A Primer on 11 U.s.c. Sec. 328(a) and Its Use in Alternative Billing Methods in Bankruptcy - Robert J. Landry, Iii and James R. Higdon

• Jurisdiction: United States,Federal
• Publication year: 1999
• Citation: Vol. 50 No. 2

A Primer on 11 U.S.C. Sec. 328(a) andits use in Alternative Billing

Methods in Bankruptcyby Robert J. Landry, III^* and

James R. Higdon^**

I. Introduction

Compensation of attorneys and professionals¹ in the bankruptcy field is one of the most written about areas in bankruptcy law. Professionals, both familiar and unfamiliar with the mandates of the Bankruptcy Code² and Federal Rules of Bankruptcy Procedure,³ are having an increasingly difficult time obtaining approval for the envisioned compensation. Problems generally do not arise for debtors' attorneys in the run-of-the-mill Chapter 7 case or Chapter 13 case. Flat fees are charged in most of these cases, and applications to employ debtors' attorneys are not filed. Therefore, retention orders are not entered.⁴ However, outside the run-of-the-mill Chapter 7 or 13 case, in Chapter 11 cases, or when an attorney or professional is hired for a special purpose under section 327(e), problems regarding the particular compensation may arise.

In the past, most courts used a traditional fee arrangement based upon reasonable hours and a reasonable rate, commonly referred to as the "lodestar"⁵ approach, when approving fees. Because the lodestar method is not always the desired fee arrangement,⁶ professionals are increasingly attempting to use various fee arrangements,⁷ which in the past were not commonly used by bankruptcy professionals. However, in the bankruptcy arena, these nonlodestar fee arrangements are confusing, inconsistently applied, and potentially dangerous to professionals.

Section 328(a) is a useful tool with alternative fee arrangements. Section 328⁸ allows professionals to obtain court approval of the particular terms and conditions of employment at the beginning of a case. The preapproval of the terms and conditions under section 328 minimizes problems at the time the application for compensation is filed because bankruptcy courts must apply the terms of employment as approved, unless the terms prove to have been improvident in light of developments unanticipated at the time of entry of the retention order.⁹ This provides professionals a tremendous benefit: predictability of their compensation. However, professionals must properly seek and obtain a retention order under section 328(a) at the outset of their employment to enjoy the benefit of pre-approved terms and conditions.

The difficulty is that many lawyers and judges do not understand, or even realize, the impact¹⁰ of the useful tool provided in section 328(a). This generalization does not apply to all jurisdictions or bars; however, at the very least it appears that there is great confusion regarding the impact of section 328(a), particularly at the time of the application for compensation. This Article analyzes the history of section 328(a), its use and effect, and various alternative fee arrangements which have developed in bankruptcy practice.

II. Employment and Compensation of Professionals Generally

To insure independence and protect the estate, section 327 requires that all employed professionals be approved by the court.¹¹ To obtain approval, an application must be filed by the trustee, debtor in possession, or the committee,¹² setting forth various details pursuant to Rule 2014.¹³ The professional seeking employment has the burden of making a complete and candid disclosure, in a verified statement, of all facts pertinent to the court's decision to approve employment.¹⁴ It is the responsibility of the professional to make sure that all relevant connections have been brought to the court's attention¹⁵ because it is only after complete disclosure that the court can make an informed decision regarding the professional's proposed employment.¹⁶

Based upon the application and verified statement, the court applies the standard set forth in section 327 to determine if the particular professional employment should be allowed.¹⁷ The standard applied is determined by the nature of the employment sought, that is, general counsel¹⁸ or special counsel.¹⁹ Once the requirements of section 327 are satisfied, the fee arrangement must be considered.

The professional and the court have two alternatives in establishing the fee arrangement.²⁰ One approach is to request a retention order under section 328 that fixes the terms and conditions of the employment. The other approach is to request approval to be employed, reserving compensation issues to the time of filing the fee application pursuant to Rule 2016(a)²¹ and sections 330 or 331.²² In such situations, at the time of filing the fee application, the court applies section 330 to award a reasonable amount of compensation²³ and reviews the other factors in section 330(a)(3)(A)-(E) to assure they have been complied with. These factors essentially are a codification of the lodestar calculation, which is the primary method used to determine the reasonable compensation in a bankruptcy case,²⁴ and is usually the starting point for courts in crafting any appropriate attorney fee award.²⁵

Which approach is used depends greatly on the particular bankruptcy court where the case is pending. As with much of bankruptcy practice, the particular procedures and practices regarding the employment and compensation of professionals is localized. Therefore, professionals should always consult local rules or policies prior to filing an application to be employed.

III. Employment and Compensation Under Section 328(a)

A. History of Section 328(a)

Prior to section 328, there was no mechanism for court approval of the compensation at the time of such approval of professional's employment. Compensation was governed by former Bankruptcy Rule 219(c)(1), which provided that a professional who rendered services to the bankrupt estate was entitled to reasonable compensation. Contracts for employment on a percentage fee basis between a trustee in bankruptcy and an attorney were often invalidated.²⁶ The relevant inquiry was not whether the fee contract was per se invalid, but whether the compensation provided by the agreement was reasonable under former Rule 219.²⁷

The guiding principles under the old rule were conservation of the estate and economy of administration.²⁸ Under this standard, the courts set attorney fees based on notions of "equity and fairness to creditors and on conservation of the estate."²⁹ The reasoning was that professionals employed under section 240 of the Bankruptcy Act were "public officers" and thus, not permitted to be compensated on the same scale as those privately employed.³⁰ Thus, the bankruptcy judges were to award fees "at the lower end of the spectrum of reasonableness."³¹ The effect was to allow attorney fees only.³² "These principles, however, discouraged practitioners from entering the bankruptcy field, where they would have earned substantially less than in other areas of practice."³³ This, in turn, led to a perceived stigma that "only less qualified counsel in the bankruptcy bar worked for debtors due to the reduced compensation."³⁴ As a result, estates were ill-served by less-able bankruptcy specialists, and the costs of inefficient management were passed on to creditors.³⁵ "In 1978, Congress enacted 11 U.S.C. Sec. 330(a) and expressly provided that compensation should be reasonable and at least in part based on the cost of comparable services."³⁶

Congress abandoned the economy of administration of the estate standards in enacting the Bankruptcy Code³⁷ and courts are "no longer bound by pre-Code notions of frugality and economy in fixing fees."³⁸ The new standard served two important purposes, namely, that compensation be fair and reasonable. In order to not deter "competent counsel from entering the bankruptcy area, attorneys should receive in bankruptcy matters what they would receive on the open market."³⁹ It is in accord with this section 330(a) market approach to compensation that different fee arrangements were expressly sanctioned by section 328(a).⁴⁰

B. Application for Employment Under Section 328(a)

1. Fixing Terms is Discretionary. The starting point for any award of nonlodestar fee arrangements is the basic premise that there is no authority requiring a court to approve fee arrangements simply because the professional anticipated, or even contracted with the client, on how compensation would be computed. However, section 328(a) provides a procedural mechanism for professionals seeking court authorization of the terms of compensation at the time of the application for approval of employment.

"In sharp contrast with the old Bankruptcy Act, section 328(a) now authorizes the court to preapprove a wide variety of employment arrangements between the attorney and trustee."⁴¹ At least two courts have held that courts are required to approve the proposed terms and conditions of a professional's employment at the front end as part of the application for employment, rather than defer the approval of the terms and conditions pending the court's normal application and allowance procedures concerning fees.⁴²

The reasoning of these courts defies the basic tenets of statutory construction. For instance, in In re Dividend Development Corp. ,⁴³ the court reasoned that section 328 imposes a condition on a court entering a retention order approving a professional's employment under section 327.⁴⁴ The court further reasoned that since section 328 was a necessary condition, a reasonableness analysis of the fee arrangement was required at the beginning of the case.⁴⁵ Section 328(a) provides in pertinent part:

The trustee,. . . with the court's approval, may employ or authorize the employment of a professional person under Section 327 or 1103 of this Title, as the case may be, on any reasonable terms and conditions of employment, including on a retainer, on an hourly basis, or on a contingent fee basis.⁴⁶

Section 328 clearly states that the trustee may employ professionals on any reasonable terms, provided the trustee obtains court approval. The...