U.S. Supreme Court Rejects Ninth Circuit Rule Against Attorney’s Fees In Bankruptcy

In 1991, the Ninth Circuit held that an unsecured creditor is precluded from recovering attorney’s fees authorized by a prepetition contract if such fees were incurred in postpetition litigation involving issues peculiar to bankruptcy law rather than basic contract enforcement questions. In re Fobian, 951 F.2d 1149 (9th Cir. 1991).

Resolving a split in the circuits, the Supreme Court held in Travelers Cas. & Surety Co. of America v. Pacific Gas & Elec. Co., 127 S. Ct. 1199 (U.S. Mar. 20, 2007), that the Fobian rule was not supported by the Bankruptcy Code. Finding that “claims enforceable under applicable state law will be allowed in bankruptcy unless they are expressly disallowed, the Court held that the absence of textual support for the Ninth Circuit’s rule was “fatal,” and it rejected the applicable lower court precedents.

State Court Default Judgment Estopped Debtors From Re-Litigating Dischargability

In Evans v. Ottimo, 469 F.3d 278 (2d Cir. Nov. 20, 2006), the debtors attempted to litigate whether their debts were nondischargeable under § 523(a) of the Bankruptcy Code. The debt involved a default judgment for Evans for $400,000 entered by a New York state court in which the court found that the debtors had committed fraud. The debtors never appealed that judgment, and commenced bankruptcy proceedings five years later.

Evans argued that the debtors were collaterally estopped from contesting that a judgment for damages due to fraud was nondischargeable, but the bankruptcy court disagreed because the judgment in issue was entered in default.

The district court reversed and the Second Circuit agreed, finding that collateral estoppel principles are applicable even in default judgment situations. The two key conditions for estoppel were satisfied here -- the issue was identical between proceedings, and the estopped party had a full and fair opportunity to litigate the issue in the prior action.

No Sovereign Immunity From Bankruptcy Trustee’s Preference Action Against State

In Central Virginia Community College v. Katz, No. 04-885 (U.S. Jan. 23, 2006), the U.S. Supreme Court considered the intersection between the federal law of bankruptcy and the doctrine of sovereign immunity.

In this case, a book-seller transacted business with a state university before filing for bankruptcy. The court-appointed liquidating trustee commenced proceedings in Bankruptcy Court to avoid and recover alleged preferential transfers made to state parties when the debtor was insolvent. The state parties moved to dismiss on the basis of sovereign immunity, but the motions were denied.

In a 5-4 ruling, the Court held that Congress properly abrogated the states’ sovereign immunity in the Bankruptcy Code (11 U.S.C. § 106(a)), although the majority also held that the enactment of that particular statute was not necessary in this case because the Bankruptcy Court already was authorized to conduct preference avoidance proceedings involving state creditors.

Bankruptcy Filing Extends Time For Filing Notice Of Appeal

A motions panel of the Second Circuit has denied a motion to dismiss as untimely an appeal that a debtor filed more than 30 days after the entry of judgment. In Local Union No. 38 v. Custom Air Sys., Inc., 333 F.3d 345 (2d Cir. June 24, 2003), the Second Circuit adopted the reasoning of the only other appellate decision on point, Autoskill, Inc. v. National Educ. Support Sys., Inc., 994 F.2d 1476 (10th Cir. 1993). The court held that if a party wishing to appeal from an adverse judgment files for bankruptcy before the 30-day period under Fed.R.App.P. 4(a) expires, Bankruptcy Code §108(b) gives the trustee or debtor in possession an additional 60 days in which to file the notice of appeal.