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In re Ernst

February 8, 2008

IN RE: RUDOLF J.O. ERNST AND ANGELIKA L. ERNST, DEBTORS.


The opinion of the court was delivered by: John G. Koeltl, District Judge

Chapter 11

OPINION AND ORDER

This is an appeal from the Order granting Debtors' motion for summary judgment (the "Order") entered by the United States Bankruptcy Court for this district (the "Bankruptcy Court") on April 27, 2007. In re Ernst, 368 B.R. 296 (Bankr. S.D.N.Y. 2007) (Docket No. 5595). The appeal is brought by creditor Michael Q. Carey d/b/a Carey & Associates ("Carey" or the "Appellant"). The debtors are Rudolf J.O. Ernst and Angelika L. Ernst (the "Debtors" or the "Appellees"). There is jurisdiction to hear the appeal pursuant to 28 U.S.C. § 158(a)(1).

The Appellant is an attorney. The Bankruptcy Court held that a provision in the retainer agreement between the Appellant and the Appellees that allowed the Appellant to recover the costs of collecting his fees from the Appellees was unenforceable under New York law. The central issues on this appeal are, first, whether the Bankruptcy Court erred in finding that the non-reciprocal collection fee clause in the Appellant's retainer agreement was per se unenforceable pursuant to the decision of the New York State Supreme Court Appellate Division, First Department, in Ween v. Dow, 822 N.Y.S.2d 257 (App. Div. 2006); second, whether the Bankruptcy Court erred in applying Ween as applicable law under 11 U.S.C. § 502(b)(1); and third, whether the Bankruptcy Court erred in finding that the disallowance of the claim for collection costs was not barred by res judicata.

The Court has reviewed the Bankruptcy Court's decision granting the Debtors' motion for summary judgment and the arguments of the parties to this appeal. For the reasons explained below, the Order is affirmed.

I.

This appeal arises from a conflict that reaches back several years and embodies a complicated procedural history. From January through July 1998, the Appellant Carey represented debtor Rudolf J.O. Ernst in an extradition matter in the Southern District of New York. In connection with the representation, the Debtors entered into a retainer agreement (the "Retainer Agreement") with Carey that contained a provision that allowed Carey to recover the costs of collecting his fee. (See Appellant's Appendix dated July 9, 2007 ("Appellant's Appx."), Ex. 1.) The provision was non-reciprocal because it did not provide that the client could recover the costs of resisting an unmeritorious claim for fees.

In August 1998, Carey sued in the New York State Supreme Court for his fees from representing Rudolf J.O. Ernst, and by order dated March 19, 2004, Justice DeGrasse granted Carey's motion for summary judgment in the amount of $72,274.14 for account stated. Carey and Assocs. v. Ernst, No. 60400/98 (N.Y. Sup. Ct. filed Mar. 26, 2004)(the "State Court Decision"). The court also determined that Carey was entitled to the costs of collection, pursuant to the Retainer Agreement. Id. The decision left open the amount of costs, which was to be determined at a hearing which was to be scheduled: "Plaintiff's claim for collection costs recoverable under the agreement is severed for an assessment of damages which shall be conducted on the scheduled trial date." Id.

On April 5, 2004, shortly after the State Court Decision was filed, and before the hearing to determine the amount of costs was held, the Debtors filed a Chapter 13 Bankruptcy proceeding. On July 27, 2004, Carey filed a claim in the bankruptcy proceeding for $335,319.20, including the unpaid fees in the extradition proceeding for $72,274.14, disbursements of $15,951.77, and $195,893.50 for the collection fees that would be presented to the Bankruptcy Court for a determination of reasonableness and necessity, as well as interest on the amount of the extradition judgment and the collection fees amounting to $51,199.79. In December 2004, Carey filed a fee application for $205,707.78, for fees and disbursements and a request for contractual interest on fees and disbursements at 12% per annum.

On February 22, 2005, Bankruptcy Judge Blackshear found that Carey was entitled to his claim for $72,000 but reduced the amount of interest from 12% as provided in the Retainer Agreement to 9%. In re Ernst, No. 04-12291 (Bankr. S.D.N.Y. Feb. 22, 2005); (Appellant's Appx., Ex. 3.). Judge Blackshear noted that while the claim for collection fees was rooted in state law, the Bankruptcy Court had to determine it to be "reasonable" under section 502(b). Without holding a hearing, Judge Blackshear disallowed Carey's claim for collection fees in its entirety on the grounds that there was insufficient evidence of the reasonableness of the costs.

On appeal to this Court, Judge Patterson affirmed the reduction of the interest rate to 9% but reversed the Bankruptcy Court's denial of a hearing on Carey's claim for collection fees, on the grounds that Judge Blackshear had indicated that there would be an evidentiary hearing at which the attorney could prove the reasonableness of the costs but then failed to hold the hearing. (Appellant's Appx., Ex. 4.)

The case returned to Bankruptcy Judge Peck. Before a hearing to determine costs and fees was held, the Appellate Division issued a decision in another case holding that it was an unconscionable provision in a retainer agreement to provide for a non-reciprocal provision allowing an attorney to recover the costs of collection but not permitting the client to recover the costs of resisting a suit for the collection of fees. Ween v. Dow, 822 N.Y.S.2d 257 (App. Div. 2006). Upon a motion for summary judgment by the Debtors, Judge Peck found that the decision made the provision in the retainer agreement providing for the recovery of collection costs unenforceable. The court also found that under section 502(b)(1) the court had to assess the validity of a claim under the law as it existed at the time that the Bankruptcy Court was making its decision, even though the amount of the claim would be determined at the time the petition is filed. In re Ernst, 368 B.R. at 304. Finally, the court found that the disallowance of the claim was not barred by res judicata. Id. at 308. Carey now appeals from that Order.

The Appellant argues that the Bankruptcy Court erred in concluding that the collection fees clause was unenforceable, that the court improperly applied Ween under section 502(b)(1) and that the Bankruptcy Court erred in finding that res judicata did not bar the Debtors' motion for summary judgment.

The Court reviews the Bankruptcy Court's conclusions of law de novo and its findings of fact for clear error. Citibank, N.A. v. Vebeliunas, 332 F.3d 85, 90 (2d Cir. 2003); In re Johns-Manville Corp., 340 B.R. 49, 58 ...


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