Case Dismissed! Do Not Pass Go, Do Not Collect Your $1 Million

by Robins Kaplan LLP
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Following dismissal of a bankruptcy case, what is the bankruptcy court’s authority to enforce an award for attorneys’ fees? While you might think that the bankruptcy court retains authority to enforce its own orders, a recent decision from the Northern District of Illinois specifically held otherwise. In In Re Sweports, Judge Goldgar, relying on dicta from a prior Seventh Circuit appeal in the case, held that following dismissal of a bankruptcy case, the bankruptcy court lacked subject matter jurisdiction to entertain collection proceedings brought by the professionals seeking to enforce fee awards.

Background

Sweports is a holding company that owns patents, and its subsidiary, UMF Corporation, manufactures antimicrobial cleaning products using the patented technology. In 2012, several judgment creditors filed an involuntary Chapter 11 petition against Sweports. After Sweports consented to the bankruptcy, both Sweports and the Official Committee of Unsecured Creditors (the “Creditors Committee”) filed plans of reorganization that were rejected by the bankruptcy court. Thereafter, the bankruptcy court granted the U.S. Trustee’s motion to dismiss the case, which was unopposed by Sweports and the Creditor’s Committee. The creditors favored dismissal because they believed they would fare better suing the company in state court immediately, rather than waiting to scramble for pieces of the company if it were liquidated in bankruptcy.

After the dismissal and closure of the case, both the attorney and financial advisor for the Creditors Committee filed applications for compensation. Sweports objected, arguing that the court lacked jurisdiction to consider the applications. The bankruptcy court denied the applications, agreeing with Sweports and reasoning that the applications were moot because the awards could be paid only out of the assets of the debtor’s estate, and there were no such assets now that the bankruptcy had been dismissed.

The professionals appealed directly to the Seventh Circuit Court of Appeals, which reversed the bankruptcy court’s decision. The Seventh Circuit stated that although there was no longer an estate from which the professionals could be paid, dismissal did not preclude the bankruptcy court from determining that the professionals had a valid claim for fees. The Seventh Circuit held that, in addition to its “ordinary jurisdiction,” bankruptcy courts have “ ‘clean-up’ jurisdiction (‘ancillary’ jurisdiction, it is commonly called) to take care of minor loose ends.” The fee applications were just one example of such “loose ends.”

In dicta, however, the Seventh Circuit appeared to draw a distinction that would later be used by the bankruptcy court to prevent the professionals from enforcing their fee awards using the bankruptcy process. Judge Posner, writing on behalf of the Seventh Circuit, stated that there is a difference between “determining an entitlement to fees and ordering payment of fees,” ending the decision by saying that the professionals were entitled “to pursue in the bankruptcy court the request for an award (not payment, but determination of what is owed) of fees for services…”

The case was remanded to the bankruptcy court for consideration of the fee applications. On remand, the case was reopened and the professionals were awarded final fees in the amount of nearly $1 million.

The professionals then commenced collection efforts against Sweports in Illinois state court and spent the next year and a half trying to collect. Unfortunately, the professionals were not alone in their collection efforts. While the professionals were busy litigating over and securing the fee award in the bankruptcy court, a number of other creditors (professionals that represented the debtor in the bankruptcy court) had commenced state court actions and then obtained judgments against Sweports and took possession of the assets in satisfaction of those judgments. When the bankruptcy professionals then sought to intervene in these collection efforts, Sweports moved to vacate the fee awards, arguing that the awards were not “judgments” because (a) the bankruptcy court did not have the jurisdiction and authority to enter the fee awards (notwithstanding the Seventh Circuit decision); and (b) the fee awards were not enforceable judgments, as they did not take the form of more traditional judgments (i.e., they did not contain the word “judgment” or otherwise state that they were “judgments” in favor of the professionals and against Sweports).  The state court initially agreed and invalidated the fee awards.

Frustrated by the state court decision, the professionals returned to the bankruptcy court seeking an order declaring that the fee awards were “judgments” in their favor (and against Sweports).  The bankruptcy court denied the motion on the ground that no clarification was necessary, but stated on the record that the awards met the definition of “judgment” in Rule 54(a) of the Federal Rules of Civil Procedure (made applicable to bankruptcy proceedings by Fed. R. Bankr. P. 7054, 9014(c)).

Based on the comments of the bankruptcy court judge, the professionals filed their own motion for reconsideration in the state court to reinstate the judgments, which was granted. As of the date of this post, Sweport has filed yet another motion for reconsideration to invalidate the judgments, which remains pending.

Following nearly 17 months of protracted legal entanglement, the professionals had the clerk of the bankruptcy court issue writs of execution to the U.S. Marshall to seize the stock of the UMF subsidiary from the creditors. Sweports and the creditors moved in the bankruptcy court to quash the writs. On February 28, 2017, the bankruptcy court, relying on the dicta of the Seventh Circuit, quashed the writs on the grounds that the bankruptcy court lacked subject matter jurisdiction to enforce its own judgment.

In coming to this decision, the bankruptcy court recognized authority allowing courts to enforce their own orders and that the bankruptcy court may have “ancillary jurisdiction” “…to manage its proceedings, vindicate its authority, and effectuate its decrees.” The bankruptcy court further recognized that ancillary jurisdiction has widely been held to permit a court to enforce its judgment once the action that produced it has ended as, without jurisdiction to enforce its orders, “the judicial power would be incomplete and entirely inadequate to the purposes for which it was conferred by the Constitution.”

The bankruptcy court held, however, that the “law of the case” dicta from the Seventh Circuit decision specifically limited the bankruptcy court’s ancillary jurisdiction over the claims for fees and expenses. The bankruptcy court reasoned that, because the Seventh Circuit distinguished between a determination of fees on the one hand and an order to pay them on the other, the bankruptcy court’s jurisdiction post-dismissal came to an end once it issued a determination regarding the amount of the professionals’ fees.

Practical Implications

It goes without saying that the most obvious of the practical implications of the Sweports decision is that, where at all possible, professionals should file fee applications and seek payment on account of those applications prior to dismissal of the case. Understanding that client and fiduciary interests may conflict with this course of action, there are a number of alternatives that a professional may pursue. For instance, instead of dismissing a case, where possible, the automatic stay may be lifted to allow suits by creditors so that professionals can file fee applications and professionals (and other creditors) can proceed with efforts to collect their debts. Alternatively, professionals should ask the bankruptcy court to include language in the fee order directing immediate payment to the professional and to “reserve” jurisdiction over fee enforcement proceedings under section Bankruptcy Code section 105(a), which states that “[n]o provision of this title…shall be construed to preclude the court from…taking any action or making any determination necessary or appropriate to enforce or implement court orders….”

The Sweports saga may not yet be over, and there is no guarantee that another court would hold similarly. But where fees are on the line, it may be better to be safe than sorry.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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