign the monies due to the debtor from the chapter 13 trustee to the debtor's lawyer for services to be rendered in the now converted case. Broader issues are suggested as well in the request for declaratory relief, but this decision will not attempt to directly address them because they involve other factors not present here that might yield a different outcome.⁶

As has been noted, once a case is converted from chapter 13 to chapter 7, the debtor's estate consists only of property that would have been property of the estate under that chapter as of the date of filing. See 11 U.S.C. § 348(f)(1); see also Matter of Sandoval, 103 F.3d 20 (5th Cir.1997). Assets that may have been disposed of since the filing do not come into the estate upon conversion, however. 11 U.S.C. § 348(f)(1)(A). Thus, upon conversion, the debtor is obligated to revise the bankruptcy schedules to reflect any changes in assets or creditors, and to make the necessary elections required by section 521. See 11 U.S.C. § 521; Fed.R.Bankr.P. 1019(5)(B).⁷ The debtor is also required to attend a new § 341 meeting, to be examined by creditors and by the chapter 7 trustee. Debtors are certainly entitled to legal assistance in fulfilling these obligations, but cannot by law pay for those services out of bankruptcy estate assets. See 11 U.S.C. § 330(a) (listing professionals who are entitled to be paid out of estate assets, and omitting attorneys who represent debtors in chapter 7 or 11). The lawyer of course has an ethical duty to continue the representation of the debtor, in order to complete the bankruptcy process, but the lawyer is not normally expected to work for free. Thus, the lawyer must look directly to the debtor for payment, if the lawyer is to be paid at all.

The lawyer and the debtor are thus placed in a bit of a bind. The lawyer will want to be paid for services rendered in assisting the debtor in the converted case, and will not want to become, in the process, a new creditor of the debtor, if that can be avoided. The debtor, assuming a desire to in fact pay the lawyer, will have only a limited number of sources from which to draw payment for the lawyer's services. The debtor can look to post-petition income (because that is not property of the chapter 7 estate), or to exempt property, or to some other post-petition property. Some debtors may be fortunate enough to have sufficient income post-petition to pay their lawyers from that source, but most will not. While debtors could certainly liquidate some exempt property to pay their lawyers, the court is reluctant to announce a rule that essentially forces debtors to use that source, because such a rule would fly in the face of the fresh start principle that underlies both bankruptcy itself and the scheme of exemptions permitted by section 522(b).

All of which leaves the third potential resource for paying the debtor's lawyer for services to be performed in the converted case — post-petition property other than wages or exempt property. The funds on hand with the Chapter 13 Trustee, upon conversion, are, by definition, not property of the converted estate, and so afford a ready source for paying the debtor's lawyer for work to be done in the converted case. The prospective fees to be earned do not require...