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The Lucrative Trusteeship as an Ethical Dilemma

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Editor's Note: "There is no admission charged to the straight and narrow path." Although the author of this famous quote is anonymous, it lays the foundation for ABI's new column on ethics. Some might question the need for such a column, either on practical grounds ("In bankruptcy, all ethics questions are ultimately resolved in fee applications, so why not discuss these issues in that context?"), or on theoretical constructs ("You either know right from wrong, and you can't teach that.").

As to the theoretical objections, the goal of this column is to raise real-life issues and to show how others, frequently judges, have resolved them. As George Edward Moore observed, the problem is in defining the question, not the answer.[1] What is important to most lawyers and judges is how the lawyer's conduct is perceived by not only the courts, but equally important, by his peers and by his community generally.

As to the practical objections, while money is certainly important to us as professionals and family providers, there have to be, as they say, easier ways to make a living. Thus, ethical considerations go beyond the question of "Can I get away with this?" If that's all you want to know, then by all means confine your reading to the articles on professional fee applications. Such a question is not an ethical choice; that decision has already been made. For such persons, ethics must be imposed externally, e.g., through after-the-fact negative reinforcement (read, punishment) by way of denial or reduction of compensation, by expulsion from the community (read, disbarment), and the like.[2]

Ultimately, all ethical considerations come down to the question of choices made by individuals and the reaction of others to that choice.[3] Comments are earnestly solicited, either publicly in the Journal or at the ABI On-Line Conference Center, or privately by e-mail to the author. — SAS.

An arguably good example of why subjects such as ethics need to be examined continually is a case in which a trustee failed to ask the obvious ethical question and went right to the "Can I get away with this?" issue. This case has long fascinated the author in that the trustee apparently saw nothing wrong with his conduct.

In In re El San Juan Hotel Corp., 71 B.R. 4130 (D.C. Puerto Rico, 1987), the district court judge described a series of acts committed by the chapter 11 trustee for his personal benefit and gain during his administration of the debtor hotel. We will look only at his self-interested dealings, not his derelictions in his duties (e.g., non-payment of taxes).

The trustee was appointed in July 1980. By May 1981 it was evident that a reorganization plan would not be feasible and that liquidation was the only sensible solution. The debtor's controller repeatedly advised the trustee that this was the only option. Nevertheless, the trustee continued to operate the hotel "...out of avarice, seeking his own benefit..."In re El San Juan Hotel Corp., 71 B.R. 425 (D.C. Puerto Rico, 1987). Just what did he do?

Prior to the appointment of the trustee, the debtor moved to reject its union contract with its employees on the grounds that the debtor would have no chance of reorganizing unless it could substantially reduce its payroll expenses. Upon his appointment, the trustee conferred with debtor's controller, who made this point clear to him. Nonetheless, the trustee entered into a stipulation with the union that effectively ratified the union contract; the court found that this was solely for the purpose of prolonging the trustee's tenure and thus his compensation (and other self-awarded perks as described below). Further, he obtained bankruptcy court approval of this stipulation by concealing from that court the fact that the stipulation itself made the debtor's reorganization impossible, regardless of what else happened during the case.

The trustee also ordered the remodeling of the hotel's presidential suite at a cost to the debtor of some $15,000, then dedicated this suite essentially to his own personal use. He retained the keys to the suite, and only persons authorized by him could have access to it. Further, the trustee ate many meals at the hotel and drank the hotel's liquor without paying. He also kept a list of people (presumably friends, although this is not clear from the opinion) who were authorized to eat free at a restaurant in the hotel, some of whom he also allowed to include tips to employees in their free meals. This conduct apparently continued during his entire tenure as trustee.

Shifting into high gear, in 1982 he held a wedding reception for his daughter at the hotel, at which a full course luncheon, including champagne and liquor, was served to about 200 guests. For this, he had the hotel charge him a total of $6,000; according to the judge, " was obvious that such an action was in reproachful conflict of interest."

Between January 1982 and March 1984, the trustee disbursed more than $37,000 to himself for unsupported expenses; thesedisbursements were in level payments of $1,350 per week at first, and later at $300 per week. At no time did he substantiate these expenses. The court found that these funds were distributed by the trustee to himself as additional compensation without court approval.

As icing on the cake,[4] the trustee also hired as a consultant an accountant who had worked as an external auditor for the debtor and for the debtor's principal stockholder (who had apparently received preferential payments prior to the filing of the petition). This consultant also had performed substantial work for entities related to the debtor that subsequently became insolvent as well. The court found that the trustee knew the consultant could not qualify for appointment as an accountant or consultant for the estate. Nonetheless, he was paid substantial sums for services to the trustee without approval by the court. The court then found that the consultant was the trustee's "...right hand in devising means to cover up the hotel's precarious position."

How did the court deal with this course of conduct? The case arose in the context of a civil suit against the chapter 11 trustee for damages to the estate arising from his activities. The court found the trustee's misconduct willful and determined to surcharge him a total of not less than $3,434,081.82, as well as denying him compensation in the amount of $462,985. It is useful to note that the trial court's assessment of damages was apparently colored as much by its attitude toward the defendant as evidenced by such statements as: "defendant, ...ignoring with bad purpose the economic probabilities...;" "This court cannot take lightly the defendant's actions;" "This record shocks the conscience;" "His personal interest came ahead of the legitimate interests...;" and "The defendant milked the estate." The court then proceeded to find the assessed damages non-dischargeable, even though no party had brought that issue before it.

The Court of Appeals for the 1st Circuit [5] affirmed in (major) part and reversed some of the surcharges. An examination of the items reversed reveals that, for the most part, the appellate court was correcting an excess of zeal on the part of the trial judge, who (as noted above) apparently was going out of his way to find items with which to punish the trustee. Nonetheless, it is important to keep in mind that it is rarely profitable to get a trial court upset with you. Most of the trustee's conduct was so egregious that on its surface it offends per se. It is remarkable that the trustee achieved the position he did and yet was unable to see anything wrong with his conduct.[6]

There was one minor issue that for some reason the appeals court left undiscussed, but which is interesting in that it is the kind of thing which could recur in future cases. While he was operating the hotel, the trustee held three dinner boxing shows, each of which lost money due to poor attendance; however, the trustee gave out a number of complimentary tickets to these shows to his friends. In reversing the surcharge for holding these shows (this was deemed within the trustee's business discretion by the higher court), the appeals court did not discuss the propriety of that portion of the surcharge which represented the gift tickets.

This leaves open the question of whether such conduct is surchargeable at all, or only if there is some provable damage to the estate; there is not even a finding of whether such conduct is improper. For example, unused seats to an event (or an airline flight, or an empty hotel room, etc.) become worthless once the evening is over. Thus, is there anything either legally or morally wrong in "comping" someone to this who might be of some use to the estate in other ways (e.g., a creditor who might be convinced to be more flexible)? What about someone who has no connection to this case but might be of assistance in other cases (i.e., "for the good of the system")? Assuming adherence to the rules of the game (only tickets otherwise unused should be comped), is there anything inherently wrong in doing this? Would the answer be different if the free tickets were given to a charity? Is the answer to be found in the concept of the appearance of impropriety?


[1]" ethics, as in all other philosophical studies, the difficulties and disagreements, of which history is full, are mainly due to a very simple cause: namely to the attempt to answer questions, without first discovering precisely what question it is which you desire to answer." Moore, Principia Ethica (1903), preface.[RETURN TO TEXT]

[2] As George Santayana wrote, "When Socrates and his two great disciples composed a system of rational ethics they were hardly proposing practical legislation for mankind... They were merely writing an eloquent epitaph for their country."[RETURN TO TEXT]

[3] Henry James teaches us that "An act has no ethical quality whatever unless it be chosen out of several all equally possible." Principles of Psychology (1890), chapter 4.[RETURN TO TEXT]

[4] For our purposes: The court found numerous other defalcations and breaches of fiduciary duty which are probably at best only marginally germane to this column.[RETURN TO TEXT]

[5] 847 F.2d 931 (1st Cir., 1988).[RETURN TO TEXT]

[6] It should be noted that the trustee made virtually no effort to conceal his conduct. What he did, he did openly, and in fact admitted many of his defalcations during the trial; his defense was justification, not denial.[RETURN TO TEXT]

Journal Date: 
Wednesday, October 1, 1997

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