In Re Anolik
MEMORANDUM OF DECISION
Before the Court is a “Motion to Approve Final Accounting and Authorize Disbursements” (the “Motion”) filed by Peter M. Stem, the Chapter 7 Trustee in Bankruptcy (the “Trustee”). The Motion seeks approval of the “Trustee’s Final Report and Account Before Distribution, Request for Compensation and Report on Claims/Proposed Distribution” (the “Final Account”). The Final Account includes a request for payment of the Trustee’s Chapter 7 commissions claimed to be due under 11 U.S.C. § 326(a), as well as reimbursement for the Trustee’s out of pocket expenses.
The Trustee also serves as his own counsel in the case. Various professionals, including the Trustee, were awarded interim compensation during the course of the Chapter 7 administration. However, at what may now be the case’s closure, there appear to be insufficient funds to fully pay Chapter 7 administrative expense claims filed by the Internal Revenue Service (the “IRS”) and the Massachusetts Department of Revenue (the “DOR”). Thus, one of the issues to be resolved is whether the Trustee and the other professionals employed in the Chapter 7 and 11 case must, as a matter of law, disgorge some or all of their previously awarded compensation so that those funds, together with any money remaining in the estate, may be utilized to achieve a pro rata distribution to all Chapter 7 administrative claimants, pursuant to 11 U.S.C. § 726(b).
I. Facts
Jeffrey S. Anolik (“the Debtor”) filed a petition in-this Court under Chapter 11 of the Bankruptcy Code on October 29, 1986. On January 12, 1987, the Trustee was appointed as the Chapter 11 trustee, and his motion to serve as his own counsel was allowed by this court (Queenan, J.) on February 27, 1987. On June 5, 1987, the Trustee moved to have the case converted to Chapter 7, and the case was so converted on June 30, 1987.
From November 24, 1987 through August 15, 1994, the Trustee liquidated property of the estate, receiving a total of $236,569.19. During that same period, he also disbursed a total of $203,789.92. Those disbursements included the following payments made on court approved interim allowances: (i) $6,972.00 paid to the Trustee in April. 1988 for services as Trustee and counsel to the Trustee; (ii) an additional $21,911.15 paid to the Trustee in September 1991, for services as counsel to the Trustee and for reimbursement of expenses; (iii) $4,500.00 paid to attorney Gregory Schubert in June 1989 for services as special counsel to the Trustee; (iv) $22,763.50 paid to attorney Richard How-land in December 1991, also for services as special counsel to the Trustee; and (v) $1,400.00 paid to Meyers Brothers & Adelet-ti, P.C. in April 1992 for services as accountants to the Trustee.
On March 12, 1996, the Trustee filed the instant Motion in this Court, and attached to the Motion a copy of the previously filed Final Account without amendment. After no timely objections were filed, the Motion was allowed by the court (Queenan, J.) on March 27, 1996. However, on April 4, 1996, the UST filed a motion to reconsider the March 27, 1996 order. The UST noted, inter alia, that (i) the Trustee had filed the Motion after unsuccessful attempts to obtain UST approval; (ii) the Trustee had agreed to file objections to the claims of certain taxing authorities, but had failed to do so; (iii) the Trustee had failed to properly serve the Motion on the taxing authorities and the Debtor; and (iv) the Final Account did “not provide for payment of [significant capital gains tax claims incurred by the estate] at the same rate as the professional fees sought by the [T]rustee, counsel to the [T]rustee, and special counsel to the [T]rustee, all of whom [would be] paid in full, while only a fraction of the taxes [would] be paid.” On April 5, 1996, the court (Queenan, J.) granted the UST’s motion for reconsideration and vacated the March 27, 1996 order. The case was soon thereafter reassigned to this judge, whose caseload includes the county where venue is proper for this ease.
Prior to the hearing on the Motion, the Debtor and his sister, creditor Wendy Ano-lik, (the “Anoliks”) also filed an objection to the Trustee’s motion, raising several questions about the Trustee’s actions as Chapter 7 trustee. The allegations in the Anoliks’ pleading included contentions that (i) the Trustee engaged in “questionable” transactions in his capacity as Trustee which “deserve[d] investigation,” and (ii) the Final Account “fail[ed] to disclose certain conflicts held by the Trustee (such as the Trustee’s relationship with a purchaser of property of the Debtor’s estate).” The DOR also filed an objection, which it amended on June 12,1996. The DOR’s objection is confusing, and perhaps for good reason. The-DOR maintains that it holds various claims, including one in the amount of $4,690 representing 1987 and 1988 income taxes incurred by the estate. However, on April 1,1996 (after allowance of the Final Account, but before the order granting reconsideration), the Trustee sent a check to the DOR in the amount of $5,317.62, allegedly representing a 44.23% dividend on a DOR claim in the amount of $12,022.64. The DOR concedes that the payment received from the Trustee exceeds its Chapter 7 administrative claim, but complains that it cannot identify the claim which the Trustee believed he was paying. Therefore, the DOR is having some difficulty figuring out what to do with the payment.
At the hearing on the instant Motion, counsel for the Anoliks expounded upon the concerns raised in their objection. Specifically, they claimed that (i) discrepancies existed between the proceeds achieved from the sale of certain properties and the amounts reported; (ii) the Trustee misled Judge Queenan as to his relationship with an individual against whom the estate had a claim and which claim was compromised with court authority; 1 (iii) the Trustee failed to pursue certain estate rights and failed to file any notices of intended abandonment; and (iv) the Trustee failed to properly investigate facts which would have reduced the capital gains tax now unpaid to federal and state taxing authorities. Counsel for the UST repeated her concern that the tax claims were not being paid at the same percentage as the Chapter 7 professional fees. She argued that approval of the Final Account would violate the distribution scheme of the Bankruptcy Code. Counsel for the DOR noted again that the agency was not sure which of DOR’s multiple claims the payment it received was intended to satisfy.
At the conclusion of the hearing, the Court denied the Motion to approve the Final Account. However, on the following day, the Court vacated its order sua sponte and took the matter under advisement to more carefully consider the UST’s arguments on disgorgement.
II. Analysis
The order of distribution of the property of an estate liquidated under Chapter 7 is governed by 11 U.S.C. § 726(a), which provides that the property should be disbursed first to pay “claims of the kind specified in, and in the order specified in, section 507____” Section 507(a) organizes various types of claims into separate priorities. The first priority is shared by certain fees and costs due to the federal courts and the U.S. Trustee, pursuant to chapter 123 of title 28, as well as “administrative expenses allowed under section 503(b)....” 11 U.S.C. § 507(a)(1). Administrative expenses include, inter alia, (1) any tax “incurred by the estate,” 2 (2) any “fine, penalty, or reduction in credit” relating to such a tax, and (3) compensation and reimbursement awarded to professionals under 11 U.S.C. § 330(a). 11 U.S.C. § 503(b)(l)(B)(i), (b)(1)(C), (b)(2).
Thus, the Chapter 7 professionals’ claims for fees, together with the claims for postpetition taxes by the IRS and the DOR are all § 503(b) claims, 3 and accordingly, fall into the first priority for distribution under §§ 507(a) and 726(a). The Bankruptcy Code provides that equal priority § 507 claims are entitled to pro rata payment if payment in full cannot be made. 11 U.S.C. § 726(b). 4
Interim compensation awards under 11 U.S.C. § 331 are interlocutory and are subject to disgorgement.
5
The Trustee’s ar
[F]or the law of the case doctrine to apply, “only a ‘final ruling’ will do....” 18 C. Wright, A. Miller & E. Cooper, Federal Practice and Procedure § 4478 (1981 & Supp.1989). Finality in this sense does not refer to technical concepts of finality but rather is a functional finality which “seeks to identify a determination intended to put a matter to rest.” Id. Interim fee awards are not final determinations intended to put a matter to rest. Rather, they are interlocutory and reviewable, and are intended only to provide some interim relief from the economic hardships of subsidizing litigation.
See also In re Firstmark Corp.,
Nevertheless, courts have reached different results when determining whether the disgorgement of prior interim fee awards, otherwise finally allowable, is mandatory in administratively insolvent cases. In the case of
In re Boston Shipyard Corp.,
The Code does not expressly mandate disgorgement whenever assets are insufficient to reimburse all administrative claims, and most courts addressing the issue have discussed the appropriateness of granting such relief in discretionary terms. See, e.g., Taxman,134 B.R. at 291 ; Kaiser Steel,74 B.R. at 891 ; but cf. Energy Coop.,55 B.R. at 965 (court has duty to require disgorgement where there is a shortfall). The overwhelming weight of authority, however, suggests that a court must, at least, consider the issue; where insufficient assets dictate pro rata distribution among a class of creditors, the court must revisit the propriety of any interim awards in light of the final schedule of priorities and the principle that claimants of one class are entitled to be reimbursed on an equal basis.
However, in two cases with facts similar to those before the Court, i.e., where taxing authorities had not received their pro rata shares of the money distributed to administrative claimants, the United States Bankruptcy Courts for the Districts of South Dakota and Montana reached different results. In the case of
In re Swann,
Some courts have dealt with the thorny issue of disgorgment in a slightly different, but relevant, context — whether professionals who were paid compensation during the Chapter 11 phase of a bankruptcy case, later converted to Chapter 7, should be required to disgorge those fees so that Chapter 7 administrative expenses could be paid pro
However, in
In re Vernon Sand & Gravel, Inc.,
This Court agrees with the Boston Shipyard, Vernon, and North Bay Tractor courts, and holds that ordering disgorgement of interim fees in either a Chapter 7 or 11 case is a discretionary matter. Disgorgement is a harsh remedy, one that should be applied only when mandated by the equities of a case.
The court’s discretion to determine the propriety of disgorgement of previously paid administrative claims must be applied on a case by case basis. Factors to be considered by the court should include, whether the party facing disgorgement had a reasonable expectation that the payment received was final, and whether any party who would suffer from nondisgorgement has objected to the trustee’s proposed final distribution.
See Vernon Sand & Gravel, Inc.,
Further, this Court is somewhat troubled by a double standard prevalent in administratively insolvent cases. A literal application of § 726(b) would mandate disgorgement by
all
who had asserted claims and received payments in an administratively insolvent case. However, the Court is aware of only
There is, of course, a rational basis for treating the claims of professionals differently from those of some non-professionals. It is inequitable to order disgorgement of payments made to trade creditors and other similarly situated parties “in the ordinary course of business” of a Chapter 11 case.
9
“The alternative would make it impossible for any prudent business person to voluntarily do business, even on a cash basis, with a chapter 11 debtor.”
Manwell,
Where disgorgement by any party is ordered, such disgorgement should not exceed the amount that would be required to achieve a pro rata distribution assuming that all parties subject to disgorgement were ordered to relinquish funds, regardless of whether the court actually so ordered. A claimant required to disgorge should not suffer disproportionately simply because the court equitably waived disgorgement for another administrative claimant. 10 Court authorized professionals are not second-class service providers, nor does their function include the disproportionate subsidization of bankruptcy cases.
In the case at bar, consideration of the foregoing factors is premature. The Final Account is defective for several other reasons. First, it is clear that the payment made by the Trustee to the DOR is “botched” in some fashion, and the proposed corrected payment will impact the amounts paid to other holders of administrative claims. Second, the request for payment of commissions made by the Trustee is wholly out of compliance with Local Rule 34. To reference only one manner in which the Final Account violates Local Rule 34, it does not distinguish those commissions or fees sought to be approved as Chapter 11 administrative expenses from those sought to be approved as Chapter 7 administrative expenses. Local Rule 34(C)(4). Third, the Final Account fails to submit for “final” allowance all of the fees awarded by the court on an “interim” basis. 11
III. Conclusion
The Trustee’s Final Account is defective as a matter of form and substance and, therefore, the Motion is denied. The Trustee shall file an amended final account no later than May 30, 1997. The Court will rule on the interim fee applications filed by the other professionals as if they were final fee applications, unless the professionals submit amended or supplemental fee applications by May 30, 1997. The hearing on the amended final account and allowance of compensation shall be set for September 17,1997, with the deadline for any objections to the said motions, including requests for disgorgement, set for September 5,1997. Motions by any party in interest seeking to compel the production of documents or testimony from the Trustee shall be filed on or before July 1, 1997.
Notes
. However, the Debtor appealed Judge Queen-art’s 1988 order granting the Trustee leave to compromise the claim, and that order was affirmed by the District Court.
See In re Anolik,
. Those taxes described in § 507(a)(8) (numbered § 507(a)(7) as of case commencement) are excluded. No such tax is involved here.
. It is well-established that capital gains taxes incurred by a Chapter 7 trustee in liquidating an estate are administrative expenses under § 503(b)(l)(B)(i).
See United States v. Federal Deposit Ins. Corp.,
. Pro rata distribution is subject to the exception that when a case is converted from Chapters 11, 12, or 13 to Chapter 7, the Chapter 7 administrative expenses have priority over the other administrative expenses. See § 726(b).
.See In re Kaiser Steel Corp.,
. Although this case itself was converted from Chapter 11 to Chapter 7, the amount of fees attributable to pre-conversion services is unclear.
. In the Vernon case, the court listed four factors which influenced its decision: (1) a refund of fees was not requested by any interested parties; (2) "requiring a refund of fees would be of little benefit to the estate compared to the administrative burden it would create”; (3) the attorney was not being paid in full, as the court also denied his third and fourth fee applications in the opinion; and (4) some of the fees in the attorney's fourth fee application fell under the Chapter 7 phase of the case, so the amount that he was entitled to but would not receive for that work offset, at least to some extent, the Chapter 11 fees he was being allowed to retain. Id.
.As the Pacific Forest Indus., Inc. court stated:
Whether Congress intended it or not, the fact that attorneys for the debtor-in-possession will not be paid on a regular basis keeps the attorney alert to the ongoing reorganization chances of the debtor. It does the attorney no good to build up a massive Chapter 11 administrative claim, which will then be subordinated in a later Chapter 7.
.
See In re Achievement Center, Inc.,
. In
Lochmiller,
the court rejected the argument of the former counsel for the debtor-in-possession that the court had to take into account the money paid to
all
Chapter 11 administrative claimants when determining how much he had to disgorge.
If, as established above, recovery may not be had of those claimants paid in the ordinary course then a pro rata disgorgement, based on all amounts paid in the Chapter 11 case, would not suffice to pay the Chapter 7 administrative claimants in full. The result is that one group of administrative claimants, Chapter 7 or Chapter 11, must bear the risk of nonpayment. In light of the clear priority afforded the Chapter 7 administrative claims under Code section 726(b), this Court must conclude that it is the Chapter 11 claimants which must bear the risk. The recovery to be had from the Chapter 11 Professionals will thus not be limited to a pro rata share of the entire amount paid out in the Chapter 11 case.
Id.
at 253-54;
see also Keating,
.In this Circuit, the standard by which requests for compensation are reviewed is the "lodestar” analysis.
Boston and Maine Corp. v. Moore,
[T]he fee-setting court first establishes a "threshold point of reference” or the "lodestar," which is the number of hours reasonably spent by each attorney multiplied by his reasonable hourly rate.... This lodestar can then be adjusted up or down to reflect a variety of factors, such as delay in payment, quality of representation, and the results obtained, if they have not already been taken into account in computing the lodestar.
Boston and Maine Corp., 776 F.2d at 7 (citation omitted).
Further, in determining a reasonable fee, the court should apply various factors, including (1) the time and labor required; (2) the novelty and difficulty of the questions presented by the case; (3) the skill required to perform the legal service properly; (4) the preclusion of other employment by the attorney due to acceptance of the case; (5) the customary fee for similar work in the community; (6) whether the fee is fixed or contingent; (7) time pressures imposed by the client or the circumstances; (8) the amount involved and results obtained as a result of the attorney's services; (9) the experience, reputation, and ability of the attorney; (10) the "undesirability” of the case; (11) the nature and length of the professional relationship with the client; and (12) awards in similar cases.
Smuggler’s Beach Properties, Inc.,