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Bar offers guide for bankruptcy flat fees

B“Take the money at filing time” is the advice suggested by a committee of the Virginia State Bar for attorneys charging up-front flat fees for no-asset bankruptcy cases.

The VSB Committee on Ethics is requesting comments on a proposed legal ethics opinion that would permit lawyers to consider their fee fully earned upon filing of a Chapter 7 no-asset bankruptcy, even though there may be more work to be done.

The deadline for comments to the bar is July 2.

Proposed LEO 1883 addresses the question of whether a debtor’s lawyer may consider his entire fee earned upon the filing of a Chapter 7 no-asset bankruptcy petition even though there are still legal services to be performed.

The concern arises because, under such circumstances, a possible claim by creditors against client fees held in trust could put the attorney in an “untenable situation,” the bar said.

If a lawyer leaves some of the fee in his trust account, the money could become untouchable once bankruptcy is filed, the opinion explains. A 2004 U.S. Supreme Court opinion held that the debtor’s attorney ordinarily cannot be paid from the assets of the bankruptcy estate.

Moreover, holding back some of the fee creates a conflict of interest for the lawyer and client if the unearned fee were listed as a debt on the petition, the committee said.

“It would be in the client’s interest to have this debt to the attorney discharged, along with all other debts which the attorney is assisting the client in having discharged,” the proposed opinion reads.

VSB Ethics Counsel James M. McCauley said the issue was raised in a VSB disciplinary matter, although the fee issue was not pursued by the bar counsel’s office.

McCauley said bar staff learned that the practice of taking the full fee out of trust just before filing a Chapter 7 petition was a “common and accepted practice.”

“We decided to do research on the issue and learned that this question is really driven by bankruptcy law, but because of the ethics rule that a flat fee is not earned until the representation has been completed, we believed that a LEO was needed,” McCauley said.

Lawyers have taken three approaches, the committee learned.

Some treat the advanced fees as earned when paid, some hold the balance of the fee until the bankruptcy is concluded, and some withdraw the balance of all fees from their trust accounts immediately before the petition is filed.

The third method is the only ethically permissible practice for handling no-asset Chapter 7 bankruptcies, the VSB ethics panel said.

The lawyer has no discretion to treat unearned fees on hand in his trust account as either potentially his or the client’s once the petition is filed, the committee said. At that point, the only proper “trustee” of those funds is the bankruptcy trustee, the panel said.

Bankruptcy forms don’t acknowledge the issue.

“The Committee is advised that as long as the fee listed on the disclosure form is reasonable, it typically remains unchallenged by creditors and the bankruptcy trustee,” the proposed opinion reads.

Accordingly, the committee concluded the only method of handling advance, fixed fees tendered by a client for a no-asset Chapter 7 case under the rules is the attorney’s withdrawal of the balance of all fees remaining in the trust account immediately before the petition is filed.

“The attorney has already performed most of the work associated with the client’s matter as of the time a petition is filed, and it is a reasonable benchmark in a fixed-fee agreement to have the balance of fees disbursable immediately before the petition is filed,” the proposed LEO states.

If approved, the LEO “will alter conventional practice for lawyers who do no-asset bankruptcies,” said Steven B. Ramsdell of Alexandria. He is the immediate past chair of the VSB Bankruptcy Law Section.

“We traditionally wait until the case has been filed before transferring funds from the firm’s trust account to the firm’s operating account,” he said.

The change would be just a question of timing. Ramsdell said he has regarded the fee as fully earned when filing the petition in no-asset cases.

“I don’t consider the fee not earned just because I have to show up at a creditors meeting,” he said.

Taking the fee at filing time could require some caution, Ramsdell added. Clients are known to change their minds about bankruptcy at the last minute. He said the best practice might be to have a client meeting to go over the prepared petition, make a note of the client’s intent to follow through, transfer the fee and then file the paperwork.

Reports occasionally surface of lawyers who come to the attention of bankruptcy judges or the VSB for treating fees as earned when paid.

“I don’t know any reputable firms doing that,” Ramsdell said.

A Southwest Virginia attorney last month pleaded guilty to fraud in connection with his handling of fees from bankruptcy clients.

The government accused Tony M. Hutchinson of collecting advance fees ranging from $500 to $1,000 and failing to turn the money over to his law firm. Clients paid the money in cash or blank money orders, according to the charges.

Hutchinson faces sentencing in August.

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