MEMORANDUM DECISION
This аdversary proceeding was filed on February 29, 2012. In it, the chapter 7 trustee seeks to recover $50,000.00 the defendant received as compensation for legal services. The trustee contends that the payment can be avoided as a fraudulent transfer. The defendant denies this and filed a motion to dismiss on March 23, 2012. The initial pretrial conference occurred on April 26, 2012. The parties submitted a joint pre-trial statement and agreed that the motion to dismiss would be heard in conjunction with the trustee’s competing motion for summary judgment, which was subsequently filed on May 4, 2012.
The Story Behind the Trustee’s Complaint
Chad Pawlak was once a member and employee of Organic Choice, a limited liability company engaged in the sale of organic milk. After a dispute over manage
Given the standoff with the judgment creditors, the Pawlaks structured the payout of the settlement proceeds in anticipation of a bankruptcy filing. The malpractice insurance carrier paid most of the settlement proceeds directly to the defendant. Pursuant to its contingency fee arrangement with the Pawlaks, the defendant took $59,600.00 of the proceeds as compensation for its services in the malpractice action. The defendant received another $55,400.00 to represent the Paw-laks in any adversary proceeding filed by the other members of Organic Choice. This sum included a $50,000.00 “flat fee” and an advance payment of $5,400.00 for anticipated costs and expenses. The fee agreement between Mr. Pawlak and the defendant provides as follows regarding the adversary proceeding they expected to be filed:
You have agreed to a flat fee of $50,000.00 for this service. This fee will cover the value of all work we will perform through the conclusion of the Adversary Proceeding. The fee will be paid by Liberty Mutual Insurance Company directly to us, and will be deposited in our business account. This fee is not an advance against any hourly rate, and the fee will not be billed against an hourly rate. You agree that the flat fee becomes the property of our firm upon receipt, and may be deposited into our business account.3
Of all the amounts paid to the defendant, the trustee only seeks tо recover the $50,000.00 flat fee.
The Pawlaks filed bankruptcy on March 12, 2010, less than a week after the settlement of the malpractice action. The settlement — and the “direct funding” of the Pawlaks’ bankruptcy fees — was disclosed in their statement of financial affairs. The payment of the $59,600.00 contingency fee was specifically described as a “payment to creditors.” In other areas (such as the paragraph devoted to other income and the paragraph which requires disclosures of transfers of “other property”), the debtors indicated that they personally received nothing from the malpractice settlement and that all of the proceeds went to fund the bankruptcy proceeding and the defense of an anticipated adversary proceeding. However, they did not list the actual amounts of that funding and did not list the $55,400.00 paid to the defendant under “payments related to debt counseling or bankruptcy,” even though they did disclose the $5,000.00 рaid to Michael Kepler, the debtors’ principal bankruptcy attorney.
The judgment creditors filed an adversary proceeding contesting the debtors’
What the Parties Want
Both parties seek summary judgment. The trustee seeks to recover the $50,000.00, while the defendant requests dismissal of the complaint. Summary judgment is appropriate where there are no disputed issues of material fact and the moving party is entitled to judgment as a matter of law. See Fed.R.Civ.P. 56(c). Litigants frequently quibble over minor factual discrepancies, but summary judgment is to be denied only if there is a “genuine issue of material fact.” Anderson v. Liberty Lobby, Inc.,
Is a Flat Fee Property of the Bankruptcy Estate?
As often happens, to find the answer one must begin at the beginning and
At the same time, property interests are “created and defined by state law.” Stern v. Marshall, — U.S. -,
Wisconsin’s rules of professional conduct for attorneys define the types of fee arrangements attorneys may negotiate with their clients. An “advanced fee” is an “amount paid to a lawyer in contemplation of future services,” and is earned at an agreed-upon basis (whether on an hourly rate, a flat fee, or another basis). See SCR 20:1.0(ag). A “flat fee,” however, is a “fixed amount paid to a lawyer for specific, agreed-upon services,” and is not directly connected to the time required to perform the service. A flat fee “becomes the property of the lawyer upon receipt.” See SCR 20:1.0(dm). Finally, a “retainer” is defined as an amount рaid “specifically and solely to secure the availability of a lawyer to perform services on behalf of a client,” and does not constitute payment for specific legal services and may not be billed against for fees or costs “at any point.” See SCR 20:1.0(mn). Like a flat fee, a retainer becomes the property of the lawyer upon receipt. Id.
In common parlance, of course, the term “retainer” is often used interchangeably in reference to any amount of money paid to an attorney at the outset of representation. Case law indicates that there are three general types of retainers: classic or true retainers, security retainers, and advance payment retainers. Rus, Miliband & Smith, APC v. Yoo (In re Dick Cepek, Inc.),
By definition, security retainers (or advanced fees) do not constitute present payment for future services; instead, the attorney simply holds the funds to secure payment in accordance with the Uniform Commercial Code (under which a security interest in money is perfected by taking possession of the collateral). See Wis. Stat. § 409.313(1); In re Santiago, No. 08-22666-MBK,
The fee agreement in this case provides for payment of a “flat fee” for representation in the dischargeability proceeding. Mr. Pawlak agreed that the fee became the defendant’s property “upon receipt” in accordance with the Wisconsin rules governing attorney conduct. In addition, the funds were placed in the defendant’s business account rather than its trust account. The fee agreement clearly reflects that this sum was the price of the defendant’s representation of the Pawlaks through the “conclusion” of any adversary proceeding and that they would not be charged anything else.
Review and Regulation of Fees in Bankruptcy
Before proceeding further, it is important to note that regardless of the nature of the fee under state law, the manner in which an attorney collects fees for services in bankruptcy is simultaneously regulated by the code. See Bethea v. Robert J. Adams & Assocs.,
The underlying purpose of the disclosure requirements was a congressional concern that there might be the “potential for overreaching” by debtors’ counsel. In re Nelson,
In Lamie v. United States Tr.,
It appears to be routine for debtors to pay reasonable fees for legal services before filing for bankruptcy to ensure compliance with statutory requirements .... Section 330(a)(1) does not prevent a debtor from engaging counsel ... and paying reasonable compensation in advance to ensure that the filing is in order.
The precise mechanics of how an attornеy collects a retainer in a chapter 7 case is therefore often quite important in determining whether the attorney can keep the money. For example, in Bethea, the attorneys negotiated a “retainer” agreement with the debtors that provided for installment payments for bankruptcy services. Some of the installments were due post-petition (and post-discharge).
This case, of course, involves the payment of a flat fee; the funds became the defendant’s property upon receipt and were not property of the estate at the time of the filing. Both Lamie and Bethea recognize that chapter 7 debtors often pre-pay for bankruptcy services.
The trustee has not complained about the fact that the defendant did not file a compensation disclosure form within the time period contemplated by Rule 2016(b). Still, the fee disclosures are mandatory and courts place heavy emphasis on the duty to do so in a timely and comprehensive fashion. See In re Chez,
The failure to adequately disclose can result in a variety of penalties, including the loss of the fee. Perrine,
One of the concerns underlying the trustee’s complaint appears to be the notion that the defendant could have ended up with the money for doing nothing at all. As the trustee has noted, the defendant took a sizable flat fee for services it anticipated rendering, but could not guarantee would be required. It was possible (though, as shall be seen shortly, highly unlikely) that the judgment creditors would receive notice of the Pawlaks’ bankruptcy and simply abandon their claims. This worry is easily addressed, as it must always be remembered that the bankruptcy court’s jurisdiction over fees is “paramount and exclusive.” Brown v. Gerdes,
Under § 329(a) the attorney must disclose payment “for services rendered or to be rendered ” in connection with the case. The court may cancel the agreement and order the return of the payment if “such compensation exceeds the reasonable value of any such services.” See 11 U.S.C. § 329(b). This review may take place at any time during the pendency of the case (for example, after the deadline for filing objections to discharge has passed) and is independent of the attorney’s right to the funds under state law.
Was Payment of the Fee a Pre-petition Transfer of the Pawlaks’ Property?
Understanding the nature of the fee and recognizing that it did not become propеrty of the estate at the time of filing not does resolve the matter, of course, because the bankruptcy code permits trustees to avoid (and recover) pre-petition transfers of a debtor’s property for a variety of reasons. Under § 548, transfers may be avoided when they are found to be either actually or constructively fraudulent. In their schedules and statement of financial affairs, it appears the debtors
The trustee does not argue that the debtors attempted to improperly hinder, delay, or defraud creditors by pre-paying for legal services. Rather, the trustee asserts that the transfer was constructively fraudulent under 11 U.S.C. §• 548(a)(1)(B). In order to prove this, the trustee must show that there was a transfer of the debtors’ property within two years of the filing, that the debtors “received less than a reasonably equivalent value” in exchange for the transfer, and that the debtors were either insolvent on the date of thе transfer or were rendered insolvent as a result of it. See Williams v. City of Milwaukee (In re Williams),
The undisputed facts demonstrate that the debtors indirectly transferred $50,000.00 to the defendant less than a week before the bankruptcy petition was filed, that the defendant received the transfer, and that the debtors were insolvent (or were rendered insolvent) when the transfer was made. The only issue is
The Promise of Future Representation as Reasonably Equivalent Value
The concept of “reasonably equivalent value” is not defined by the bankruptcy code. See Mellon Bank, N.A. v. Official Comm. of Unsecured Creditors of R.M.L. (In re R.M.L.),
Instead of a precise mathematical formula, courts look to the circumstances of the particular case to determine whether the value of what the debtor received falls within a reasonable range of equivalence. See Barber,
As such, it is irrelevant (at least in this context) that the $50,000.00 might have gone to creditors rather than the defendant. The question is whether the Paw-laks got something worth about $50,000.00 from the defendant at the time of the transfer. From the trustee’s perspective, all they got was a potentially empty promise of possible future legal services (based upon the mere presumption that an adversary proceeding would be filed). The debtors believe this promise had significant value, at least to them, as it constituted an ironclad assurance that they would have counsel if the judgment creditors continued their pursuit. The trustee does not believe this constitutes “value” within the meaning of the statute, and it must be acknowledged that there is some support for the trustee’s position, at least under Wisconsin fraudulent transfer law.
In a recent case, the Wisconsin Court of Appeals treated a client’s assignment of a judgment lien to his attorney as constructivеly fraudulent. See Law Offices of Charles B. Harris, S.C. v. United States Bank Nat’l Ass’n, N.D.,
“Value” under Wisconsin’s fraudulent transfer statute specifically excludes “an unperformed promise made otherwise than in the ordinary course of the promisor’s business to furnish support to the debtor or another person.” See Wis. Stat. § 242.03(1). The attorney in Harris argued that the client received value because what was exchanged for the assignment was not a promise to perform future legal services, but the actual performance of the services themselves. Although the attorney characterized the assignment as an advance fee or a security retainer, the court rejected this argument and found that there was “no authority to support the idea that a transferee need only perform the promise before the creditor attempts to void the transfer.” Id., at *4.
The bankruptcy code provides a similar definition of “value” for purposes of the fraudulent transfer statute. See 11 U.S.C. § 548(2)(A) (defining value as “property, or satisfaction or securing of a present or antecedent debt of the debtor, but does not include an unperformed promise to furnish support to the debtor”). As one court noted, this means that reasonably equivalent value under § 548 typically excludes “future considerations,” at least to the extent not actually performed. Gray v. Snyder,
As the trustee contends, the critical time to consider is when the transfer was made. Subsequent events should not affect whether reasonable value was given, and courts typically ignore post-transfer appreciation or depreciation in value. See Allard v. Flamingo Hilton (In re Chomakos),
The property is not unlike futures contracts purchased on margin. The investor in futures may win big, or his position may be wiped out, but the contractual right to a payoff if the market happens to move the right way at the right time constitutes a value reasonably equivalent tо the money at risk.
Id.
As indicated previously, the reasonableness of the value must be determined by the facts and circumstances of the particular case. The notion that the prepayment of future legal services can never constitute reasonable value, however, must be rejected for the same reason discussed in Chomakos and Leonard. After receipt of the $50,000.00 flat fee, the defendant entered into a binding contract. It promised to represent the debtors in any future adversary proceeding, and that promise gave rise to legally enforceable contract rights.
Acknowledging that future legal services have “value” is also consistent with the notion that flat fees (or prepayment of fees) for bankruptcy services is permissible, subject only to review for reasonableness. In Lamie, the Supreme Court ruled that an attorney for a chapter 7 debtor may not be compensated from the estate unless employed by the trustee with the approval of the bankruptcy court. However, the Court also concluded that debtors could pre-pay for legal services in advance without running afoul of the code. See
The trustee’s primary concern seems to be that at the time of the transfer it was impossible for the parties to know whether the judgment creditors would actually contest the debtors’ discharge. To the trustee’s way of thinking, the debtors surrendered a sizable chunk of money in exchange for what could have turned out to be an empty promise. But this risk is similar to the risk that one might lose a bet (or an investment). It is also akin to the risk one assumes when purchasing insurance (namely, that the prospect insured against does not occur). The existence of risk is not itself determinative of value. Instead, it is simply a factor to be considered when weighing the relative worth of what the debtors acquired. As the court noted in Chomakos, the contractual right to receive value (in that case, payment; in this case, future representation) is worth something. Assessing the economic benefit associated with a promise to perform all legal services through the “conclusion” of a dischargeability proceeding must acknowledge the balancing of interests that go into calculating a flat fee. Essentially, the law firm hopes to fairly assess the amount of time it might have to invest in such a case, while the client hopes to secure full representation without fear of spiraling costs should things “go bad.”
In certain cases the likelihood of an adversary proceeding might be minimal. A debtor in such a case is unlikely to pay a sizable flat fee because the risk outweighs any perceived reward. But in a case where a battle over discharge is likely and the client may not have access to significant post-petition funds to pay ongoing fees, the relаtive value of a flat fee arrangement increases, at least from the client’s perspective.
What the Court really is asked to do in this case is assess the reasonableness of the forecast of future events that took
Considering the totality of the circumstances, it is clear that the Pawlaks “bet” that an adversary proceeding would be filed and that it would take far more than 250 billable hours to represent them. In exchange for their bet, they received a commensurate economic benefit — namely, the guarantee of representation throughout that proceeding no matter how many billable hours might be involved. The facts reflect that an adversary proceeding was likely, and the forecast of probable defense costs was certainly well within a reasonable range (and probably on the low end). When the likely cost of protracted litigation is combinеd with the high probability that motivated creditors would pursue nondischargeability claims, the debtors clearly received significant “value” from the defendant. On these facts, the defendant’s binding commitment to represent them was certainly worth roughly what the Pawlaks surrendered in order to get it. As such, the Pawlaks received “reasonably equivalent value” for the transfer they made to the defendant, and the trustee cannot avoid the transfer under § 548. A judgment shall be entered in accordance with this decision.
Notes
. Because the defendant's motion to dismiss referenced matters outside the pleadings, it was treated as a motion for summary judgment under Fed.R.Civ.P. 12(d), as applicable in adversary proceedings pursuant to Fed. R. Bankr.P. 7012(b). The trustee was afforded the opportunity to file a cross-motion for summary judgment, which he did. The trustee also withdrew the claim that the payment of compensation constituted a preferential transfer, and the only remaining question is whether it is a fraudulent transfer under 11 U.S.C. § 548.
.For a full disсussion of the underlying state court litigation and the related nondischargeability issues, see Organic Family, LLC v. Pawlak (In re Pawlak),
. See Exhibit # 2 to the trustee’s motion for summary judgment.
. This $5,000.00 payment constituted the last remaining portion of the settlement proceeds. In his disclosure of compensation form, Mr. Kepler disclosed that he would be compensat
.In the dischargeability proceeding, the creditors raised claims under both 11 U.S.C. §§ 523 and 727. The Court initially dismissed a portion of the plaintiffs’ second amended complaint (which was itself the subject of a briefed dispute as to whether the plaintiffs should be permitted to file it), and then resolved competing motions for summary judgment on the remaining claims in the debtors' favor.
. The parties agree that the defendant expended 381.20 hours of billable time on the dischargeability proceeding, and that on an hourly basis the actual cost of defense would have been over $88,000.00. The trustee does not believe these facts are relevant to a determination that the funding of the flat fee constituted a fraudulent transfer at the time it was made.
. Typically, of course, courts are instructed to .view the facts in the light most favorable to the non-moving party. Leos,
. Admittedly, there was a separate advance for costs, which the Pawlaks remained obligated to pay. The focus here is on the fee for legal services, not the incidental costs of litigation.
. Given this, the trustee's attempt to "cancel” the agreement in October of 2010 has little bearing on the outcome. The right to terminate an attorney’s representation of the debtor is not property of the estate and may not be exercised by the trustee. Blackburn,
. A full discussion of retention of attorneys and payment of compensation pursuant to the bankruptcy code is beyond the scope of this decision. Suffice it to say that in addition to the disclosure requirements, attorneys may also be required to seek court approval of both their retention and their requested fees. Attorneys for chapter 7 debtors are typically not subject to these additional requirements, with one caveat (which will be discussed shortly). They are, however, obligated to disclose their fees, which remаin subject to scrutiny for reasonableness under § 329(b). Blackburn,
. Perhaps the arrangement was better described as a "retention agreement” or simply a “payment agreement,” as it does not satisfy the principal characteristic of any of the three general types of retainers: namely, that money is paid in advance.
. Although the attorney may have a posses-sory security interest in a security retainer, there is a question as to whether these lien rights are sufficient to circumvent the Lamie decision. See CK Liquidation,
. As the court noted in Parklex, noncompliance with the provisions governing compensation “can range from inadvertent, technical violations, which may call for the imposition of no sanction whatsoever, to intentional violations, which may warrant complete disgorgement of fees.”
. While Brown involved construction of the Bankruptcy Act of 1898, the predecessor to the present bankruptcy code, the policy regarding bankruptcy court supervision of compensation remains the same. See Lewis,
. Basically, state law may dictate that a pre-petition flat fee belongs to the attorney and is not property of the bankruptcy estate under 11 U.S.C. § 541(a). But the attorney might still have to give it back, whether under § 329(b) or another provision of the code.
. Specifically, the Statement of Financial Affairs provides:
Debtors received no proceeds from the malpractice lawsuit. Debtor [sic] had no rights to or interest in the settlement proceeds, and the proceeds were not debtors’ property. The consideration for settlement of the malpractice lawsuit was the direct funding by settling defendants of the attorney fees for this bankruptcy proceeding; direct funding by the settling defendants of the defense against adversary claims and anticipated costs; and direct payment by the settling defendants of the 1/3 contingency fee and costs incurred in the malpractice lawsuit.
See Question No. 10, Debtors' Statement of Financial Affairs.
. Under 11 U.S.C. § 101(54)(D), the term "transfer” means "each mode, direct or indirect, absolute or conditional, voluntary or involuntary, of disposing of or parting with” property or an interest in property.
.Put simply, Liberty Mutual was not going to disburse anything to the defendant until Mr. Pawlak signed the settlement agreement and authorized doing so. The defendant acknowledges that it was not entitled to the $50,000.00 for previous services, and nothing (other than legal strategy) obligated Mr. Paw-lak to direct that the funds be delivered to the defendant rather than to his personal bank account. Regardless of the characterizations found in the statement of financial affairs, the reality is that he gave the defendant something that otherwise would have belonged to him in exchange for future legal services; that is a "transfer of an interest in property” within the meaning of the code.
. As indicated in the Court’s prior decision on dischargeability, Mr. Pawlak and the judgment creditors held diametrically opposed recollections of the events which led to his termination. See Pawlak,
. Wisconsin’s version of the Uniform Fraudulent Transfer Act is, in many respects, similar (or identical) to the bankruptcy code’s fraudulent transfer provisions.
. As an unpublished opinion issued after July 1, 2009, the decision in Hanis may be cited for “persuasive value.” See Wis. R. App. P. 809.23(3).
. For example, if the defendant later refused to represent the debtors or balked once the hourly fees exceeded the flat fee, the debtors would have had a cause of action for breach of contract.
. Contingency fee arrangements reflect a similar balancing of risk and reward. The attorney takes the risk of receiving nothing, while the client potentially surrenders a larger portion of a favorable result. A contingency fee arrangement may end up benefitting one party more than the other in the end, but at the time the parties enter into the arrangement each believes the prospective value of what they might get is worth whatever they are giving up.
. The attorney may also value the assurance of the flat fee, not only because it avoids the possible headaches of collection but because of the present value associated with funds which are deemed to be the attorney's property upon receipt and therefore immediately available.
. The fee agreement reflects this belief as it described the underlying litigation, noted that the defendant anticipated defending Mr. Paw-lak “on the underlying merits,” and identified the “expected” venue of the case as Eau Claire. See Exhibit # 2 to the plaintiff’s motion for summary judgment.