By: Anna Chen
St. John’s Law Student
American Bankruptcy Institute Law Review Staff
In Cantu v. Schmidt (In Re Cantu), the Court of Appeals for the Fifth Circuit held that malpractice claims that arise during chapter 11 reorganization but before chapter 7 liquidation belong to the bankruptcy estate. In Cantu, the debtors, the Cantus, filed for chapter 11 bankruptcy. The debtors hired an attorney, Ellen Stone, to represent them in the bankruptcy case. Upon the request of a group of creditors, the bankruptcy court converted the debtors’ chapter 11 case to chapter 7 and a trustee was appointed. Following conversion, the creditors filed a complaint seeking a judgment declaring that the debtors’ debts were not dischargeable. After a two-day trial, the bankruptcy court determined that the debtors’ debts would not be discharged. The court pointed out a number of “omissions, misstatements, and controversies” that plagued the chapter 11 bankruptcy, such as the Cantus’ failure to disclose significant assets and transactions, an improper transfer of $50,000 of what would have been estate property to a close friend during the bankruptcy case, and the Cantus’ lack of cooperation with the court and trustee. A few years later, the Cantus hired an attorney to investigate a possible legal malpractice claim against Stone for her representation during the Cantus’ bankruptcy. The trustee informed the new counsel that he believed the claims against Stone were “property of the estate and under the trustee’s sole authority to prosecute.” The bankruptcy court agreed with the trustee and authorized him to investigate the legal malpractice claims. After conducting his investigation, the trustee filed a malpractice suit against Stone in state court. After removal to federal court, Stone and the trustee settled for $281,710.54. The district court referred the case to the bankruptcy court to determine whether the settlement proceeds belonged to the debtors or the bankruptcy estate. The bankruptcy court held that the settlement proceeds belonged to the estate. On appeal, the district court and the Fifth Circuit affirmed the bankruptcy court’s decision, holding that the proceeds belonged to the debtors’ estate.