For bankruptcy practitioners, there is one question that laymen always ask: "If your client is bankrupt, how do you get paid?" The reply is a confident, "We get paid first." Occasionally, one might continue and explain that the Bankruptcy Code provides for payment of professional fees on a "priority basis," which equates to payment before other unsecured creditors. See 11 U.S.C. §507(a)(1) (1999). Before you count your chickens, however, make sure the eggs have hatched. A recent Fifth Circuit opinion changes bankruptcy law as to debtor's counsel compensation. See Andrews & Kurth L.L.P. v. Family Snacks Inc., 157 F.3d 414 (5th Cir. 1998) ("Family Snacks"); see, also, 3 Lawrence P. King, Collier on Bankruptcy §330.LH[5] at 330-76 (15th ed. 1998).

Family Snacks demonstrates that mere court approval of debtor's counsel employment does not ensure the payment of attorney's fees.¹ Accordingly, in analyzing debtor's counsel compensation, it is important to know (a) Code requirements, (b) the Family Snacks holding, (c) alternate case law, and (d) the potential of working for free.

The Code and Debtor's Counsel Compensation

To receive a priority claim under §507(a)(1), by virtue of a §503(b) administrative claim, debtor's counsel must comply with two prerequisites. First, counsel must seek and obtain approval under §327.² Section 327 states that the trustee, or debtor-in-possession (DIP) pursuant to §1107, may employ an attorney or other professional person to represent or assist the trustee or DIP. 11 U.S.C. §327(a) (1999).

Second, after approval of employment and incurring fees, counsel must obtain approval of compensation under §330(a)(1). Section 330(a)(1) states that "the court may award to a trustee, an examiner, a professional person employed under §327 or 1103Šreasonable compensation for actual, necessary services rendered by the trustee, examiner, professional person or attorney, and by any paraprofessional person employed by any such person." 11 U.S.C. §330(a)(1)(A) (1999). Section 330(a)(1) thus provides the means for compensating debtor's counsel, just as §327 provides for the employment of debtor's counsel.

Accordingly, to receive compensation as debtor's counsel, one must first be employed and second apply for compensation under §330. Not so fast! Noticeably missing from the current version of §330(a)(1) is the "to the debtor's attorney" language that followed "a trustee, an examiner, a professional person" prior to the 1994 Amendments. Moreover, Family Snacks interprets the discrepancy as intentional, thereby altering the availability of compensation for debtor's counsel.

The Family Snacks Opinion

In Family Snacks, the Fifth Circuit held that a bankruptcy court cannot award compensation to debtor's counsel from estate assets for work performed after the appointment of a chapter 11 trustee. However, the Fifth Circuit's opinion contains an incomplete analysis and focuses on statutory construction of the 1994 Amendments.

Specifically, the Fifth Circuit stated that "by deleting 'to the debtor's attorney,' Congress indicated that the debtor's counsel may not be compensated from the estate after the appointment of a chapter 11 trustee." Family Snacks, 157 F.3d at 424. However, the Fifth Circuit was silent as to the fact that §330(a)(1) still contains the term "professional" and that §330(a)(1)(A) refers to compensation for "an attorney." See Family Snacks, 157 F.3d 414; 11 U.S.C. §§330(a)(1) and (a)(1)(A) (1993).

Further, the Fifth Circuit conducted no analysis regarding §330(a)(1)'s retention of "professional person." After all, a trustee, examiner and/or professional person is not the same individual because of the different usage of these terms throughout the Bankruptcy Code. See, e.g., 11 U.S.C. §§327, 330 (1999). Also, Congress erred in at least one regard by omitting the disjunctive "or" between "examiner" and "professional person." See 11 U.S.C. §330(a)(1) (1999). Instead, the Fifth Circuit focused on the omission of "to a debtor's attorney" and determined no vagueness existed, thus completing its analysis.

Consequently, based on the Fifth Circuit's ultimate ruling, the bankruptcy community must assume that the Fifth Circuit interpreted §§327, 330 and 1107 as allowing compensation for either the trustee's counsel or debtor's counsel, but not both, based on the termination of DIP status after chapter 11 trustee appointment. However, the Fifth Circuit did not include such a discussion in its actual holding, even though, as that court mentioned, the creditor/appellees raised exactly this point. Family Snacks, 157 F.3d at 424-26.

Further, the Fifth Circuit overlooked Congress' intent in enacting §330(a)(1)(A)'s safeguards. Specifically, §330(a)(1)(A) requires that the court compensate only for "actual, necessary services." 11 U.S.C. §330(a)(1)(A) (1999). However, actual and necessary services often exist after chapter 11 trustee appointment, and often non-estate assets do not exist to otherwise compensate debtor's counsel. This result, as discussed more fully below, is inequitable to counsel who must now work for free due to other imposed duties. Fortunately for some, Family Snacks' ruling applies only in the Fifth Circuit, thereby allowing compensation to counsel in other jurisdictions who perform post-appointment services to the debtor.

Alternate Case Law

The Fifth Circuit's interpretation of the current version of §330(a)(1) appears to be in the minority. In fact, several courts examined this issue and determined that, to the contrary, if debtor's counsel efforts were reasonably likely to benefit the debtor's estate, they should be compensated. In re Ames Department Stores Inc., 76 F.3d 66, 71 (2d Cir. 1996); In re Miller, 211 B.R. 399, 401-03 (Bankr. D. Kan. 1997); In re Stroudsburg Dyeing & Finishing Co., 209 B.R. 648, 650 (Bankr. M.D. Pa. 1997); In re Melp Ltd., 179 B.R. 636, 639 (E.D. Mo. 1995).

These courts held opposite to Family Snacks, finding a lack of congressional intent and an underlying public policy in compensating debtor's counsel for work performed after the appointment of a chapter 11 trustee. The only caveat put on debtor's counsel compensation is that it must comply with the other provisions of §330. Thus, the alleged change in §330(a)(1) may or may not be an issue, depending upon the particular jurisdiction, in determining whether debtor's counsel works for free.

Working for Free

Perhaps the most detested of all work is free work.³ Even worse, however, is when free work benefits the bankruptcy estate. Family Snacks increases the potential of working for free because Family Snacks does not absolve debtor's counsel from post-appointment service.

After all, the Bankruptcy Code requires approval prior to employment, and therefore, most courts require approval prior to withdrawal. Thus, the lawyer remains counsel for the debtor. Furthermore, state law ethical obligations may require an attorney to continue to perform as counsel, regardless of the potential prohibition of payment. Thus, the attorney works for free.

Such a potential for free work creates not only an ethical dilemma, but also an economical dilemma that could lead to debtor's counsel's withdrawal or unwillingness to perform any services after trustee appointment. Thus, due to such potential fallout, Congress should amend the Code and, if nothing else, clarify its intent in §330(a)(1).

Until such time, however, debtor's counsel has several post-appointment options. First, consider obtaining court approval prior to performing additional work for the debtor. Although such approval may not prevent subsequent reversal on an objecting party's appeal, it would secure payment if no party objects.

Also, if the necessary work does not create a conflict of interest, consider trustee representation when such representation furthers the debtor's goals. The conflict-of-interest issue is pertinent here to prevent ethical as well as fiduciary problems. When debtor's counsel is hired for a special purpose, however, the code actually supports such employment. See 11 U.S.C. §327(e) (1999).

Additionally, remember that Family Snacks applies only to compensation from estate assets. Thus, if non-estate assets exist, debtor's counsel may still receive compensation. Regardless of the means, however, alternate compensation exists that may prevent working for free.

Conclusion

Family Snacks creates many problems for debtor's counsel and has potentially negative ramifications for the bankruptcy community. In addition to the obvious economic ramifications, there are ethical and legal ramifications, not to mention the reluctance of debtor's counsel to perform any service after the appointment of a chapter 11 trustee.

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Footnotes

¹ An Objection to a Fee Application is always a potential hurdle, but is not the scope of this article. Return to article

² Notwithstanding §327's importance, this article focuses on §330(a)(1). Return to article

³ Excluding, of course, pro bono activity, which the authors strongly support. Return to article