- Category: Judge Somers
- Published on 09 December 2013
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In Re Youngquist, 11-10135 (Bankr. D. Kan. Dec. 6, 2013) Doc. # 303
SIGNED this 6th day of December, 2013.
Opinion designated for publication
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF KANSAS
REX V. YOUNGQUIST, CASE NO. 11-10135
MEMORANDUM OPINION AND ORDER
DETERMINING THE BANKRUPTCY ESTATE’S OBLIGATION FOR
MANAGEMENT FEES AND EXPENSES THROUGH FEBRUARY 28, 2013
Throughout this Chapter 7 case, Bill Fair & Co. (BFC) has managed real
properties owned by Debtor. The amount owed by the estate to BFC as management fees
and for expenses is a contested issue, which has been the subject of three days of trial,
begun on May 22 and 23, 2013,1 and concluded on September 18, 2013.2
1 The Trustee, J. Michael Morris, appeared by J. Michael Morris of Klenda Austerman LLC.
Receiver Peter Pratt appeared by Thomas J. Lasater of Fleeson, Gooing, Coulson & Kitch, L.L.C. Bill
Fair & Co. appeared by Paul D. Sinclair of Polsinelli PC. Gail Youngquist appeared pro se. Debtor did
2 The appearances were the same as at the May trial with the exception that Debtor and Gail
Youngquist were represented by Ira Dennis Hawver.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 1 of 31
The controversy arises in the context of a confluence of unfortunate circumstances.
Debtor owned three real properties in Douglas County, Kansas. They are known as Villa
26 Apartments, Four Wheel Drive, and the North Lawrence Real Estate. A judgment
against Debtor and his daughter, Gail Youngquist, entered in Texas, was registered in
Douglas County, Kansas District Court. By an Order of Sale, BFC was appointed by that
court to manage the three properties and to conduct an auction sale of Villa 26
Apartments and Four Wheel Drive.
In response to the registration of the Texas judgment, the Order of Sale, and the
appointment of BFC, but before the properties were ready for sale, Debtor, an elderly
man who appears to be incapable of meaningful participation in these proceedings, filed
this case under Chapter 7 of the Bankruptcy Code pro se in Wichita, Kansas. In all
likelihood, if Debtor had consulted with counsel, he would have been advised that a
Chapter 7 proceeding would not be beneficial. Debtor’s daughter, Gail Youngquist, who
is also subject to the Texas judgment (although she contends it was entered against her by
default without jurisdiction), was a co-owner of Villa 26 Apartments. Until very recently,
she also appeared pro se and did not effectively represent her interests.
The Chapter 7 Trustee, who has no experience managing large apartment
complexes, obtained Court approval for the employment of BFC as manager and
auctioneer for the three Douglas County properties. But BFC also had no experience
managing apartment complexes, large or small, on a long-term basis. Further, BFC has
no familiarity with bankruptcy proceedings and received no guidance from the Trustee.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 2 of 31
In large part because of objections to the Trustee’s proposed sale of Villa 26 Apartments,
the management phase of BFC’s employment has lasted over two years, during which
time the Trustee, who is located in Wichita, approximately 150 miles from Lawrence,
failed to inspect the properties under management or to demand and receive payments,
accountings, or management updates from BFC. Neither Debtor nor his daughter were
capable of cooperating with BFC. After the auction sale of Villa 26 Apartments, BFC
requested from the Trustee compensation for its management services and expenses under
the management contracts approved by the Douglas County, Kansas District Court and by
The issue of the compensation due BFC for management fees and expenses is
presented to the Court by the following pleadings: Application to Determine Accounting
and Fees of Property Manager, through February 28, 2013, filed by Trustee J. Michael
Morris;3 First Application for Payment of Reasonable Compensation for Services
Rendered and Costs and Expenses Incurred Pursuant to 11 U.S.C. § 543(C)(2) from the
Petition Date to June 8, 2011, filed by BFC;4 and Second Application for Payment of
Reasonable Compensation for Services Rendered and Costs and Expenses Incurred
Pursuant to 11 U.S.C. §§ 328, 330 and 331 and Federal Rule of Bankruptcy Procedure
2016, from June 9, 2011 to February 28, 2013, filed by BFC. 5 Responses were filed to
3 Dkt. 194.
4 Dkt. 232.
5 Dkt. 233.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 3 of 31
these pleadings. Although the Court’s consideration of the case has revealed several
procedural irregularities and the Court has suggested to the parties that those matters
could impact resolution of this controversy, counsel have not pursued them. Therefore,
the Court will address the compensation issue only within the framework presented by the
parties. In doing so, it will not make distinctions between the Trustee’s application and
BFC’s applications since they address the same matters, although from different
perspectives. The burden of proof is on BFC to show it is entitled to the compensation
On February 18, 2010, the District Court of Travis County, Texas, 126th Judicial
District, awarded a judgment in favor of the State of Texas against Rollover Lease
Operations, Inc., Gail S. Youngquist (by default), Rex A. Youngquist (on the plaintiff’s
motion for summary judgment following a pro se written response to the complaint), and
Greggory Clinton Sander, jointly and severally, in the total amount of $848,739.00, plus
interest and costs.7 On March 23, 2010, the same court appointed Peter E. Pratt, Jr., as a
receiver with “the fullest authority under Texas Law to seize all non-exempt property” of
the judgment defendants and to pay the proceeds to the plaintiff to satisfy the judgment.8
6 In re Sevitski, 161 B.R. 847, 854 (Bankr. N.D. Okl. 1993) (receiver seeking fees as
administrative expense under §§ 543 and 503); In re Mid Region Petroleum, Inc., 1 F.3d 1130, 1132 (10th
Cir. 1993) (general rule for administrative expense claims under § 503).
7 Exh. PP-A.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 4 of 31
On September 13, 2010, the Texas judgment was filed in Douglas County, Kansas
District Court, and on December 29, 2010, the Douglas County court heard the judgment
creditor’s motion for sale. An Order of Sale,9 filed the following day, granted the motion
and ordered that: (1) pursuant to K.S.A. 60-2140, the judgment creditor was permitted to
sell as separate tracts real estate commonly known as Villa 26 Apartments and Four
Wheel Drive by special execution at an auction to be conducted by BFC; (2) for its
auction services, BFC would be compensated from the proceeds of the sale for the
advertising and marketing expenses plus a 10% real estate commission; and (3) in order
to preserve the properties and maximize their value, BFC was retained to manage Villa 26
Apartments and Four Wheel Drive, for which it “shall be paid 10% of the volume of
income as a management fee.” Copies of an Absolute Real Estate Auction Agreement10
between Pratt and BFC (BFC-Pratt Auction Agreement) and a Commercial Property
Management Agreement11 between Pratt and BFC (BFC-Pratt Management Agreement)
had been provided to the court with the motion for sale and were approved by the court.
They were “fill in the blank” form contracts provided by BFC.
Debtor Rex Veech Youngquist filed this case pro se under Chapter 7 on January
25, 2011. J. Michael Morris was appointed as the Chapter 7 Trustee. Debtor’s Schedule
A, “Real Property,” filed with his voluntary petition, listed the following Douglas County,
9 Exh. 30.
10 Exh. 29.
11 Exh. 28.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 5 of 31
Kansas properties, with the values as shown in parentheses: Villa 26 Apartments
($2,400,000); Four Wheel Drive ($700,000); and North Lawrence Real Estate ($170,000).
On March 31, 2011, the Trustee filed his Application to Employ Property
Manager/Realtor/Auctioneer (Trustee’s Application to Employ),12 seeking, among other
things, the Court’s approval of his retention of BFC as the manager of the three Douglas
County properties. Copies of a proposed Commercial Property Management Agreement
(BFC-Morris Management Agreement) and a proposed Absolute Real Estate Auction
Agreement (BFC-Morris Auction Agreement) were attached to the motion. They utilized
the same BFC form agreements that had been presented to the Douglas County, Kansas
District Court, but with changes as discussed below. The application was granted by an
Order to Employ Property Manager/Realtor/Auctioneer (Employment Order) filed on
June 9, 2011.13 It provides that as property manager, BFC “will receive management fees
as set out in ¶ 12 in the Commercial Property Management Agreement attached to the
Application to Employ filed on March 31, 2011.” The Employment Order is silent as to
its effective date.
On March 22, 2011, the Trustee filed a Complaint to Sell Jointly Owned Property,
seeking authority to sell the estate’s and Gail Youngquist’s interests in Villa 26
Apartments under the authority of § 363(h).14 That litigation was terminated by the entry
12 Dkt. 46.
13 Dkt. 79.
14 Adv. no. 11-5073, dkt. 1.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 6 of 31
of an order on September 24, 2012, allowing the sale of the jointly-owned property.15 On
November 6, 2012, the Trustee filed a motion to sell Villa 26 Apartments.16 The sale
occurred on December 13, 2012, with gross proceeds of $3,025,000,17 and fees and
expenses due BFC of $289,727.50.18 This dispute about the management fees due BFC
arose shortly thereafter.
BFC’S MANAGEMENT SERVICES.
Villa 26 Apartments is a 76-unit apartment complex, comprised of nine buildings.
There are one-, two-, and three-bedroom units. Each unit has parking or a garage, its own
appliances, and central air conditioning and heat. There is no clubhouse or pool. The
complex was constructed in approximately 1988 and has been owned by the Youngquist
family since that time. The Youngquist family also managed the property until BFC was
engaged with the approval of the Douglas County, Kansas District Court.
Bill Fair and his wife, Kathy Fair, who operate BFC, testified at trial. BFC’s
primary business is auctioning, not management, except for short-term management of
properties to prepare them for sale. When BFC was appointed by the Douglas County,
Kansas District Court, Bill Fair anticipated that the auction of Villa 26 Apartments and
Four Wheel Drive would be held within 60 to 90 days. BFC undertook to clean up the
15 Adv. no. 11-5073, dkt. 72.
16 Dkt. 169.
17 See dkt. 192.
18 Dkt. 286.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 7 of 31
Villa 26 Apartments property and seek tenants for vacant units. When the auction of
Villa 26 Apartments was advertised, the occupancy was rate 98%. The rents collected by
BFC for this property from January 1, 2011, through February 28, 2013, were
$933,325.52, and the expenses, not including management fees, were $511,935.82.
The Four Wheel Drive property was valued at $700,000 in Debtor’s schedules.
That property includes a residence, additional rental units, and a separate office building.
Debtor and Gail Youngquist, and perhaps other family members, lived in the residence at
Four Wheel Drive during this bankruptcy. The Trustee directed BFC not to charge the
Youngquists rent, which reduced the income from the property. The rents collected by
BFC from January 1, 2011, through February 28, 2013, were $162,419.42, and the
expenses, not including management fees, were $132,868.75. The Youngquists’
occupancy of the Four Wheel Drive residence, although reducing required management
services, compromised BFC’s ability to efficiently manage the property. In addition,
there was significant personal property belonging to various people, including the
Youngquists and former tenants, stored at Four Wheel Drive which BFC had to deal with
without the benefit of the Youngquists’ historical knowledge and cooperation.
The North Lawrence Real Estate, valued at $170,000 in Debtor’s schedules,
required little management. It generated rental income of $36,300.80 from January 1,
2011, through February 28, 2013. For the same period, expenses, not including
management fees, were $5,534.25, primarily for insurance and utilities.
The management authority granted to BFC by both the BFC-Pratt Management
Case 11-10135 Doc# 303 Filed 12/06/13 Page 8 of 31
Agreement and the BFC-Morris Management Agreement was extensive and identical.
BFC, referred to as the “broker” in the agreements, was given authority to collect rents
and other tenant charges and to pay from such collections “expenses to operate the
Property, including but not limited to, maintenance, taxes, insurance, utilities, repairs,
security, management fees, leasing fees, and expenses authorized under this agreement.”19
As to leasing, BFC was given authority to negotiate and execute leases on the owner’s
behalf at market rates, for initial terms of not less than one month or more than twelve
AGREEMENTS REGARDING BFC COMPENSATION
The Order of Sale entered by the Douglas County, Kansas District Court
approving BFC’s retention for purposes of management and auction sale provides that
BFC “shall be paid 10% of the volume of income as a management fee.”21 But the BFC-
Pratt Management Agreement, approved in the Order of Sale, provides for additional
compensation. The introductory portion of paragraph 12, titled “Broker’s Fees,” states,
“If more than one property or unit is made part of and subject to this agreement, each of
the provisions below will apply to each property or unit separately.”22 The paragraph
then enumerates seven elements of compensation. The first element is “Management
19 Exh. 28, ¶ 4(A)(1),(2), and (3); exh. 31, ¶ 4(A)(1),(2), and (3).
20 Exh. 28, ¶ 4(B)(9); exh. 31, ¶ 4(B)(9).
21 Exh. 30 at 2-3.
22 Exh. 28 at 5.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 9 of 31
Fees.” As to each of the properties to which it applies,23 this element provides, “Each
month Owner [Peter Pratt - Receiver] will pay Broker [BFC] the greater of $4,000.00
(minimum management fee) or (1) 10% of the gross monthly rents collected that month.”
The second element is “Leasing Fees for New Tenancies” of 6% of the gross rents to be
paid for each time the property is leased to a new tenant. The third element is “Renewal
or Extension Fees” of 6% of the gross rents to be paid under the renewal or extension for
each time a tenant renews or extends a lease, other than on a month-to-month basis. The
fourth element is “Service Fees” of 10% of the total cost of each repair, maintenance,
alteration, or redecoration which BFC arranges to be made to the property. The fifth
element provides for BFC to retain all interest earned on any trust account it maintains
under the agreement, the sixth element provides for BFC to retain all administrative fees,
such as returned check and late fees, received from tenants, and the seventh element
provides for BFC to be paid at the rate of $150 per hour for appearances at any legal
proceedings, including tenant disputes.
When the bankruptcy was filed, Bill Fair was contacted by the Trustee and asked
to continue his company’s management services. The BFC-Morris Management
Agreement utilizes the same form agreement as the BFC-Pratt Management Agreement,
with changes requested by the Trustee and agreed to by Bill Fair on behalf of BFC. There
were no in-person negotiations of the terms. Bill Fair sent a proposed signed agreement
23 The description of the properties covered by the BFC-Pratt Management Agreement is
handwritten and difficult to decipher. The Court assumes it covers all of Debtor’s Douglas County
Case 11-10135 Doc# 303 Filed 12/06/13 Page 10 of 31
to the Trustee, the Trustee made changes, signed the revised agreement, and returned the
agreement to Bill Fair. Bill Fair did not contest any of the changes and agrees BFC is
bound by the agreement as changed by the Trustee, the terms of which were approved by
the Court. The BFC-Morris Management Agreement applies to three properties: Villa 26
Apartments, Four Wheel Drive, and the North Lawrence Real Estate.24
For purposes of this dispute, the important differences between the BFC-Pratt
Management Agreement and the BFC-Morris Management Agreement are in paragraph
12 regarding the broker’s fees. The provision in the agreement with Pratt that the broker
fees would apply separately to each of the three properties under management was
stricken, and the parties agreed that the management fee for all properties would be the
greater of $7,000 per month or 10% of the gross rents collected that month. The
management fee for new tenancies was changed to “one month’s rent to be paid from first
month’s rent to be paid by tenant.” The management fee based on lease renewals or
extensions was changed to “one month’s rent to be paid from the first month’s rent paid
by tenant after the renewal or extension.” The service fees, the right to retain interest on
trust accounts, and the fees related to legal proceedings were not changed, but the
administrative fees were reduced to 50% of any administrative charges collected from
24 The BFC-Morris Management Agreement, exh. 31, describes the property as four tracts,
including, in addition to Villa 26 Apartments and Four Wheel Drive, the “Fish Farm” and “N. Lawrence.”
But BFC’s accounts are for only three properties, Villa 26 Apartments, Four Wheel Drive, and North
Lawrence Real Estate. Debtor’s schedules list three Douglas County properties. The Trustee testified at
the May 22, 2013 trial that the fish farm should not have been included in his agreements with BFC since
he recently discovered that the fish farm had been conveyed, apparently prepetition. The Court will
therefore interpret the BFC-Morris Management Agreement as applying to three tracts.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 11 of 31
EXPERT TESTIMONY REGARDING FEES AND EXPENSES.
At trial, Greg Hanson, employed by Weigand Omega Management, testified as
BFC’s expert witness as to fees and expenses for management of apartment complexes.25
He testified that typical fees would vary greatly, ranging from 4% of rents for a very
large, high-end project to 8 to 10% on a smaller project, usually with some minimum.
There would not be an additional component of the management fees based upon lease
renewals or repairs, unless there were a major rehabilitation. In addition to the
management fees, property managers are customarily compensated for on-site expenses
directly related to the property, such as pay for an on-site manager, credit checks on
tenants, eviction expenses, on-site office expenses, and security expenses. Other
expenses, such as supervision and bookkeeping, would be included in the management
THE TRUSTEE’S REQUEST FOR AN ACCOUNTING OF BFC’S FEES AND
EXPENSES, AND BFC’S REQUEST FOR COMPENSATION.
Throughout the period that BFC managed the estate’s properties, BFC collected
rents and other charges, and then paid expenses and its own compensation from the
collected revenues. No money was distributed to Pratt before the bankruptcy case was
filed or to the Trustee thereafter. The issue before the Court is to determine the
25 Exh. 46.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 12 of 31
management fees and expenses due BFC, deduct these and other funds due BFC26 from
the income collected, and determine the net amount to be paid to the estate. Much of the
trial testimony was therefore devoted to the review of accounting statements prepared by
BFC. During the first two days of trial, there were substantial challenges about the
accuracy of the statements, but between the May and September trial dates, BFC prepared
new statements of accounts, and the parties now agree that the numbers they contain are
accurate.27 The details of those statements will be discussed below, and that discussion
shall supplement these findings of fact.
Highly summarized, the Trustee seeks an accounting of the funds collected by
BFC, and the fees and expenses properly owed to BFC through February 28, 2013.
BFC’s position is that it is entitled to fees calculated in accord with the BFC-Pratt
Management Agreement until June 8, 2011, and in accord with the BFC-Morris
Management Agreement thereafter. The Trustee’s position is that some of the expenses
for which BFC seeks compensation should be disallowed and that the allowed
management fees should be reasonable fees, not those stated in the two management
agreements. In a post-trial brief, the Trustee submits five alternative approaches for
determining BFC’s allowable fees and expenses.28
The Court has previously granted the Trustee’s request to approve the
26 The amount owed to BFC under the BFC-Morris Auction Agreement was the subject of a
separate order. Dkt. 286.
27 See exh. BF-J.
28 Dkt. 284.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 13 of 31
disbursement to BFC of $289,727.50 as the commission and expenses for sale of Villa 26
Apartments under the BFC-Morris Auction Agreement. Such payment is subject to
adjustment based on any amount owed to the estate by BFC under the BFC-Morris
Management Agreement.29 This memorandum determines those fees and expenses
through February 28, 2013.
Under the facts of this case, an accounting of the management fees and expenses
that are due to BFC involves a consideration of four discrete time periods: The
prepetition period; the period between the filing of the bankruptcy and the filing of the
Trustee’s application for the appointment of BFC; the period during which the application
was pending; and the period after the retention of BFC by the Trustee was approved.
Each is considered below.
A. Period I — December 30, 2010 (entry of Douglas County, Kansas District
Court Order of Sale), to January 25, 2011 (date bankruptcy was filed).
Prepetition, BFC was a “custodian” as defined by § 101(11)(C),30 which provides
that the term means a “trustee, receiver, or agent under applicable law, or under contract,
that is appointed or authorized to take charge of property of the debtor for the purpose of
enforcing a lien against such property, or for the purpose of general administration of
such property for the benefit of the debtor’s creditors.” Under the Douglas County,
Kansas District Court Order of Sale, BFC was a custodian for Debtor’s Douglas County
29 See Dkt. 286.
30 11 U.S.C. § 101(11)(C). Future references in the text to Title 11 shall be to the section only.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 14 of 31
properties, including Villa 26 Apartments and Four Wheel Drive. BFC was the agent of
Peter Pratt, the receiver appointed by the Texas court, and was given charge over the
properties for the purpose of enforcing the judgment lien arising from the filing of the
Texas judgment against Debtor and his daughter in Douglas County, Kansas District
Under § 543(b), when the bankruptcy was filed, BFC as custodian had a duty to
account and to turn Villa 26 Apartments, Four Wheel Drive, and the North Lawrence
Real Estate over to the Trustee, unless excused from such turnover under § 543(d). That
subsection provides for a prepetition custodian to continue in possession, custody and
control of property of the debtor if, after notice and hearing, it is determined to be in the
best interests of creditors. Neither BFC nor the Trustee applied for BFC to continue as
custodian. A prepetition custodian who does not remain in possession under § 543(d),
such as BFC, is a superseded custodian. The compensation of a superseded custodian is
governed by § 543(c)(2),31 which provides that “[t]he court, after notice and a hearing,
shall — . . . provide for payment of reasonable compensation for services rendered and
costs and expenses incurred by such custodian.”
Compensation for prepetition services of a superseded custodian is entitled to
administrative priority under § 503(b)(3)(E).32 It provides that after notice and a hearing,
31 E.g., In re Sevitski, 161 B.R. 847, 854 (Bankr. N.D. Okl. 1993); In re Brown and Sons, Inc.,
498 B.R. 425, 434-35 (Bankr. D. Vt. 2013).
32 5 Collier on Bankruptcy ¶ 543.04 at 543-13 (Alan N. Resnick & Henry J. Sommer, eds.-inchief,
16th ed. 2013).
Case 11-10135 Doc# 303 Filed 12/06/13 Page 15 of 31
there shall be allowed as administrative expenses, the “actual, necessary expenses . . .
incurred by — . . . a custodian superseded under section 543 of this title, and
compensation for the services of such custodian.” Commentators agree that
§ 503(b)(3)(E) grants administrative priority status to compensation for prepetition
services. One commentator states, “Custodians superseded under Code § 543 are entitled
to administrative priority for both their actual and necessary expenses and compensation
for their services. This provision is an exception to the general rule that administrative
expenses are not recoverable for prepetition claims.”33 Another commentator states, “It is
clear from the statutory language however, that the custodian's compensation is not
limited to compensation for services rendered after the filing of the petition.”34
The Court finds that BFC is entitled to reasonable compensation and
reimbursement of expenses for the prepetition period. The specifics of the determination
of reasonable compensation under § 543(c)(2) are discussed in section D below.
B. Period II — January 25, 2011 (date bankruptcy was filed), to March 31,
2011 (date of filing of the Trustee’s Application to Employ BFC).
A superseded custodian is also entitled to reasonable compensation under
§ 543(c)(2) for services rendered and costs and expenses incurred, and the priority
provision of § 503(b)(3)(E) applies to a superseded custodian’s postpetition “winding up”
33 3 William L. Norton, Jr., and William L. Norton III, Norton Bankruptcy Law & Practice 3d,
§ 49:42 at 49-225 (Thomson Reuters 2013).
34 4 Collier on Bankruptcy ¶ 503.10 at 503-83.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 16 of 31
services and expenses.35 One of the unusual procedural circumstances of this case is that
at the Trustee’s request and with his approval, BFC continued in possession of estate
property in the capacity of a custodian for several months after the date of filing.36
Although the time period during which BFC continued to act as a custodian was
significantly longer than that required for “winding up,” the Court finds that § 543(c)(2)
governs the award of fees and expenses of BFC for this time period.
The specifics of the determination of reasonable compensation under § 543(c)(2)
are discussed in section D below.
C. Period III — March 31, 2011 (date of filing of the Trustee’s Application to
Employ BFC), to June 8, 2011 (day before the Employment Order).
The question with respect to the third period is whether the fees and expenses for
this period should be governed by the standards applicable before the Trustee’s
application to appoint BFC was filed with this Court (examined above) or those
applicable after the order of appointment was filed (discussed below). Neither the
Trustee’s Application to Employ nor the Employment Order addresses the effective date
of the retention.
BFC argues that the Employment Order and the BFC-Morris Management
35 5 Collier on Bankruptcy ¶ 543.04 at 543-13.
36 The petition was filed on January 25, 2011. On that date, BFC became a superseded custodian.
Szwak v. Earwood (In re Bodenheimer, Jones, Szwak, & Winchell L.L.P.), 592 F.3d 664, 670 (5th Cir.
2009). A superseded custodian’s wind-up duties are to preserve estate property, deliver estate property to
the bankruptcy trustee, and to file an accounting. 11 U.S.C § 543(a). The Trustee did not file an
application for the appointment of BFC as a professional until March 15, 2011, and the employment order
was not entered until June 9, 2011.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 17 of 31
Agreement were not effective until June 9, 2011. BFC cites Federal Rule of Bankruptcy
Procedure 9021, which provides, “A judgment or order is effective when entered.” The
Trustee does not challenge BFC’s position that the BFC-Morris Management Agreement
does not become a factor until the period commencing on June 9, 2011. The BFC-Morris
Management Agreement supports this construction, as it states its primary term “begins
and ends as follows: Commencement Date: Order to Employ Expiration Date:
The Court finds that the BFC-Morris Management Agreement does not apply to
the period between the filing of the Trustee’s Application to Employ and the entry of the
Employment Order. For this period, the standard for the award of fees and expenses is
the reasonableness standard of § 543(c)(2), the specifics of which are discussed in section
D immediately below.
D. Amount of fees and expenses for Periods I, II, and III.
BFC requests the allowance of management fees of $126,859.71 for the period
from January 1, 2011, through June 8, 2011. BFC’s accounting for this period itemizes
“Brokerage Expense,” or BFC’s management fees, as follows:
Retainer Fee $ 80,000.00
Management Fee $ 40,000.0038
Expense 10% Fee $ 4,149.71
Admin. 50% Exp $ 465.00
37 Exh. 31at 1.
38 The management fee request appears to seek $4,000 per month for each of two properties, Villa
26 Apartments and Four Wheel Drive, but not to include a management fee for the North Lawrence Real
Estate, even though it is a property included in the BFC-Pratt Management Agreement.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 18 of 31
Lease Extensions $ 2,245.00
These calculations are based upon the BFC-Pratt Management Agreement and the BFC-
Pratt Auction Agreement, approved by the Douglas County, Kansas District Court. As to
expenses, BFC contends it is entitled to reimbursement of $115,128.59 for service costs,
advertising and promotion, answering service, bank service charges, credit checks
expense, environmental inspection, insurance, legal services (related to tenant matters),
miscellaneous expense, office supplies, postage and delivery, security, survey expense,
telephone expense, and utilities. The Trustee contends the fees and expenses are not
reasonable, and under the reasonableness standard, the fees should be 10% of the rents
collected and the expenses should be as requested, except the auction-related expenses of
environmental inspection and survey expense should be disallowed.
Based upon the foregoing discussion, the Court finds that it should allow BFC
“reasonable compensation for services rendered and costs and expenses incurred” under
§ 543(c)(2) and § 503(b)(3)(E) for periods I, II, and III — from January 1, 2011, to June
8, 2011. Although the parties do not contest the applicability of § 543(c)(2), they do
disagree about its meaning and application. BFC contends that reasonable compensation
is determined by the terms of the BFC-Pratt Management Agreement. BFC cites In re
400 Madison Avenue39 in support. The Trustee argues that the reasonableness standard
should not be interpreted to incorporate the terms of the BFC-Pratt Management
39 In re 400 Madison Ave. Ltd. P’ship, 213 B.R. 888, 898 (Bankr. S.D.N.Y. 1997).
Case 11-10135 Doc# 303 Filed 12/06/13 Page 19 of 31
Agreement, that the case relied upon by BFC does not apply, and that the Court should
apply the standards for fee awards under § 330. The Court rejects both positions.
The Court agrees with the Trustee that the BFC-Pratt Management Agreement
does not determine the fees and expenses that should be allowed. 400 Madison Avenue
does not support BFC’s contention to the contrary. That case addresses the authority of a
prepetition custodian who remained in that position after the bankruptcy filing under an
agreement between the Chapter 11 debtor and a secured creditor to retain counsel and pay
counsel’s bill, subject only to a determination of reasonableness.40 It does not address
whether the custodian was entitled to the compensation provided for under a prepetition
agreement. In the context of awarding attorney fees under § 330, the Tenth Circuit
recently affirmed that the bankruptcy court “is not bound by the parties’ compensation
agreement.”41 A commentator states, “Compensation schedules set forth under the law by
which the custodian was appointed will be relevant but not controlling.”42 The Court
rejects BFC’s position that its compensation should be governed by the BFC-Pratt
Management Agreement. The Bankruptcy Code requires the Court to determine
reasonableness, not to adopt the compensation standard approved by a state court.
However, the Court rejects the Trustee’s argument that reasonable compensation
under § 543(c)(2) should be construed to mean the adjusted lodestar approach adopted by
41 Market Center East Retail Property, Inc., v. Lurie (In re Market Center East Retail Property,
Inc.), 730 F.3d 1239, 1251 (10th Cir. 2013).
42 4 Collier on Bankruptcy, ¶ 503.10 at 503-83.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 20 of 31
the Tenth Circuit to calculate professional fees under § 330(a)43 for those appointed under
§ 327. Section 330 does not apply directly, since at no time before June 9, 2011, was
BFC appointed by this Court. The Court also declines to adopt the § 330 standard by
analogy. The factors which must be applied under that approach are suitable for attorneys
and other professionals, particularly where time records are maintained and the value of
the services provided often bears a direct correlation to the time expended. They are
unsuitable for custodians, such as a property manager.
The standard for an award under § 543(c)(2), with priority as an administrative
claim under § 503(b)(3)(E), is reasonableness. Subsection 543(c)(2) expressly provides
for the payment of “reasonable compensation.” A commentator states, “The
determination of what qualifies as ‘reasonable compensation’ under section 543(c)(2) is a
question of federal law, not state law, and is determined in accordance with bankruptcy
law standards.”44 Another commentator states the following about a reasonable fee for a
The factors that are considered in determining whether
a custodian’s compensation is “reasonable” are similar to
those used to determine if the compensation of an attorney or
accountant under Code § 503(b)(4) is reasonable. These
factors include: the time and labor expended by the
custodian; the benefit of the custodian’s services to the debtor
and the estate; the size and/or complexity of the estate; what
the custodian would have received if it had been appointed as
trustee for the debtor, and the quality of the custodian’s
services. The amount of compensation to which the custodian
43 See, e.g., Market Center East Retail Property, 730 F.3d at 1249-50.
44 5 Collier on Bankruptcy, ¶ 534.04 at 543-13.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 21 of 31
would have been entitled had there been no bankruptcy can
serve as a guide to the court, but the court is nevertheless
required to exercise independent judgment in the
determination of the reasonableness of the compensation.45
As to the reasonableness standard in § 503(b)(3)(E), one commentator states:
Nothing in section 503(b)(3)(E) sets forth a standard
for awarding compensation for the custodian’s services.
Courts have generally looked to a reasonableness standard.
Although the statute does not include the phrases
“preservation of the estate” or “benefit to the estate,” courts
generally require a showing of benefit to the estate in
awarding administrative expenses to a superseded custodian.46
There are no Tenth Circuit cases defining reasonableness for purposes of allowing
fees and expenses to superseded custodians. After examining the authorities, the Court
finds that the allowance of reasonable fees and expenses under § 543(c)(2), with priority
under § 503(b)(3)(E), requires consideration of all the facts and circumstances of the case.
In this case, the Court finds the relevant considerations to be: the services provided, the
difficulty of the undertaking, the results obtained, the usual charges for such services if
there had been no bankruptcy, and the benefit to the estate.47
The Court finds the requested management fees for the first five months of 2011 to
be excessive and unreasonable. First, the requested allowance of an $80,000 retainer is
denied. It is provided for in the BFC-Pratt Auction Agreement which states, “Owner
45 4 Norton Bankr. Law & Prac. 3d, § 62:13 at 62-40 to 62-41.
46 4 Collier on Bankruptcy, ¶ 503.10 at 503-83; see also 4 Norton Bankr. Law & Prac. 3d,
§ 62:13 at 62-40 to 62-41.
47 See Bodenheimer, Jones, Szwak, & Winchell, 592 F.3d at 672-73 (holding that a benefit to the
estate requirement is implied in § 503(b)(3)(E) and has historically been applied to services of prepetition
liquidators and postpetition custodians).
Case 11-10135 Doc# 303 Filed 12/06/13 Page 22 of 31
[Pratt] agrees to pay a retainer of $80,000 for real estate marketing and Auction sale
services, payable from rental income, which is fully earned regardless of whether the
Property is sold.”48 As stated above, the Court is not bound by any prepetition agreement
between BFC and Pratt. Further, the agreement on which BFC relies for the retainer
addresses auction services, not management services.
Second, the Court will not allow the requested additional elements of the
management fees — the $40,000 minimum management fee, the $4,149.71 fee based on
10% of renovation expenses that BFC authorized, the $465 administrative fee, and the
$2,245 for lease renewals. They are all based upon paragraph 12 of the BFC-Pratt
Management Agreement. It provides as to each managed property, “Each month Owner
will pay Broker the greater of $4,000 (minimum management fee) or . . . 10% of the gross
monthly rents collected that month.” The gross monthly rents for the Villa 26 Apartments
and Four Wheel Drive properties for the period from January 1, 2011, to June 8, 2011,
were $226,583.42, 10% of which is $22,658.34. The fee requested for the period in issue
is $40,000, which is the greater of the two items on which the fees are to be based under
the agreement. But, as explained above, when determining reasonable fees, the Court has
rejected the BFC-Pratt Management Agreement as setting the standard for
What management fees are reasonable? Villa 26 Apartments had 76 units and its
operation required continuous and significant management. However, Four Wheel Drive
48 Exh. 29.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 23 of 31
was smaller and required less attention. BFC’s duty was to preserve and protect the
properties, and to maintain their value, not to generate income for the estate. The benefit
to the estate of preserving Villa 26 Apartments as an operating rental property is obvious;
Villa 26 Apartments sold for considerably more than predicted at the outset of the case.
Other than complaints by Gail Youngquist, no questions have been raised about the
quality of the management services provided by BFC to either Villa 26 Apartments or
Four Wheel Drive. BFC has provided an accounting of its operations, which all the
parties accept as an accurate report of the income and expenses. Despite the foregoing,
the Court finds that the requested fees and expenses are not reasonable. Based upon the
rents collected, the minimum fee of $4,000 per month, or a total of $20,000 for each
property, is only slightly excessive for the services provided at Villa 26 Apartments,
which generated rent of $197,808 during the five months, but far too large for the Four
Wheel Drive property, where the rents collected were $28,623.50. The excessiveness of
the requested fees is compounded by the request for an additional allowance of
approximately $7,000 under the other elements of the payment terms of the agreement.
BFC’s expert testified that management fees for similar size properties are typically 8 to
10% of gross rents, without additional fees based upon other criteria. In this case, the
Court finds that a management fee of $22,000 for the period from January 1, 2011, to
June 8, 2011, which is approximately 10% of the gross rents, is reasonable and fully
compensates BFC for the services it provided for the properties under management.
The Court finds that the expenses requested are reimbursable, with the exception
Case 11-10135 Doc# 303 Filed 12/06/13 Page 24 of 31
of the charges for an environmental inspection ($950.00), a survey expense ($10,068.40),
and a miscellaneous expense ($82.50) for the sale of a vehicle. There is no question that
the remaining expenses were necessary to the management of the properties and were
actually incurred. The Court rejects the Trustee’s challenge to the allowance of some
expenses based on the contention that the expenses should be borne by BFC as part of the
management services and not passed on to the property owner as separate expenses. The
Court allows the charge for on-site maintenance of $13,595. This is the expense for an
on-site manager assigned to Villa 26 Apartments and Four Wheel Drive, which the Court
finds reasonable given the characteristics of the rental properties. The Court also allows
the following expenses which the Trustee challenges: answering service ($792.84); bank
service charges ($66.00); office supplies ($1,441.83); postage and delivery ($155.95); and
telephone ($918.63). These are costs directly related to the operation of the two
properties, not to BFC’s general overhead.
The Court therefore allows BFC the following as administrative expenses for the
period from January 1, 2011, to June 8, 2011: management fees of $22,000; and expense
reimbursements of $104,027.69.
E. Period IV — After June 9, 2011 (the date of the Employment Order).
The Employment Order was entered under the authority of § 327(a), which
provides that a trustee, with the Court’s approval, may employ professional persons to
assist the trustee in carrying out the trustee’s duties. Section 330(a)(1) provides that after
notice and hearing, and subject to §§ 326, 328, and 329, the Court may award to a
Case 11-10135 Doc# 303 Filed 12/06/13 Page 25 of 31
professional person employed under § 327 “reasonable compensation for actual,
necessary services rendered” and “reimbursement for actual, necessary expenses.”
Compensation awarded under § 330 is granted administrative expense status under
§ 503(b)(2). Section 328(a), “Limitation on compensation of professional persons,”
The trustee, . . . with the court’s approval, may employ
or authorize the employment of a professional person under
section 327 . . . on any reasonable terms and conditions of
employment, including on a retainer, on an hourly basis, on a
fixed or percentage fee basis, or on a contingent fee basis.
Notwithstanding such terms and conditions, the court may
allow compensation different from the compensation provided
under such terms and conditions after the conclusion of such
employment, if such terms and conditions prove to have been
improvident in light of developments not capable of being
anticipated at the time of the fixing of such terms and
Section 328 governs when prior court approval has been given to a certain compensation,
but subsequent events show the approved compensation was improvident; in that
situation, the reasonableness standard of § 330 does not apply.49
The question as to the fourth time period is whether the BFC-Morris Management
Agreement controls because it constitutes pre-approved compensation under § 328 or
whether the general standards of § 330 control. Three circuits, but not the Tenth Circuit,
have addressed the standard for determining whether a fee has been pre-approved under
§ 328. The Third Circuit holds that “‘if the order does not expressly and unambiguously
49 Market Center East Retail Property, 730 F.3d at 1245 n.5.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 26 of 31
state specific terms and conditions (e.g. specific hourly rates or contingency fee
arrangements) that are being approved pursuant to the first sentence of section 328(a),
then the terms and conditions are merely those that apply in the absence of specific
agreement.’”50 The Ninth Circuit holds that “unless a professional’s retention application
unambiguously specifies that it seeks approval under § 328, it is subject to review under
§ 330.”51 Most recently, the Sixth Circuit found these formulations too constrictive and
adopted the following standard:
We hold that whether a court “pre-approves” a fee
arrangement under § 328 should be judged by the totality of
the circumstances, looking at both the application and the
bankruptcy court’s order. Factors in the determination may
include whether the debtor’s motion for appointment
specifically requested fee pre-approval, whether the court’s
order assessed the reasonableness of the fee, and whether
either the order or the motion expressly invoked § 328.52
This Court likewise prefers the totality of the circumstances standard. Under this
standard, the bright-line criteria of the Third and Ninth Circuits are factors to be
considered, but are not determinative. The basic question is whether the Court when
approving the employment also intended to approve the proposed terms and conditions,
and to displace the § 330 reasonableness standard which would otherwise apply. The
totality of the circumstances, including the application, the order, and the services to be
50 Zolfo, Cooper & Co. v. Sunbeam-Oster Co., Inc.. 50 F.3d 253, 261-62 (3rd Cir. 1995) (quoting
from and agreeing with In re C&P Auto Transport, Inc., 94 B.R. 682, 685 n. 4 (Bankr. E.D. Cal. 1988)).
51 In re Circle K Corp., 279 F.3d 669, 671 (9th Cir. 2002).
52 Nischwitz v. Miskovic (In re Airspect Air, Inc.), 385 F.3d 915, 922 (6th Cir. 2004).
Case 11-10135 Doc# 303 Filed 12/06/13 Page 27 of 31
provided, are relevant.
In this case, neither the application nor the order makes explicit reference to § 328.
But the Trustee’s Application to Employ BFC states that “[a]s property manager, Fair will
receive management fees as set out in ¶ 12 in the attached Commercial Property
Management Agreement.”53 The Employment Order states, “As property manager, Fair
will receive management fees as set out in ¶ 12 in the Commercial Property Management
Agreement attached to the Application to Employ filed on March 31, 2011.”54 By
referencing the BFC-Morris Management Agreement, the Employment Order states the
terms and conditions of the employment. The professional being hired is a property
manager, a category of professionals for whom the customary terms of compensation do
not easily mesh with the standards of reasonable compensation under § 330. The Court
finds that the Employment Order approving the employment of BFC as property manager
establishes a pre-approved fee arrangement within the meaning § 328.
For the period of time after June 9, 2011, the Court therefore allows BFC fees and
expenses in accord with the BFC-Morris Management Agreement. The management fees
requested for the three properties for the period from June 9, 2011, through February 28,
2013, based upon paragraph 12 of the BFC-Morris Management Agreement, are
comprised of the following elements: Management fees of $147,000 (at the rate of
$7,000 per month for all the properties); expenses fee of $23,769.04 (10% of
53 Dkt. 46.
54 Dkt. 79.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 28 of 31
improvement expenses); administrative expenses of $7,215.75 (50% of tenant
administrative charges); and lease extension fees of $82,883 (one month’s rent on lease
renewals).55 There is no dispute regarding the computation of these items.
Although the Trustee argues that the fees under the BFC-Morris Management
Agreement are excessive, he provides no facts and no argument evidencing that the such
terms and conditions have proven to have been improvident in light of developments not
capable of being anticipated at the time he negotiated the terms of the agreement with
BFC. The Court therefore allows BFC management fees of $260,867.79 for the period
from June 9, 2011, through February 28, 2013, as pre-approved fees under § 328.
BFC also requests the allowance of expenses for the same period in the amount of
$547,017.62 for the three properties.56 The BFC-Morris Management Agreement
provides that BFC may pay from collected rents and other charges “expenses to operate
the Property, including but not limited to, maintenance, taxes, insurance, utilities, repairs,
security, management fees, leasing fees, and expenses authorized under this agreement.”57
The Court holds that the expense allowance requested is granted, with the exception of
$2,950.00 for an environmental inspection of Villa 26 Apartments, which is not an
expense related to the management of the property. For the same reasons as stated above
55 Dkt. 232-1 at 4. The request also includes $5,121.25 for “old security deposits refunded.” The
Court has not awarded any fees for this item, since it is not included in paragraph 12 of the BFC-Morris
56 Dkt. 232-1 at 3.
57 Exh. 31 at 2.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 29 of 31
with respect to the period before the Employment Order, the Court rejects the Trustee’s
objection to the charges for the on-site manager ($62,820), answering service ($6,297.49),
bank service charges ($1,880.32), office supplies ($2,471.92), postage and delivery ($53),
and telephone ($3,299.41).
Therefore for the period from June 9, 2011, through February 28, 2013, the Court
rules that BFC is allowed management fees of $260,867.79 and expenses of $544,067.62.
The Court allows the following fees and expenses for BFC’s services as a
prepetition custodian, a superseded custodian, and a professional person employed
pursuant to Court order: for the period from January 1, 2011, to June 8, 2011,
management fees of $22,000 and expense reimbursement of $104,027.69; and for the
period from June 9, 2011, through February 28, 2013, management fees of $260,867.79
and expense reimbursement of $544,067.62. Such fees and expenses are entitled to
administrative expense priority under § 503(b)(2) and (3)(E). Given the Court’s prior
ruling that BFC is entitled to $289,727.50 for the sales commission and expenses for the
sale of Villa 26 Apartments,58 this ruling on the amount of management fees and expenses
owed to BFC, and the accountings of BFC that reflect the amount of income from
Debtor’s properties that has been retained by BFC, which the parties now agree are
accurate, the Court believes the parties will be able to agree on the net amount due to
BFC or to the estate, as the case may be.
58 See dkt. 286.
Case 11-10135 Doc# 303 Filed 12/06/13 Page 30 of 31
The foregoing constitutes Findings of Fact and Conclusions of Law under Rules
7052 and 9014(c) of the Federal Rules of Bankruptcy Procedure which make Rule 52(a)
of the Federal Rules of Civil Procedure applicable to this matter.
Judgment is hereby entered allowing Bill Fair & Co. the following compensation
for services as a custodian and as a Court-appointed professional: for the period from
January 1, 2011, to June 8, 2011, management fees of $22,000 and expense
reimbursement of $104,027.69; and for the period from June 9, 2011, through February
28, 2013, management fees of $260,867.79 and expense reimbursement of $544,067.62.
Such fees and expenses are entitled to administrative expense priority under § 503(b)(2)
and (3)(E). The judgment based on this ruling will become effective when it is entered
on the docket for this case, as provided by Federal Rule of Bankruptcy Procedure 9021.
IT IS SO ORDERED.
# # #
Case 11-10135 Doc# 303 Filed 12/06/13 Page 31 of 31
- Category: Judge Somers
- Published on 26 November 2013
- Written by Judge Somers
- Hits: 55
Bokara Rug Company, Inc. v. Hodgson, 13-06004 (Bankr. D. Kan. Nov. 21, 2013) Doc. # 32
SIGNED this 21st day of November, 2013.
Opinion designated for online use, but not print publication
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF KANSAS
BOKARA RUG COMPANY, INC.,
CASE NO. 12-22753
ADV. NO. 13-06004
MEMORANDUM OPINION AND ORDER
GRANTING OBJECTION TO DISCHARGE OF DEBT OWED TO
BOKARA RUG COMPANY, INC.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 1 of 19
In this adversary proceeding, Plaintiff Bokara Rug Company, Inc. (Bokara)
contends that its claim against Debtor should be excepted from discharge under 11 U.S.C.
§ 523(a)(2)(A).1 Trial was held on September 24, 2013. Bokara appeared by Thomas
Ruzicka of Hubbard, Ruzicka, Kreamer & Kincaid, LLC. Debtor appeared in person and
by Jeff Wagoner of Wagoner, Maxcy, Westbrook PC. The parties stipulated to the
admission of all offered exhibits. For the reasons discussed below, the Court sustains the
FINDINGS OF FACT.
Prepetition Debtor Izabel Hodgson, in addition to her employment at Sprint,
conducted business as Izabel Oriental Rugs. She sold primarily to interior designers in
the Kansas City area. From 2001 through at least May 2008, Bokara, a New York
corporation with offices in Secaucus, New Jersey, was Debtor’s primary rug supplier. A
Consignment Agreement dated May 11, 2001, between Debtor d/b/a Izabel Oriental
Rugs, as consignee, and Bokara, as consignor, governed their relationship. Rugs were
shipped to Debtor in consignment lots on a sale or return basis. The rugs remained the
property of Bokara. There was no predetermined period of time in which the consigned
rugs were required to be sold or returned. For all rugs sold, Debtor was to remit to
1 This Court has jurisdiction over the parties and the subject matter pursuant to 28 U.S.C. §§
157(a) and 1334(a) and (b), and the Standing Order of the United States District Court for the District of
Kansas that exercised authority conferred by § 157(a) to refer to the District's bankruptcy judges all
matters under the Bankruptcy Code and all proceedings arising under the Code or arising in or related to a
case under the Code, effective July 10, 1984. Furthermore, this Court may hear and finally adjudicate
this matter because it is a core proceeding pursuant to 28 U.S.C. § 157(b)(2)(H). There is no objection to
venue or jurisdiction over the parties.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 2 of 19
Bokara the invoice price stated on the consignment document. Bokara retained the option
to invoice for all rugs not returned. This occurred sometime, perhaps several years, after
The Consignment Agreement included the following provisions regarding records
and payment for rugs sold:
5. Consignee agrees to keep accurate records showing the
Goods on consignment under this Agreement and the
consigned price, sales price to customers (including consigned
sales) setting forth the names, addresses, quantities purchased
and terms of sale and the consigned goods remaining on hand
with Consignee and any Goods returned for whatsoever
reason to Consignor. Consignee agrees that Consignor or its
authorized representative shall have access to the consigned
Goods and to the records described herein with respect thereto
during the term of this Agreement, for the purpose of
6. Consignee agrees, that within not later than the tenth (10th)
day of the month following each month in which consigned
Goods are sold by Consignee, to provide to Consignor an
accurate detailed account of all sale of consigned Goods
under this Agreement for the prior calendar month in which
sales in fact occur. At such time Consignee shall remit to
Consignor the Invoice Price thereof.
Debtor testified that she kept records of the consignments in her book (which was not
produced or consulted at trial), but she was unable to identify the Bokara rugs in her
possession. In response to questions involving such facts, she stated that Bokara should
have the required information. Also, Debtor testified that she sent money to Bokara when
it was available, not that she sent money within 10 days following the month of a sale, as
Case 13-06004 Doc# 32 Filed 11/21/13 Page 3 of 19
required by the Consignment Agreement. While Bokara and Debtor had an ongoing
business relationship, Bokara never attempted to examine the rugs in Debtor’s possession.
The Consignment Agreement required Debtor to insure the consigned rugs. It
7. Consignee shall keep the Goods described herein insured at
no less than the invoiced price against damage, destruction
and loss of an kind and all kind while in the possession, care,
custody or control . . . of Consignee or is customer(s) until
payment to Consignor and shall cause the insurance proceeds
on any loss or losses of such consigned Goods to be paid to
Consignor provided however, Consignor shall be entitled to
receive any insurance proceeds in excess of the Invoice price,
in the same manner that Consignee shall be entitled to retain
any proceeds from sale in excess of that amount. Consignee
shall furnish Consignor with a Certificate of Insurance
(Certificate ) listing Consignor as an insured as its interest
may appear. Such Certificate shall provide that coverage
shall not be canceled without thirty (30 ) days prior written
notice to Consignor.
Debtor and Bokara also entered into a security agreement granting Bokara a security
interest in all rugs or other property shipped to Debtor by Bokara. It provided that
Debtor would “Keep the Collateral insured against loss by fire, theft, and other
casualties” and give immediate written notice to Bokara and the insurers of any loss to the
collateral. Debtor personally guaranteed her obligation to Bokara.
The exhibits reveal that Bokara had problems in collecting amounts owed by
Debtor as early as 2006.2 On October 17, 2008, Bokara sent a notice of delinquent
2 Dkt. 13-4, 32.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 4 of 19
account, and on December 4, 2008, counsel for Bokara sent a letter to Debtor demanding
payment of $129,108.98 for goods sold and delivered.3 Payment was not made, and suit
was filed by Bokara against Debtor and Izabel’s Oriental Rugs in the Supreme Court of
the State of New York, County of New York on or about July 8, 2009, seeking to recover
$107,946.00, the balance remaining after all credits.4
Bokara alleges that Debtor as of October 10, 2012, the date of filing her Chapter 7
case, owed $64,461.27, and Debtor has stipulated to the existence of the claim and the
amount. The forgoing claim reflects the amount stated on the Customer Statement (Open
Document) dated April 12, 2013, which contains invoice and credit entries commencing
on August 31, 2009.5 It reflects charges related to 17 consignment shipments during
2007, the first of which was on April 11, 2007, two shipments in 2008, one on January 22
and one on June 13. As stated above, in October 2008, Bokara made demand on Debtor
for payment of $129,108.98, and suit was filed in July 2009. In September 2009, Debtor
traveled to New Jersey and met with Bokara representatives. They agreed to payment
terms of $5,000 per month, and that Bokara would resume consignment shipments. New
shipments were made on September 25 and September 30, 2009. Bokara also agreed not
3 Debtor’s Statement of Financial Affairs and schedules indicate a judgment against her by
Bokara in the State of New Jersey, Case No. HUD-L-6041-11 for $64,461.27, but there was no trial
evidence in this regard.
4 Exh. E. The trial exhibits and testimony were generally limited to transactions stated on the
Customer Statement dated April 12, 2013 stating a balance due of $64,461.27 and did not explain the
computation or origin of the amount sought in the New York litigation.
5 Exh. 4.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 5 of 19
to pursue the litigation. Debtor failed to make timely payments. Bokara terminated
consignment shipments, and all future sales to Debtor were made on a COD basis.
Between January 14, 2010 and June 28, 2011, the Customer Statement reflects five cash
payments by Debtor totaling $22,000, which Bokara credited to the outstanding balance
which was the subject of the agreement to pay $5,000 per month. The Customer
Statement reflects credit for seven rug returns - six for consignments before June 2008
and one for the June 13, 2008 consignment. Debtor testified that she thought she sold all
of the rugs from the last three consignments, but Bokara’s records show an outstanding
balance owed of $24,406.43 for these shipments, which amount is included in the
Debtor operated her rug business out of her home, storing rugs in her basement
and garage. On May 2, 2008, Debtor’s home was destroyed by fire.6 The balance owed
on consignments prior to the May 2, 2008 fire is $40,054.847 . According to Debtor, the
fire, smoke, and water damaged 90% of her inventory, which was not salvageable. But
Debtor offered no records as to which of the Bokara rugs she had in her possession at the
time of the fire or the extent of damage to them. Debtor testified that rugs in the garage
were destroyed and those in the basement were in several inches of water; that any rugs
shipped by Bokara before the fire which had not been sold or placed by her on
6 The origin of the fire was electrical.
7 This amount is the difference between $64,461.27, the stipulated total claim, and $24,406.43,
the amount owed on the post-fire consignment shipments.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 6 of 19
consignment to third parties were destroyed.8 Debtor denied having sold any rugs which
were in the house at the time of the fire. She stated that rugs were placed in dumpsters
and some were given to workmen. The six rugs which were returned to Bokara after the
fire had been placed by Debtor on consignment with decorators and furniture stores, so
they were not in the house at the time of the fire.
The rugs at Debtor’s home at the time of the fire were not insured.9 When asked
by Bokara’s counsel, Debtor acknowledged that the Consignment Agreement and the
Security Agreement required the purchase of insurance and that she never had purchased
the required insurance. Debtor testified that she did not remember “the insure part” of the
Consignment Agreement and stated, “I guess I signed it. But I never thought I will have a
fire to lose it completely, so I just - - okay.”10 Bokara’s counsel responded, “So if you
never thought that you would ever have a fire, was there ever any intention on you getting
an insurance policy?”11 Debtor answered, “I guess not.”12 Later in her testimony, Debtor
answered “right” to the statement that “you didn’t really have any intention of ever
entering into those insurance agreements as you represented to Bokara.”13 On cross
8 But Debtor also testified that presently there were three damaged Bokara rugs in her garage.
9 Debtor’s homeowner’s insurance had a $200 limit on business property.
10 Tr. 9, 6-8.
11 Tr. 9, 9-11.
12 Tr. 9, 12.
13 Tr. 11, 16-19.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 7 of 19
examination by her own counsel, Debtor testified that she “wanted to get insurance but it
was too expensive,”14 that she was not “lying” to Bokara.15
Mr. Jan Soleimani, the president and owner of Bokara, testified that Bokara did not
know until very “recently” that Debtor operated her business out of her home and that
Bokara rugs were destroyed or damaged by fire on May 2, 2008. Debtor’s testimony to
the contrary is not credible. If Debtor told Bokara of the fire, as she testified, the message
conveyed was that she lost her home, not the Bokara rugs. All of Bokara’s actions to
collect its debt are consistent with its lack of knowledge of where Debtor stored her
inventory and particularly with the destruction of that inventory by fire. In 2009 an
employee of Bokara was in the Kansas City area and attempted to make arrangement to
inspect Debtor’s inventory, but was unsuccessful. Bokara’s lack of notice of the fire and
the inventory destruction had significant consequences. Bokara was deprived of the
opportunity to inspect the rugs and determine salvageability. Mr. Soleimani testified that
Bokara would not have made the consignment shipment to Debtor on June 13, 2008,
about a month after the fire, or made the two shipments in September 2009 after Debtor’s
visit to New Jersey, which shipments had a total invoice price of $24,406.43, if it had
known that the previously shipped inventory had been destroyed, since the damage to the
inventory evidenced Debtor’s lack of ability to pay her debt to Bokara and remain in
14 Tr. 50, 20-22.
15 Tr. 51, 1.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 8 of 19
business. Also, Mr. Soleimani testified that lack of notice of the loss deprived him of the
opportunity to make a claim on Bokara’s $10 million insurance policy.
Bokara is not convinced that all of the Bokara rugs were irreparably damaged in
the fire. Mr. Soleimani, who does insurance claim adjusting, testified that rugs sustaining
water damage could be salvaged. After the fire, ServiceMaster extracted water from 656
square feet of rugs, which Debtor testified were some of the rugs that had been in the
basement. ServiceMaster removed the rugs from the premises. According to Debtor, she
later picked up these rugs and put them in a storage unit until she moved into her house.
Debtor did not testify how many rugs were treated by ServiceMaster or their ultimate
Bokara also provided bank statements and income tax returns showing that after
the May 2, 2008 fire, Debtor’s rug business had revenues of $150,644.29 in 2008,
$217,725.28 in 2009, $120,123.13 in 2010, $62,818.48 in 2011, $34,569.00 in 2012, and
$7,581 through May 2013, for at total of $593,461.18.16 Debtor did not dispute the
revenue figures, but she had no explanation of the source of that income. Debtor testified
that she sold very few rugs out of her home after the fire because she had no inventory.
The only source of post-fire rugs she identified were those sent to her by Bokara, which
were three consignments with invoice values totaling $24,406.43 and COD shipments of
16 Exh. 9 & 10.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 9 of 19
no more than $30,000 to $40,000. She denied that any Bokara rugs stored at her home on
May 2, 2008 were sold.
I. Construction of Section 523(a)(2)(A) of the Bankruptcy Code.
Section 523(a)(2)(A) of the Bankruptcy Code17 provides:
(a) A discharge under section 727 . . . of this title does not
discharge an individual debtor from any debt .
(2) for money, property, services, or an extension, renewal, or
refinancing of credit to the extent obtained by (
A) false pretenses, a false representation, or actual
fraud, other than a statement respecting the debtor’s or an
insider’s financial condition;
To establish that a claim is excepted from discharge for false representation under this
subsection, the creditor must prove the following by a preponderance of the evidence:
“The debtor made a false representation; the debtor made the representation with the
intent to deceive the creditor; the creditor relied on the representation; the creditor’s
reliance was [justifiable]; and the debtor’s representation caused the creditor to sustain a
loss.”18 Discharge may also be denied based upon false pretenses (“implied
misrepresentations intended to create and foster a false impression”19) or actual fraud
(“when a debtor intentionally engages in a scheme to deprive or cheat another of property
17 11 U.S.C. § 523(a)(2)(A). Future references to Title 11 in the text shall be to the section only.
18 Fowler Brothers v. Young (In re Young), 91 F.3d 1367, 1373 (10th Cir. 1996).
19 Bank of Cordell v. Sturgeon (In re Sturgeon), 496 B.R. 215, 223 (10th Cir. BAP 2013).
Case 13-06004 Doc# 32 Filed 11/21/13 Page 10 of 19
or a legal right”20). The Tenth Circuit has held that if there is a duty to disclose, failure to
do so constitutes a “false misrepresentation” or “false pretenses” under § 523(a)(2)(A).21
The Tenth Circuit BAP, further refining the concepts, has observed that “[u]nlike false
representations, which are express misrepresentations, false pretenses include conduct
and material omissions.”22 A debtor’s intent to deceive the creditor when making the
false representations need not be proven directly; it may be inferred from the totality of
the circumstances or from a knowingly false statement.23 The creditor seeking to except
its claim from discharge has the burden to prove its case by a preponderance of the
II. Plaintiff’s theories.
In its closing argument, Plaintiff presented three alternative theories of fraud or
misrepresentation for purposes of § 523(a)(2)(A). The first is premised upon Debtor’s
contention that all rugs consigned to Debtor by Bokara before the May 2, 2008 fire and in
her possession on the date of the fire, with the exception of those rugs re-consigned by
Debtor to local businesses and later returned to Bokara, were destroyed in the fire.
Bokara alleges that Debtor’s failure to insure the consigned rugs as required in the
21 In re Young, 91 F.3d at 1374.
22 In re Sturgeon, 496 B.R. at 223.
23 In re Young, 91 F.3d at 1375.
24 Id., 91 F.3d at 1373.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 11 of 19
Consignment Agreement and the security agreement was a false representation or a false
pretense which caused its loss. The second theory is that fewer than all of the Bokara
rugs consigned to Debtor before the fire and in her possession on the date of the fire were
destroyed in the fire and that Debtor fraudulently sold the salvageable rugs and failed to
account to Bokara for the sale proceeds. The third theory is that Bokara’s claim is
nondischargeable because Debtor fraudulently concealed the fact that Bokara rugs were
damaged and destroyed in the fire and the concealment caused loss to Bokara. The Court
will examine these alternatives and the related additional elements required for exception
III. Bokara’s claim is not excepted from discharge based on the theory that
Debtor’s failure to insure the consigned rugs was a false representation or false
The Court finds Bokara’s first theory of recovery, fraudulent failure to purchase
insurance, insufficient for denial of discharge. The Consignment Agreement and the
Security Agreement both required Debtor to insure the consigned rugs. The rugs were
not insured. As stated in the Findings of Fact, Debtor testified that she didn’t remember
the “insure part” of the Consignment Agreement, but “I guess I signed it. But I never
thought I will have a fire to lose it completely, so I just – okay.” Bokara’s counsel
responded, “so if you never thought that you would ever have a fire, was there ever any
intention on you getting an insurance policy?” Debtor answered, “I guess not.”25 Later
25 Tr. 9, 4-12.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 12 of 19
Debtor answered “right” to the statement by Bokara’s counsel that “you didn’t really have
any intention of ever entering into those insurance agreements as you represented to
Bokara.”26 On cross examination by her own counsel, Debtor testified that she “wanted
to get insurance but it was too expensive,” but she was not “lying” to Bokara.27 The
Court finds Debtor’s response to questioning by Bokara’s counsel creditable and not
rebutted by her testimony on cross-examination by her own counsel.
The Court finds that Debtor’s failure to obtain insurance was a false pretense for
purposes of § 523 (a)(2)(A). It was conduct that falsely led Bokara to believe that the
rugs were insured. Debtor’s testimony also establishes that the false pretense was
intentional. Debtor knew when she entered into the Consignment Agreement that she did
not have and would not purchase the required insurance but nevertheless accepted rugs on
consignment. Bokara when shipping rugs to Debtor on consignment relied upon the false
But Bokara has not proven that its reliance was reasonable. The Consignment
Agreement provided Debtor would furnish Bokara with a Certificate of Insurance, which
she did not do. Bokara never requested the certificate but merely assumed the insurance
had been obtained. In general, Bokara and Debtor did not abide by the operational
provisions of the Consignment Agreement. It appears that Debtor did not maintain the
records required or promptly forward the price of a rug after sale to a customer. It was
26 Tr. 11, l6-19.
27 Tr. 50, 2l-22 and Tr. 51, 1.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 13 of 19
not reasonable for Bokara to assume Debtor purchased insurance as required by the
documentation when it did not request the certificate of insurance or generally require
strict adherence to the operational terms of the Consignment Agreement.
IV. Bokara’s claim is not excepted from discharge based upon the theory that
rugs consigned to Debtor before the fire were sold by her after the fire.
The Court finds Bokara’s second theory of recovery, fraudulent sale of consigned
rugs after the fire, insufficient for denial of discharge. Bokara has not sustained its
burden of proof to establish that Bokara rugs consigned before the fire were sold by
Debtor after the fire. Bokara did establish that Debtor sold approximately $600,000 of
rugs during the four and a half years after the fire, when she acquired far less than
$100,000 of rugs from Bokara, her largest supplier. Debtor provided no explanation of
the source of the inventory, other than to testify that Bokara was not her only supplier.
Debtor vehemently denied that any Bokara rugs were salvaged. She testified that she
rejected the offer of ServiceMaster to restore the water damaged rugs because of cost and
lack of guarantee that the restoration would be successful. Nevertheless, the inference
that rugs shipped by Bokara before the fire were sold is strong.
But assuming, without deciding, that the inference of sales outweighs Debtor’s
denial, there is no evidence as to how many rugs were sold and for what price. This
failure destroys Bokara’s ability to sustain its burden of proof as the amount of harm
caused by the allegedly fraudulent sales.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 14 of 19
In addition, the Court has difficulty in identifying a misrepresentation or false
pretense on which Bokara relied under this theory for denial of discharge. It appears to
the Court that this theory of recovery is really a claim of failure to either return consigned
rugs or remit proceeds from the sale of consigned goods. It is the theory which Bokara
alleged in the lawsuit filed in New York and the claim about which it negotiated with
Debtor in September 2009. It was Bokara’s theory of recovery before it knew of the fire
at Debtor’s home where the consigned rugs were sold. It is not grounds for denial of
V. Bokara’s claim against Debtor is nondischargeable under § 523(a)(2)(A)
based upon her concealment of the fire and resulting damage to the consigned rugs.
The Court finds Bokara’s third theory of recovery, fraudulent concealment of the
fire, sufficient for denial of discharge. Although this theory was not included in the
pretrial order, as were the first and second theories discussed above, Debtor did not object
when during closing arguments Bokara added this third theory of recovery.
At the time of the May 2, 2008 fire, Debtor was in possession of Bokara’s property
under the terms of the Consignment Agreement. That agreement established a
consignment arrangement which involved the delivery of rugs to Debtor for the purpose
of finding a buyer, whereby title to or ownership of the consigned rugs moved or passed
directly from Bokara to the buyer, without ever moving to or passing through Debtor.28
Under the common law, Debtor had a duty to promptly inform Bokara when Bokara’s
28 32 Am.Jur.2d Factors and Commission Merchants § 1, available on Westlaw at 32 Am.Jur.2d
Factors and Commission Merchants § 1 (data base updated August 2013).
Case 13-06004 Doc# 32 Filed 11/21/13 Page 15 of 19
property was damaged by the fire. It is the duty of a consignee to give the consignor “all
necessary and useful information relating to the consignment.”29 Stated more precisely,
“[i]t is the duty of the [consignee] to inform the [consignor] of all facts or circumstances,
relating to the consignment, which may make it necessary for the consignor to take
measures for the protection of his or her interests.”30 The security agreement required
Debtor to give notice of damage to the collateral.
The Tenth Circuit held in Young that when a debtor has a duty to disclose
information to its creditor, failure to disclose the information is a false representation or a
false pretense for purposes of § 523(a)(2)(A). In that case, the debtor was a lawyer who
entered into a business relationship with his client, resulting in a promissory note which
the client sought to have determined nondischargeable. With respect to the element of §
523(a)(2)(A) that the debtor made a false representation, the Circuit held that there were
two “false representations or false pretenses - (1) debtor’s failure to make disclosures
required of attorneys entering into business transactions with clients by the applicable
rules of professional conduct; and (2) failure to disclose potential conflicts of interest31 .
In this case, Debtor had a duty to disclose to Bokara the damage by fire to the consigned
29 Id. at § 10; see Holzer v. Tonka Bay Yachts and Marine Sales, Inc., 386 N.W.2d 285, 287-88
(Minn. App. 1986) (“A consignee, also known as a factor, is bound to exercise the utmost good faith and
loyalty to his principal, the consignor. A consignee must therefore provide his principal with all
necessary and useful information relating to the consignment and has a duty to account to the consignor
within a reasonable time or upon a reasonable demand.”).
30 35 C.J.S. Factors § 34, available on Westlaw at 35 C.J.S. Factors § 34 (data base updated
31 In re Young, 91 F.3d at 1374-1375.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 16 of 19
rugs. At most she disclosed a fire in her home, in a manner which did not convey to
Bokara that there was damage to Bokara’s property. Debtor’s failure to promptly disclose
the fire damage was a false pretense under § 523(a)(2)(A).
The circumstantial evidence convinces the Court that Debtor’s failure to disclose
was made with intent to deceive Bokara. The failure lasted for over four years - from the
date of the fire in May 2008 to very recently, which the Court understands to be during or
shortly before the commencement of Debtor’s bankruptcy proceedings. Notice was not
given immediately after the fire. Even in September 2009, after suit had been filed
against Debtor in the New York courts for payment for the consigned goods which had
not been returned, Bokara was not informed of the fire or damage to the inventory during
the negotiations to suspend the litigation and resume consignment shipments. Yet,
according to Debtor’s testimony, the fire was the reason rugs were not returned or sold; in
other words, the reason for the outstanding balance due. It would stretch common sense
to find that the continued concealment of the event central to Debtor’s inability to honor
her commitments to Bokara was anything other than intentional.
There is no doubt that Bokara relied upon the absence of knowledge of the fire. It
did not make a claim under its own $10 million insurance policy. It made a consignment
shipment to Debtor on June 13, 2008, less than one month after the fire. It negotiated a
plan for payment of the balance for the unsold consignment rugs in September 2009 and
made two small consignment shipments thereafter. Mr. Soleimani testified that Bokara
Case 13-06004 Doc# 32 Filed 11/21/13 Page 17 of 19
would not have made the shipments or agreed to the payment plan if Bokara had known
that Debtor did not have the previously shipped inventory available for sale.
Bokara’s reliance was reasonable. A reasonable consignor would assume that a
consignee would inform it of damage to consigned goods. Bokara did not know that
Debtor operated her business out of her home, so it was reasonable for Bokara to assume
that its property was in tact, even with notice to Bokara that Debtor’s residence was
Finally, the concealment of fire caused Bokara’s loss of $64,461.27.32 Because of
the concealment, Bokara was deprived of the opportunity to examine the damage soon
after the fire, to identify the Bokara rugs that were involved, to determine if the rugs were
salvageable, and to present a claim to Bokara’s insurance carrier. Because of the
concealment, Bokara made consignment shipments to Debtor on June 13, 2008,
September 25, 2009, and September 30, 2009. The balance due for these shipments is
$24,406.42, which amount is included in the $64,461.27 claim. Because of the
concealment, Bokara negotiated a payment plan with Debtor (which she did not honor)
and delayed pursuing its litigation to collect the amounts owed as of May 2008,
$40,054.84 of which is included in Bokara’s $64,461.27 claim.
32 As previously stated, Debtor stipulated that Bokara’s cliam is $64,461.27.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 18 of 19
The Court therefore determines that Bokara’s claim against Debtor for $64,461.27
should be excepted from discharge under § 523(a)(2)(A) based upon Debtor’s deceptive
concealment for approximately four and a half years of the fire damage to Bokara’s rugs
which were consigned to Debtor. The Court finds that Bokara’s alternative theories of
recovery, based upon Debtor’s failure to insure the consigned rugs and Debtor’s alleged
sale of rug inventory which she claims was damaged in the fire, are denied. Bokara did
not meet its burden of proof to establish the elements for exception from discharge under
§ 523(a)(2)(A) with these theories.
The foregoing constitute Findings of Fact and Conclusions of Law under Rule
7052 of the Federal Rules of Bankruptcy Procedure which makes Rule 52(a) of the
Federal Rules of Civil Procedure applicable to this proceeding. A judgment based upon
this ruling will be entered on a separate document as required by Federal Rule of
Bankruptcy Procedure 7058 which makes Federal Rule of Civil Procedure 58 applicable
to this proceeding.
IT IS SO ORDERED.
Case 13-06004 Doc# 32 Filed 11/21/13 Page 19 of 19
- Category: Judge Somers
- Published on 04 October 2013
- Written by Judge Somers
- Hits: 168
In Re Schupbach Investments, LLC, 11-11425 (Bankr. D. Kan. Oct. 3, 2013) Doc. # 498
SIGNED this 3rd day of October, 2013.
For on-line use but not print publication
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF KANSAS
SCHUPBACH INVESTMENTS, CASE NO. 11-11425
MEMORANDUM OPINION AND JUDGMENT
ALLOWING DEBTOR’S FOURTH, FIFTH, SIXTH, AND SEVENTH
APPLICATIONS FOR ALLOWANCE OF ATTORNEY FEES AND EXPENSES,
AND GRANTING DEBTOR’S APPLICATION FOR FINAL ALLOWANCE OF
FEES AND EXPENSES AS ADMINISTRATIVE EXPENSES
The matters before the Court are:
(1) the disputed portion (fees of $3,000) of Debtor’s Fourth Application for
Allowance of Attorney Fees and Expenses;1
1 Dkt. 344.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 1 of 32
(2) the disputed portion (fees of $1,180) of Debtor’s Fifth Application for
Allowance of Attorney Fees and Expenses;2
(3) Debtor’s Sixth Application for Allowance of Attorney Fees and Expenses3
requesting allowance of fees of $3,560 (17.8 hours at $200 per hour) and expenses
of $95.75 for the time period beginning December 6, 2012, through January 12,
2013, as an administrative expense;
(4) Debtor’s Seventh and Final Application for Allowance of Attorney Fees and
Expenses4 requesting allowance of fees of $2,760 (13.8 hours at $200 per hour)
and expenses of $119.25 for the time period beginning January 14, 2013, through
February 15, 2013, as an administrative expense; and
(5) the Supplemental Seventh and Final Application by Debtor for Allowance of
Attorney Fees and Expenses to its Counsel,5 in which Debtor requests attorney fees
and expenses for defending the fourth, fifth, sixth, seventh, and final fee
applications, and that all Debtor’s allowed attorney fees and expenses be allowed
as administrative expenses on a final basis.6
2 Dkt. 376.
3 Dkt. 397.
4 Dkt. 422.
5 Dkt. 424.
6 This Court has jurisdiction pursuant to 28 U.S.C. §§ 157(a) and 1334(a) and (b) and the
Standing Order of the United States District Court for the District of Kansas that exercised authority
conferred by § 157(a) to refer to the District’s bankruptcy judges all matters under the Bankruptcy Code
and all proceedings arising under the Code or arising in or related to a case under the Code, effective July
Case 11-11425 Doc# 498 Filed 10/03/13 Page 2 of 32
Creditor Rose Hill Bank objected to the disputed portion of the fees requested in the
fourth application. Rose Hill objected to the disputed portion of the fifth application, and
Carl B. Davis, the Liquidating Trustee, also objected in part to the fifth application.
Creditors Rose Hill, Bank of Commerce & Trust Co., and Central National Bank objected
to the sixth application. Creditors Rose Hill, Bank of Commerce, Central National, and
Community Bank of Wichita, Inc., and the Liquidating Trustee objected to the seventh
application and its supplement. An evidentiary hearing was held on these applications on
March 14, 2013. After due consideration, the Court is now ready to rule, and for the
reasons stated below, grants the fees and expenses requested as administrative expenses
of the Chapter 11 bankruptcy estate.
I. History of Fee Applications and Relevant Proceedings in the Chapter 11 Case.
Debtor’s counsel, Mark J. Lazzo, began work on this case on March 17, 2011. In
April 2011, Debtor paid him a fee retainer of $10,000. On May 12, 2011, five days
before filing the Chapter 11 petition, Debtor’s counsel prepared his initial billing to
Debtor for fees incurred between March 17 and May 11, 2011, of $9,760. Counsel
applied $9,760 from the retainer in payment of this bill. Mr. Lazzo was appointed
counsel for the debtor-in-possession by an order entered on November 15, 2011.
Prior to the March 14, 2013 hearing on the matters now before the Court, five
orders had been entered allowing interim fees and expenses in the amount of $88,358.54
10, 1984. A debtor’s motion for allowance of fees and expenses is a core proceeding which this Court
may hear and determine as provided in 28 U.S.C. § 157(b)(2)(A). There is no objection to venue or
jurisdiction over the parties.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 3 of 32
in this case:
November 15, 2011 (Dkt. 234)
January 17, 2012 (Dkt. 273)
August 20, 2012 (Dkt. 307)
November 29, 2012 (Dkt. 362)
January 14, 2013 (Dkt. 399)
4th app in part
5th app in part
The last two orders granted the fourth and fifth applications except for those entries to
which there were objections.
The applications for allowance of fees and expenses before the Court at the time of
the March 14, 2013 hearing were:
Dkt. 344 $ 3,000.00 4th app in part
Dkt. 376 $ 1,180.00 5th app in part
Dkt. 397 $ 3,655.75 app Dec. 6, 2012 to Jan. 12, 2013
Dkt. 422 $ 2,879.75 app Jan. 14, 2012 to Feb. 15, 2013
Dkt. 424 $ 3,980.00 supp 7th app Feb. 16, 2013 to March 11, 2013
$ 600.00 supp 7th app March 14, 2013 hearing
The last of these pleadings requests, in addition to an award for fees in defending against
the objections to the pending applications, final approval of all the fees and expenses
awarded to Debtor’s counsel in the case.
Debtor Schupbach Investments, LLC, was engaged in the purchase, renovation,
rental, and sale of residential real properties in the low income areas of Wichita, Kansas.
Jonathan Schupbach was a 50 percent owner, and was the manager of the company. His
wife, Amy Schupbach, owned the other 50 percent and was active in the business.
Schupbach Investments filed this case under Chapter 11 on May 16, 2011. Jonathan
Case 11-11425 Doc# 498 Filed 10/03/13 Page 4 of 32
Schupbach and his wife filed for relief under Chapter 13 on July 16, 2011, but the case
was later converted to Chapter 11.7 A different attorney and his law firm were retained as
counsel for the Schupbachs in their personal case, and Mr. Lazzo continued to represent
the limited liability company.
Debtors’ Schedule A lists 165 parcels of real property, valued at $4,616,900,
mortgaged to 11 different creditors. Debtor sought to consolidate this case with the
Schupbachs’ personal bankruptcy, and submitted a proposed Chapter 11 plan premised
upon consolidation. A group of secured creditors filed a competing liquidating Chapter
By an order dated November 21, 2012, the Court confirmed the secured creditors’
liquidating plan, which transferred the collateral securing their claims to the respective
creditors and all other assets to a liquidating trust. The plan provides that all allowed
administrative expenses of the case shall paid by the trust, with the secured creditors
making contributions to pay such claims if, as anticipated, the assets of the trust are
insufficient to satisfy all administrative claims. Carl B. Davis was appointed as the
trustee of the liquidating trust.
II. Applicable Standard for Allowance of Fees and Expenses.
The award of professional fees to attorneys for a debtor in a bankruptcy case is
governed by § 330. Under § 330(a)(1), “bankruptcy courts have wide discretion in
7 Case no. 11-13633.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 5 of 32
awarding compensation to attorneys, trustees, and professionals so long as it is
reasonable.”8 The Tenth Circuit has described the § 330 statutory standard as follows:
The statute . . . provides, that “[i]n determining the amount of
reasonable compensation to be awarded, the court shall
consider the nature, the extent, and the value of such
services. . . .” In order to do this, the court must take
into account all relevant factors, including —
(A) the time spent on such services; (B) the
rates charged for such services; (C) whether the
services were necessary to the administration of,
or beneficial at the time at which the service
was rendered toward the completion of, a case
under this title; (D) whether the services were
performed within a reasonable amount of time
commensurate with the complexity, importance,
and nature of the problem, issue, or task
addressed; and (E) whether the compensation is
reasonable based on the customary
compensation charged by comparably skilled
practitioners in cases other than cases under this
Section 330(a)(4) further provides that, except in circumstances not applicable here,
compensation shall not be allowed for “(i) unnecessary duplication of services; or (ii)
8 In re Commercial Financial Services, Inc., 427 F.3d 804, 810 (10th Cir. 2005) (citing Connolly
v. Harris Trust Co. (In re Miniscribe Corp.), 309 F.3d 1234, 1244 (10th Cir. 2002)).
9 Id. (quoting 11 U.S.C. § 330(a)(3)). About the time the Tenth Circuit issued its decision, a new
amendment to § 330(a)(3) took effect, which redesignated subsection (E) as subsection (F) and added a
new subsection (E), directing a court reviewing a professional person’s fee application to consider
“whether the person is board certified or otherwise has demonstrated skill and experience in the
bankruptcy field.” Bankruptcy Abuse Prevention and Consumer Protection Act of 2005, Pub. L. 109-8,
119 Stat. 23, § 415 (effective Oct. 17, 2005). The Court’s decision in this case takes this amendment into
account. After this opinion had been drafted but not yet finalized, the Tenth Circuit issued a decision
concerning an award of attorney fees in a bankruptcy case, In re Market Center East Retail Property, Inc.,
___ F.3d ___, 2013 WL 5273135 (Sept. 19, 2013), which the Court has reviewed. The Court concludes it
does not require any change in the analysis of this case.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 6 of 32
services that were not — (I) reasonably likely to benefit the debtor’s estate; or
(II) necessary to the administration of the case.”
The Court has carefully reviewed each of the billing statements filed in support of
each request for allowance. In general, and without prejudging the objections addressed
below, the Court finds the requests to be appropriate and the fees to be reasonable. The
billing statements are well constructed and have appropriate detail. Mr. Lazzo is an
experienced bankruptcy practitioner, and his hourly rate is reasonable. The time spent on
each item was commensurate with the complexity, the importance, and the nature of the
matters addressed. There is no duplication of services. The total amount of time devoted
to the case is reasonable.
III. Objections that Fees and Expenses for Certain Services Should Be Disallowed
as a Matter of Law Are Rejected.
In addition to complaining about specific time entries, the objecting creditors
assert that the attorney time for certain services requested in more than one application
should not be allowed as a matter of law. The Court will discuss these objections before
turning to the fact-specific objections to particular time entries.
A. The confirmation of the Creditors’ Plan of Liquidation dated July 24,
2012, does not bar the allowance of attorney fees and expenses incurred by
Debtor for post-confirmation services.
After the March 14, 2013 hearing, following which the issue of allowance of fees
was taken under advisement, Rose Hill filed a supplemental objection to the allowance of
Case 11-11425 Doc# 498 Filed 10/03/13 Page 7 of 32
fees to Debtor’s attorney.10 It argues that as a matter of law, an award of fees and
expenses as an administrative claim is barred for all services after November 21, 2012,
the date of confirmation of the creditors’ liquidating plan. Most of the entries in the fifth
application and all of the entries in the sixth and seventh applications, as well as the fees
for defending the fee applications, were for post-confirmation services.
Rose Hill relies upon Lamie, 11 where the United States Supreme Court held that
§ 330(a) does not allow a Chapter 7 debtor’s attorney to be compensated from the
Chapter 7 estate unless employment of the attorney by the trustee is approved by the court
under § 327. In Lamie, the case was initially filed under Chapter 11, the employment of
counsel for the debtor-in-possession under § 327 was approved by the court, and fees
were allowed under § 330 for services provided while the debtor was the debtor-inpossession.
However, counsel for the debtor-in-possession continued to provide services
after the conversion to Chapter 7 and sought allowance of such fees from the Chapter 7
estate. The Supreme Court held that the Bankruptcy Code does not allow a Chapter 7
debtor’s counsel to be compensated from the estate for legal fees incurred during the
Chapter 11 phase of the case and after conversion. The Court reasoned that the granting
of the motion to convert the Chapter 11 case to a proceeding under Chapter 7 terminated
the debtor’s “status as a debtor-in-possession and so terminated [counsel’s] services under
10 Dkt. 451.
11 Lamie v. United States Trustee, 540 U.S. 526 (2004).
Case 11-11425 Doc# 498 Filed 10/03/13 Page 8 of 32
§ 327 as an attorney for the debtor-in-possession.”12 It construed the Code to provide that
a debtor’s attorney not engaged as provided by § 327 is not included within the class of
persons eligible for compensation under § 330(a)(1).
Rose Hill argues that in this case, the confirmation of the liquidating plan
terminated Debtor’s status as a debtor-in-possession and terminated the attorney’s
services as attorney for the debtor-in-possession, so that as a matter of law, fees for the
post-confirmation period are not entitled to treatment as an administrative expense, or
even an unsecured claim. Although this argument is superficially appealing, closer
scrutiny shows that it should be rejected.
In this case, confirmation of the creditors’ liquidating plan of reorganization did
not terminate Debtor’s status as a debtor-in-possession. Section 1101 defines “debtor in
possession” to mean the “debtor except when a person that has qualified under section
322 of this title is serving as trustee in the case.” For purposes of a Chapter 11 case,
§ 322 addresses the qualification of a person selected under § 1104 for appointment as
trustee to take over the duties of the debtor-in-possession. The confirmed liquidating plan
did not appoint a trustee under § 1104.
The transfer of all or any part of the property of the estate to a liquidating trust is
authorized by § 1123(a)(5)(B) as a means of implementing a plan. Such a trust is an
extra-bankruptcy entity, and the duties and powers of the trustee of the liquidating trust
12 Id., at 532.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 9 of 32
are defined by the trust, not the Code. The trustee of the liquidating trust is not a
replacement for a Chapter 11 trustee. “‘Under the Code, the debtor remains the debtor in
possession unless and until a trustee is appointed by court order under Section 1104.’”13
When the liquidating plan was confirmed and the liquidating trust created, Debtor as the
debtor-in-possession was not relieved of the duties specified in § 1106 that are made
applicable to debtors-in-possession by § 1107(a).
The liquidating trust did not convert this case to one under Chapter 7. The
requests for allowance of fees and expenses seek payment as administrative expenses of
the Chapter 11 case. The liquidating plan provides that all allowed administrative
expenses will be paid by the trust, with the secured parties providing funds if, as
anticipated, the trust assets are insufficient.
Further, as stated in § 1141(a), the effect of confirmation in general is to bind the
parties to the terms of the plan. Debtor and the liquidating trust, an entity organized for
carrying out the plan, are both obligated by § 1142(a) to “carry out the plan and . . . [to]
comply with any orders of the court.” Section 330(a)(3)(C) provides that in determining
the amount of reasonable compensation for professional persons appointed under § 327,
the court should consider “whether the services were necessary to the administration of,
or beneficial at the time at which the service was rendered toward the completion of, a
case under this title.” Assuming but not deciding that the confirmation of the liquidating
13 In re Bresnick, 406 B.R. 582, 585 (Bankr. E.D.N.Y. 2009) (quoting In re Footstar, Inc., 323
B.R. 566, 571 (Bankr. S.D.N.Y. 2005)).
Case 11-11425 Doc# 498 Filed 10/03/13 Page 10 of 32
plan terminated Debtor’s ability as the debtor-in-possession to take actions beneficial to
the estate, the Code nevertheless allows for compensation for the post-confirmation
services of counsel appointed under § 327 that are necessary for the administration of the
The Court finds that fees and expenses may be awarded to Debtor’s counsel for the
time period following confirmation of the liquidating plan.
B. Fees and expenses may be awarded for services in defending the objections
to the requests for allowance.
When opposing the sixth and seventh applications,14 Rose Hill argues that services
in defense of objections to an allowance of fees and expenses are noncompensable. It is
true that “the issue of compensation for time spent defending against an objection to a fee
application . . . is left open by section 330(a)(6),” which was added to the Code in 1994
and provides for compensation for preparation of fee applications.15 Courts therefore
decide the issue of compensation for defense of fee applications by reference to the
general standards for the allowance of compensation as stated in § 330(a). But
application of these standards has not produced uniform results,16 and there appears to be
no decision from the Tenth Circuit Court of Appeals on the question. Fees have been
14 Dkt. 408 at 2; dkt. 433 at 1-2.
15 3 Collier on Bankruptcy, ¶ 330.03[a][ii] (Alan N. Resnick & Henry J. Sommer, eds.-inchief,
16th ed. 2013); id., ¶ 330.LH at 330-72 to 330-73 (stating § 330(a)(6) was added by Bankruptcy
Reform Act of 1994, Pub. L. No. 103-394, § 224 (1994)).
16 Id., ¶ 330.03[a][ii].
Case 11-11425 Doc# 498 Filed 10/03/13 Page 11 of 32
denied on the basis that the estate was not benefitted by such a defense, and reliance on
the American Rule for attorney fees, under which parties must generally bear their own
litigation costs absent specific fee-shifting legislation.17 Those courts allowing
compensation have found “that to do otherwise would dilute the fee award in violation of
§330(a), thus impermissibly reducing the effective compensation of bankruptcy attorneys
to levels below that of attorneys generally.”18
The Court finds persuasive three recent decisions finding such services
compensable. The first is Engman, 19 a district court opinion reversing a bankruptcy
court’s denial of fees for defending an application because the court was “‘not satisfied
that there is sufficient authority under Section 330(a) to warrant such fees.’”20 The
district court stated:
The bankruptcy court erred in its construction of 11
U.S.C. § 330(a). . . . To hold [that such fees must be
disallowed as a matter of law] would allow a litigious
objecting party to negotiate unwarranted reductions in a fee
award simply because the attorney is faced with a no win
situation: even if the attorney fights the objections and
prevails, the time and resources spent on the issue often will
outweigh the value of the amount in dispute. . . . Such a
scenario would undoubtedly compromise a bankruptcy
attorney’s ability to represent the estate, and might also deter
competent attorneys from specializing in bankruptcy law. . . .
17 In re Millennium Multiple Employer Welfare Benefit Plan, 470 B.R. 203, 217 (Bankr. W.D.
19 Boyd v. Engman, 404 B.R. 467 (W.D. Mich. 2009).
20 Id. at 482 (quoting In re Engman, 389 B.R. 36, 48 (Bankr. W.D. Mich. 2008)).
Case 11-11425 Doc# 498 Filed 10/03/13 Page 12 of 32
This is precisely the problem that Section 330(a) was
designed to combat. . . . Preparing and defending attorney fee
applications is part and parcel with the attorney’s role in the
administration of the bankruptcy process and is therefore
compensable under 11 U.S.C. § 330(a).21
In Millennium, a bankruptcy court in Oklahoma found “compelling the rationale of
the Engman case that allowing fees for defense of a fee application is consistent with the
overall purpose of § 330 of the Bankruptcy Code, and provides a benefit to the
bankruptcy estate and to the bankruptcy system.”22 In Lupo, a bankruptcy court in
Massachusetts found the reasoning of Millennium and Engman persuasive.23 It reasoned
that where the objection to the requested fees lacked merit but contained damaging
allegations, a refusal to allow fees for defending against the objection would reward the
objecting party for proffering an unmeritorious objection, while penalizing counsel by, in
effect, reducing the fees awarded with respect to the application.24
In this case, the Court finds that to disallow fees for defense of the fee applications
against objections as a matter of law would not be consistent with § 330(a). It would
reduce the effective compensation of Debtor’s counsel and unjustly reward the objecting
creditors. Defense against objections to fee allowances is a part of the administration of
the case. In this case, the objecting creditors have a direct pecuniary interest in reducing
21 Id. at 483.
22 Millennium Multiple Employer Welfare Benefit Plan, 470 B.R. at 217.
23 In re Lupo, 2012 WL 1682571, *3 (Bankr. D. Mass. 2012).
Case 11-11425 Doc# 498 Filed 10/03/13 Page 13 of 32
the fee award and fully availed themselves of the opportunity to accomplish that end.
Based upon its familiarity with the case and parties involved, the Court also finds that
personal animosity has contributed to the escalation of the controversies before the Court.
The Code’s provisions for retaining and compensating professional persons should be
applied in a manner that promotes retention and adequate compensation for debtor’s
IV. The Objection to Debtor’s Fourth Application for Fees and Expenses Is
Debtor’s Fourth Application for Allowance of Attorney Fees and Expenses25
requests allowance of fees of $14,100 (70.5 hours at $200 per hour) for the time period
beginning June 7, 2012, through October 24, 2012, as an administrative expense. Rose
Hill objected to specific entries totaling $3,000. By an order entered on November 29,
2012,26 the Court allowed the fourth request, except for the $3,000.
All of the time entries to which Rose Hill objects involve counsel’s evaluation of
and attempt to settle an objection to the dischargeability of a claim filed by Bank of
Commerce in the bankruptcy of Jonathan and Amy Schupbach, the owners and managers
of Debtor. At the time of the challenged entries, there were two competing proposed
Chapter 11 plans before the Court, one proposed by Debtor and one proposed by
creditors. Counsel for Debtor was attempting a global settlement of the competing plans,
25 Dkt. 344.
26 Dkt. 362.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 14 of 32
and evaluation of the dischargeability complaint was required for meaningful settlement
discussions. The time spent on the dischargeability complaint benefitted the estate. The
fees are therefore properly allowed as an administrative expense.
The $3,000 requested in the fourth application and not previously approved is
V. The Objections to Debtor’s Fifth Application for Fees and Expenses Are
Debtor’s Fifth Application for Allowance of Attorney fees and Expenses27 requests
allowance of fees of $12,030 (60.15 hours at $200 per hour) for the time period beginning
September 20, 2012, through December 6, 2012, as an administrative expense.28 Rose
Hill and the Liquidating Trustee objected to time entries totaling $1,180. By an order
entered on January 14, 2013,29 the Court allowed the request except for the $1,180.
Rose Hill objects to an award of fees for .3 hours on October 26, 2012, for review
of an e-mail from counsel for Bank of Commerce “regarding rejection of global
settlement term to resolve competing Chapter 11 Plans by dismissal of adversary” and
forwarding the same to the client. In Rose Hill’s view, since the time entry concerns the
dischargeability complaint filed in the Schupbachs’ personal bankruptcy, compensation
27 Dkt. 376.
28 The time period covered by this fifth application overlaps the time period covered by the fourth
application for one month, September 20, 2012, through October 24, 2012, but the only entries in the
fifth application for this month are for expenses which were not requested in the fourth application.
There is no duplication of requests for attorney fees.
29 Dkt. 399.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 15 of 32
should not be paid by the Schupbach Investments’ estate. The Court rejects this
objection. The correspondence concerned a settlement of disputes regarding Debtor’s
Chapter 11 plan, which is by any standard compensable time. The fact that the potential
settlement included the dischargeability complaint filed in the Schupbachs’ personal
bankruptcy case does not negate the fact that the entry concerned the administration of
Rose Hill also objects to an entry for .3 hours on October 29, 2012, for “e-mail
exchange with client regarding cancellation of credit life insurance policies, modification
of creditor plan relative to same, whether Banks have insurable interest, recommended
action.” Both Rose Hill and the Liquidating Trustee object to time entries for 3.7 hours
on December 5, 2012, and 1.6 hours on December 6, 2012, regarding the life insurance
issue, contending that the time spent was for the benefit of Jonathan Schupbach, not
Debtor’s Chapter 11 estate. These time entries concern Debtor’s objection to a term in
the creditors’ liquidating plan that provided for the assumption and assignment to the
creditors of insurance policies owned by Debtor that insured the life of Jonathan
Schupbach, which policies had been assigned prepetition to the bank creditors as
collateral. When Debtor otherwise agreed to the creditors’ plan, this objection was
preserved by a provision in the order confirming the plan which states that “[t]he Debtor
or the Schupbachs may object to the assumption and assignment of any life insurance
policies owed by the Debtor within 21 days of Confirmation. If such an objection is filed,
Case 11-11425 Doc# 498 Filed 10/03/13 Page 16 of 32
the Court will determine the issue.”30
Debtor filed the objection, contending that assignment and assumption was
improper because under Kansas law the creditors lacked an insurable interest in the life of
Jonathan Schupbach who, as the insured, had the right to cancel the policies. Rose Hill
opposed the objection. By a memorandum opinion and judgment entered on June 20,
2013,31 the Court resolved the matter by finding that although Debtor was correct about
Kansas law, there was no evidence that the insured had exercised his right to cancel the
policies, which therefore remained available for assignment and assumption. Counsel for
Rose Hill, however, has subsequently made it clear that the bank will not oppose the
insured’s actions to cancel the policies and agrees that upon such cancellation, any
assignment or assumption will be null and void.
The Court rejects the objections to time spent on the life insurance issue. The
Code in § 330(a)(3)(C) directs the Court when reviewing compensation of attorneys to
consider if the services were necessary to the administration of or beneficial to the case.
The services rendered by Debtor’s counsel relating to the assignment of the insurance
policies were necessary to resolve the only objection to the liquidating plan which was
not decided by agreement between Debtor and its creditors. It concerned the disposition
of property of the estate. The creditors’ objections to the time entries are based upon
Debtor’s presumed motivation. That is not the question. The Court is directed to approve
30 Dkt. 355 at 3, amendments to Article 6 of the plan.
31 Dkt. 460.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 17 of 32
the fees unless they were not necessary to the administration of the case. The Court finds
that resolution of Debtor’s objection to a term of the plan was necessary before the plan
could be confirmed, and so was necessary to the administration of this case.
The Court therefore rejects the objections to Debtor’s request for an award of
$1,060 (5.3 hours at $200 per hour) for time devoted to the assignment of insurance
VI. The Objections to Debtor’s Sixth Application for Allowance of Attorney fees
and Expenses Are Overruled.
In the sixth application, Debtor requests allowance of fees of $3,560 (17.8 hours at
$200 per hour) for the time period beginning December 6, 2012, through January 12,
2013, as an administrative expense. Rose Hill objects to the entire request on procedural
grounds, and to specific time entries as unnecessary and providing no benefit to the estate.
Bank of Commerce adopts Rose Hill’s objections and also contends that “only fees
directly related to surrender of assets to creditors, or work expressly requested by the
Liquidating Trustee, should be subject to allowance as an administrative expense of the
Liquidating Trust.”33 Central National Bank’s objection incorporates the objections of
Rose Hill and Bank of Commerce.
Rose Hill’s initial objections are procedural. The first is that the sixth application
was filed on January 14, 2013, approximately one month after the filing of the fifth
32 The total spent on the assignment of insurance issue for which compensation is requested is 6.3
hours, 5.3 in the fifth application and 1 in the seventh application. This is not excessive.
33 Dkt. 409.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 18 of 32
application, in violation of § 331, which provides that a debtor’s attorney may apply for
fees not more than once every 120 days after an order for relief, unless the court
authorizes more frequent applications.34 The Court finds that the violation of the
limitations on the timing of applications is harmless. If the sixth application had not been
filed, the time periods it covers would have been included in the seventh, and final,
application, which is also now before the Court.
In a supplemental objection,35 Rose Hill complains because the sixth application
“fails to disclose the ‘amounts of all previous payments and amount of any allowed fees
and expenses remaining unpaid,’ as set out in the United States Trustee’s Guidelines for
Reviewing Applications for Compensation and Reimbursement of Expenses Filed under
11 USC § 330.”36 Any failure to comply with the guidelines is harmless, as all the
information required was included in subsequent applications and is now before the
As to the substantive objections to specific time entries, the objecting creditors
first contend that all of the time for which compensation is sought was spent after
confirmation, and most of the entries relate to inquiries from creditors and the Liquidating
Trustee concerning minor issues that could have been responded to directly by the
34 On February 15, 2013, one day after the filing of Rose Hill’s objection and approximately one
month after the filing of the sixth application, Debtor filed a motion under § 331 to allow monthly fee
applications. Dkt. 420. This motion and the objections thereto will be addressed by a separate order.
35 Dkt. 411.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 19 of 32
Schupbachs. The Court rejects this objection. As explained above in section (III)(A), the
Court rejects the argument that as a matter of law, all time spent by Debtor’s counsel after
confirmation of the liquidating plan is noncompensable. Inquiries to which counsel
responded were made to Debtor’s counsel, not to the Schupbachs. The creditors and the
Liquidating Trustee requested assistance in implementing the liquidating plan and
received it. It is disingenuous for them to now argue that the time spent responding is
noncompensable. Further, Jonathan Schupbach testified that he desired that counsel act
as a “middle man” with respect to obtaining information from him about Schupbach
Investments, since his experience in the case has resulted in his not trusting the creditors
or their counsel. Under § 330(a)(3)(C), compensation should be disallowed for services
that were not “necessary to the administration of . . . [the] case.” The challenged entries
were necessary to the administration of the case, and compensation shall be allowed.
Rose Hill objects to less than one hour of time for drafting a proof of an
administrative claim for postpetition federal taxes, on the premise that since Debtor is an
LLC, it has no tax liability. Testimony established that the time relates to employment
taxes owed by the estate and the provision of 1099 forms to those paid by Schupbach
Investments during the year. This is a matter concerning the administration of the case.
The objection is overruled.
The entries for December 13, 18, and 20, 2012, are objected to on the basis that the
matters to which they relate did not benefit the estate. But they did relate to the
implementation of the liquidating plan and the administration of the case. The times for
Case 11-11425 Doc# 498 Filed 10/03/13 Page 20 of 32
December 13 and 18 concerned the Van der Bloemen matters, which are addressed in the
liquidating plan and therefore concerned administration of the case. The entry for
December 20 is for an e-mail exchange with the Liquidating Trustee regarding the life
insurance issue. For the reasons stated above in section (V), the Court finds time spent on
this issue is compensable. The objections are overruled.
Finally, Rose Hill objects to the majority of the time entries starting on December
27, 2012, and continuing to January 12, 2013. This time was devoted to defending the fee
requests and status hearings on the same, and according to Rose Hill, is noncompensable
as a matter of law. This objection is overruled for the reasons discussed above in section
VII. Debtor’s Seventh and Final Application Is Granted.
A. Request for award of fees and expenses.
Debtor’s seventh application seeks an award of fees of $2,760 and expenses of
$119.25 incurred for the period beginning January 14, 2013, through February 15, 2013.37
This request was supplemented by a request for allowance of fees for time spent after
February 15, 2013, through the date of the hearing on March 14, 2013.38 At the hearing,
Mr. Lazzo presented evidence that the amounts were $3,980 for services prior to the
hearing,39 plus $600 for his appearance on March 14, 2013.
37 Dkt. 422.
38 Dkt. 424.
39 Dkt. 439-4.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 21 of 32
Rose Hill objects to specific time entries for the preparation of a 2012 tax return,
services relating to the fee applications, time spent on the life insurance issue, and
representation concerning an alleged housing code violation.40 Central National,41 Bank
of Commerce,42 and Community Bank43 joined in Rose Hill’s objection to these specific
The Court rejects the objection to the award of fees of $460 (2.3 hours reported in
nine separate entries) for services regarding the 2012 tax matters and post-confirmation
reports. The entries reflect services to respond to correspondence from the United States
Trustee’s Office and the Liquidating Trustee as to who was responsible for preparing tax
returns and to ask Debtor’s management to provide necessary information for the returns.
The objection states no reason why these services are noncompensable, and the Court
knows of none.
The second objection is to time entries (4.9 hours between January 14, 2013, and
February 15, 2013, 19.9 hours between February 18, 2013, and March 10, 2013, and 3
hours for the March 14, 2013, hearing) for services in opposing the objections to the fee
requests, including the preparation of a trial brief (which the Court has found helpful) and
appearance at the evidentiary hearing. As found above in section (III)(B), the Court has
40 Dkt. 433.
41 Dkt. 441.
42 Dkt. 443.
43 Dkt. 444.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 22 of 32
concluded that services for defending against the objections to the fee applications are
compensable. The Court does not find the time to be excessive.
The third group of challenged time entries is a total of one hour spread over three
days that was devoted to the life insurance assignment issue. For the reasons stated above
in section (V), the Court finds this time is compensable.
The final objection to specific entries is to 3.5 hours allegedly devoted to “housing
code issues which involved warrants against Mr. Schupbach personally.”44 But review of
the challenged time entries show that Debtor’s estate was involved. The first entry states
in part, “Teleconference with client regarding Wichita Police Officer Elding contact
relative to warrants issued by city for code violations on properties previously quit
claimed to creditors.” Most of counsel’s subsequent time entries regarding the code
violations relate to the filing of quit claim deeds by the creditors to which the properties
were transferred. These alleged housing code violations prompted the filing of Debtor’s
Motion to Compel Compliance by Petitioning Creditors with Confirmation Order, praying
for an order requiring the creditors to record quit claim deeds given to them by Debtor
and to contact the appropriate Wichita authorities to inform them about the ownership of
the properties involved in the alleged code violations.45 The Court finds that the time was
related to the administration of the case and is compensable.
B. Request for final allowance of fees and expenses.
44 Dkt. 433 at 2.
45 Dkt. 412.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 23 of 32
The second aspect of the seventh request for allowance is for final approval of the
fees previously approved on an interim basis and a final order allowing fees in the total
amount of $103,654.04 as an administrative expense. This request drew a whole new set
of objections, discussed below.
1. The Court will not reconsider its nunc pro tunc appointment of Mr.
When opposing the application for final award of fees, Rose Hill’s first objection
is to the nunc pro tunc appointment of Mr. Lazzo as counsel for Debtor. This case was
filed on May 16, 2011. The application for Mr. Lazzo’s employment was filed on June
17, 2011, and for the reasons stated on the record, was granted nunc pro tunc. The Court
declines to reconsider its prior order.
2. Compensation will not be denied or reduced because of alleged
failures to disclose the details of payments from the prepetition retainer
and the source of interim payments Debtor made, as permitted by
orders of the Court.
When opposing the final application, Rose Hill devotes several pages of its
pleading to complaints regarding alleged deficiencies in the disclosure and itemization of
prepetition services, the lack of a contemporaneous disclosure of details regarding the
application of the prepetition retainer, and speculation as to the source of postpetition
payments of fees approved on an interim basis. The Court finds these objections are
insufficient to deny or reduce the final award of fees.
First, the Court questions whether these deficiencies, even if accurate and not
corrected, would provide a basis to deny or reduce a final award of fees. The objecting
Case 11-11425 Doc# 498 Filed 10/03/13 Page 24 of 32
creditors provide no authorities in this regard. The alleged irregularities are insignificant
and have had no material effect on the case. The entire process of the allowance of fees
has been very transparent, and the alleged deficiencies do not cause the Court to have any
concerns about the integrity of the process. Second, the objecting creditors, although
involved in the fees-allowance process throughout this case, never objected
contemporaneously to these alleged deficiencies regarding the retainer, thereby requiring
them to set out very good reasons for their change of position. They have not done so.
As to the source of payment of allowed interim fees, the orders approving the fees also
authorized immediate payment. If the objecting creditors were concerned about the
source of payment, they should have brought the issue to the attention of the Court, but
they did not do so. Further, any possible disclosure deficiencies appear to have been
cured, as counsel for Debtor has provided a full itemization of his prepetition services,
and a full disclosure of all prepetition payments and his application of the retainer.
3. The Court’s prior order approving Debtor’s employment of counsel
will not be set aside based upon an allegation of lack of
When objecting to the final award, Rose Hill argues that “the pre-petition
payments of the $9,760.00 and the pre-petition fees due of $5,200.00 might well render
debtor’s counsel not ‘disinterested’ and therefore not eligible to be employed at all.”46
The Court disagrees.
46 Dkt. 433 at 3-4.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 25 of 32
When this case was filed on May 16, 2011, Mr. Lazzo, who was later appointed as
counsel for the debtor-in-possession, disclosed that he had agreed with Debtor to provide
legal services at the rate of $200 per hour and that Debtor had paid him a $10,000
retainer. When the debtor-in-possession applied for approval of the employment, Mr.
Lazzo filed the attorney’s affidavit required by District of Kansas Local Bankruptcy Rule
2014.1, stating under oath that he was disinterested and did not hold or represent an
interest adverse to the estate. In his first interim fee application, Mr. Lazzo requested
compensation from the estate for $5,200 in fees incurred in the four days just prior to the
filing of the case.47 There was no objection to the award of fees for this period and no
assertion that Mr. Lazzo was not disinterested.48 The request was approved.
Now, when objecting to the seventh and final applications, Rose Hill and those
other creditors joining in Rose Hill’s objection contend that because of the outstanding
obligation for $5,200 in fees due Mr. Lazzo on the date of filing, he was not disinterested
and therefore his request for allowance of all fees for his representation in the case should
The court rejects this argument. Section 328(c) allows the court to deny
compensation for the services of an attorney employed under § 327 “if, at any time during
such professional person’s employment under section 327 . . . , such professional person
47 Other pre-filing fees had been paid from the retainer. Dkt. 422 at 2.
48 Rose Hill and Central National objected to the request that the employment be allowed nunc
pro tunc, but not to the specific time entries.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 26 of 32
is not a disinterested person, or represents or holds an interest adverse to the interest of
the estate with respect to the matter on which such professional person is employed.”
Section 101(14) defines “disinterested person” to include a requirement that the person
not be a creditor, an equity security holder, or an insider. But § 1107(b) provides that
notwithstanding § 327(a), “a person is not disqualified for employment under section 327
of this title by a debtor in possession solely because of such person’s employment by or
representation of the debtor before the commencement of the case.”
The question is whether an attorney who on the date of filing is owed $5,200 in
fees for work performed to prepare for the filing of a Chapter 11 case within the week
prior to filing is disqualified because he is not disinterested or whether § 1107(b) applies.
Collier on Bankruptcy reports that although “[a] majority of courts have concluded that a
professional who is a creditor may not be retained,”49 “[a] minority of courts have taken a
more flexible approach and have attempted to balance potential risks associated with
employing a professional who is not disinterested with the costs of retaining a substitute
professional who is disinterested.”50 However, Collier on Bankruptcy also notes that
“[e]ven courts that adhere to the per se rule have held that professionals holding claims
for services rendered prior to the commencement of the chapter 11 case are not thereby
barred from representing the debtor in possession if the services were rendered in
49 7 Collier on Bankruptcy ¶ 1107.04[b] at 1107-14
50 Id. at ¶ 1107.04[c] at 1107-17.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 27 of 32
preparation for the bankruptcy filing.”51 The First Circuit has stated, “The performance
of standard prepetition services, i.e., preliminary work routinely undertaken to facilitate
an upcoming chapter 11 filing, will not serve to disqualify an otherwise eligible
attorney.”52 The court reasoned as follows:
At first blush, [§ 327(a)] . . . would seem to foreclose the
employment of an attorney who is in any respect a “creditor.”
But, such a literalistic reading defies common sense and must
be discarded as grossly overbroad. After all, any attorney
who may be retained or appointed to render professional
services to a debtor in possession becomes a creditor of the
estate just as soon as any compensable time is spent on
account. Thus, to interpret the law in such an inelastic way
would virtually eliminate any possibility of legal assistance
for a debtor in possession, except under a cash-and-carry
arrangement or on a pro bono basis. It stands to reason that
the statutory mosaic must, at the least, be read to exclude as a
“creditor” a lawyer, not previously owed back fees or other
indebtedness, who is authorized by the court to represent a
debtor in connection with reorganization proceedings —
notwithstanding that the lawyer will almost instantaneously
become a creditor of the estate with regard to the charges
endemic to current and future representation.53
This Court agrees with the First Circuit. To disqualify Mr. Lazzo because he was
owed $5,200 on the date of filing for services provided immediately prepetition to prepare
for Debtor’s bankruptcy filing would defy common sense. The Tenth Circuit appears not
have taken a position on the question, but the Court is confident that it would not find the
51 Id. at ¶ 1107,04b] at 1107-16.
52 In re Martin, 817 F.2d 175, 180 n.5 (1st Cir. 1987).
53 Id. at 180.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 28 of 32
existence of Mr. Lazzo’s claim sufficient to preclude appointment or deny allowance of
fees. The possibility that the claim would affect his representation of Debtor is
nonexistent. The amount owed is a very small portion of the total claims in this case, and
even a small percentage of the total cost for services Mr. Lazzo rendered to the debtor-inpossession.
4. The Court will not the deny the final application based upon the
argument that some services billed are not proper administrative
expenses of the case because they were not beneficial to the estate.
The objecting creditors argue that compensation should be excluded for services
which did not benefit the estate. Under this category, they take aim at services related to
Debtor’s failed motion to consolidate this case with the Schupbachs’ personal case,54 and
Debtor’s proposed, but rejected, plan of reorganization. They argue that it was evident
early in the case that Debtor could not propose a confirmable plan.
This objection requests the Court to examine the strategic decisions of Debtor’s
counsel during the case. Such an examination must be performed from the perspective of
whether the services were calculated to benefit the estate when they were performed, not
whether through the lens of hindsight, they resulted in a benefit to the estate.55 Further,
substantial deference must be given to the decisions of counsel, as this Court, like others,
54 They assert that Debtor’s counsel billed for 40.3 hours for this service between September 20,
2011, and January 19, 2012. Dkt. 433 at 6.
55 See Hansen, Jones & Leta, P.C., v. Segal, 220 B.R. 434, 445 (D. Utah. 1998) (“[T]he
bankruptcy court must assess whether the professional’s services benefit[t]ed or were reasonably
calculated to benefit the estate before addressing the question of reasonableness.”)
Case 11-11425 Doc# 498 Filed 10/03/13 Page 29 of 32
is “reluctant to second-guess an attorney’s choice about how best to represent the client’s
In this case, Debtor is a Kansas limited liability company, owned and managed by
two individuals, Jonathan Schupbach and his wife. No other persons have ever been
involved in the management or ownership of the company. The Schupbachs have
personal liability for a substantial amount of the LLC’s debts, and their individual
Chapter 11 case is also pending before this Court. The absolute priority rule presented an
obstacle to the Schupbachs’ continued ability to manage Debtor postpetition.
Consolidation of the Schupbachs’ business and personal bankruptcy estates was a
reasonable strategy for achieving rehabilitation of Debtor, and the time spent on that issue
was calculated to benefit the estate.
Debtor proposed a plan of reorganization which was not confirmed. The secured
creditors now assert that time spent seeking reorganization should be disallowed because
it was for the purpose of benefitting the Schupbachs, not Debtor. If the Court were to
examine the motivation for Debtor’s strategic decisions, it would feel compelled to
consider the motivation for the creditors’ strategic failure to pursue a motion to dismiss at
an appropriate time during the pendency of this case. The Court will not do so.
Proposing a reorganization plan is a fundamental duty of a Chapter 11 debtor’s counsel.
Many of the Chapter 11 cases in this district are filed by closely-held businesses where
56 In re A.W. Logging, Inc., 356 B.R. 506, 516 (D. Idaho 2006).
Case 11-11425 Doc# 498 Filed 10/03/13 Page 30 of 32
the affairs of the owners and the company are intertwined and successful reorganization is
doubtful. Nevertheless, the Chapter 11 process is available to such debtors. In such
cases, the possibility that the debtor’s counsel would not receive compensation if a
proposed plan is not confirmed would adversely impact representation of such debtors
and harm the bankruptcy process.
For the forgoing reasons, the Court allows the disputed portions of the fourth and
fifth applications, and the fees and expenses requested in the sixth, seventh, and
supplemental seventh applications. The Court also allows all fees and expenses, both
those previously awarded on an interim basis and the fees and expenses allowed by virtue
of this order, on a final basis as administrative expenses of the estate. The total allowed is
$103,654.04. Debtor’s counsel has received postpetition payments from Debtor of
$65,702.18,57 leaving a balance owed of $37,951.86.
The foregoing constitutes Findings of Fact and Conclusions of Law under Rules
7052 and 9014(c) of the Federal Rules of Bankruptcy Procedure, which make Rule 52(a)
of the Federal Rules of Civil Procedure applicable to this matter.
Judgment is hereby entered allowing Debtor's counsel, Mark J. Lazzo, an
administrative claim for fees and expenses in the amount of $103,654.04. The judgment
57 Dkt. 422 at 2.
Case 11-11425 Doc# 498 Filed 10/03/13 Page 31 of 32
based on this ruling will become effective when it is entered on the docket for this case,
as provided by Federal Rule of Bankruptcy Procedure 9021.
IT IS SO ORDERED.
# # #
Case 11-11425 Doc# 498 Filed 10/03/13 Page 32 of 32
- Category: Judge Somers
- Published on 24 October 2013
- Written by Judge Somers
- Hits: 151
Morris v. Pioneer Credit Recovery, Inc. et al, 12-05155 (Bankr. D. Kan. Oct. 23, 2013) Doc. # 24
SIGNED this 22nd day of October, 2013.
Opinion Designated for Electronic Use, But Not for Print Publication
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF KANSAS
JOHN WESLEY KNOWLES and
CANDI LYNN KNOWLES,
J. MICHAEL MORRIS, Trustee,
PIONEER CREDIT RECOVERY, INC.,
and UNITED STATES DEPARTMENT
CASE NO. 12-11367
ADV. NO. 12-5155
MEMORANDUM OPINION AND ORDER GRANTING
THE TRUSTEE’S UNCONTESTED CLAIM TO AVOID AND RECOVER A
PREFERENTIAL TRANSFER, BUT DENYING HIS CONTESTED CLAIMS
TO AVOID ALLEGED FRAUDULENT TRANSFERS
The Chapter 7 Trustee, J. Michael Morris, filed this action to avoid allegedly
Case 12-05155 Doc# 24 Filed 10/22/13 Page 1 of 15
preferential or fraudulent transfers made by Debtor John Wesley Knowles to the United
States Department of Agriculture - Rural Housing Service (“RHS”) as indemnification for
payments made by the RHS to Bankwest of Kansas, the Debtor’s mortgage lender under a
Department of Agriculture guaranteed loan program. The parties have filed a stipulation
of facts and submitted the case on written briefs. The Court has jurisdiction.1
For the reasons discussed below, the Court denies the Complaint, except as to the
transfer for the benefit of the Department of Agriculture of $1,572.78 by a prepetition
wage garnishment. The defendants agree this transfer was preferential and will pay the
amount to the Trustee upon the entry of an order.
FINDINGS OF FACT.
As its findings of fact, the Court adopts the parties’ stipulations,2 which are
supported by attached exhibits and state substantially as follows:
1. On or about February 25, 2005, John W. Knowles (“Debtor”) executed and
delivered a promissory Note to Bankwest of Kansas (“Bankwest”), whereby he promised
to pay Bankwest the sum of $42,000, with interest thereon at 6% per annum. As
consideration for the Note, Bankwest made a loan to Debtor.
1 This Court has jurisdiction over the parties and the subject matter pursuant to 28 U.S.C.
§§ 157(a) and 1334(a) and (b), and the Standing Order of the United States District Court for the District
of Kansas that exercised authority conferred by § 157(a) to refer to the District’s bankruptcy judges all
matters under the Bankruptcy Code and all proceedings arising under the Code or arising in or related to a
case under the Code, effective July 10, 1984. Furthermore, this Court may hear and finally adjudicate this
matter because it is a core proceeding pursuant to 28 U.S.C. § 157(b)(2)(F) and (H). There is no
objection to venue or jurisdiction over the parties.
2 Dkt. 17 and 19.
Case 12-05155 Doc# 24 Filed 10/22/13 Page 2 of 15
2. The Note was secured by a mortgage on the following described real property:
All of Lots Nineteen (19) and Twenty (20), Block One
Hundred One (101), North Addition to the City of Colby,
Kansas, as shown by the recorded Plat thereof, commonly
known as 815 E. 8th Street, Colby, KS 67701.
3. The loan made by Bankwest was guaranteed by the United States of America
acting through the Rural Housing Service (“RHS”), an agency of the United States
Department of Agriculture (“USDA”). The Loan Note Guarantee (“Guarantee”) includes
the following: “5. The Loan Note Guarantee will terminate automatically (a) upon full
payment of the guaranteed loan; or (b) upon full payment of any loss obligation
hereunder; or (c) upon written notice from the Lender to RHS that the guarantee will
terminate provided this Loan Note Guarantee is returned to be canceled by RHS.”
4. On February 16, 2005, Debtor executed a Request for Single Family Housing
Loan Guarantee. The Request includes:
I certify and acknowledge that if the Agency pays a loss claim
on the requested loan to the lender, I will reimburse the
Agency for that amount. If I do not, the agency will use all
remedies available to it, including those under the Debt
Collection Improvement Act, to recover on the Federal debt
directly from me. The Agency’s right to collect is
independent of the lender’s right to collect under the
guaranteed note and will not be affected by any release by the
lender of my obligation to repay the loan. Any Agency
collection under this paragraph will not be shared with the
5. Debtor defaulted on the Bankwest loan, and Bankwest filed a petition of
foreclosure on July 23, 2009. On October 26, 2009, a Journal Entry of Judgment was
Case 12-05155 Doc# 24 Filed 10/22/13 Page 3 of 15
entered in Bankwest of Kansas v. John W. Knowles, Case No. 09CV27, Thomas County,
Kansas, granting the plaintiff an in personam judgment and a judgment of foreclosure, in
the amount of $39,662.08, together with interest, costs, and fees as detailed in the
Judgment. This was the full amount owed under the loan.
6. A Sheriff’s sale was held on December 10, 2009. Bankwest purchased the
property for $44,390.02 by issuing a credit bid against the judgment. This bid included
all amounts due under the loan and judgment.
7. Bankwest subsequently sold the property, resulting in net proceeds in the
amount of $20,280.37. Bankwest then submitted a loss claim to the USDA - RHS in the
amount of $21,200.45. On November 26, 2010, the USDA paid Bankwest $20,662.73 on
8. On April 9, 2011, pursuant to 31 U.S.C. § 3720A, the USDA sent notice to
Debtor of the delinquent indebtedness in the amount of $20,662.73, giving Debtor 60
days to respond and assert any defenses; otherwise, the indebtedness would be certified to
the Department of the Treasury Offset Program (“TOP”). Debtor did not respond to the
notice. On June 11, 2011, the USDA certified the debt to the Department of the Treasury
9. On or about February 15, 2012, pursuant to 26 U.S.C. § 6402(d), the
Department of the Treasury paid Debtor’s 2011 federal income tax overpayment to the
USDA. The overpayment amount was $6,085. The USDA applied $6,068 to the debt,
and the Treasury Department retained a $17 service charge.
Case 12-05155 Doc# 24 Filed 10/22/13 Page 4 of 15
10. The Department of the Treasury, pursuant to 31 U.S.C. § 3720, through its
agent Pioneer Credit Recovery, Inc., garnished Debtor’s wages prepetition in the amount
of $2,541.83, which was applied to the debt. The amount of $1,572.78 was garnished
within ninety (90) days of the filing of the bankruptcy. The USDA has indicated a
willingness to turn the $1,572.78 over to the Trustee, but as of the date of the stipulation,
had not done so. The USDA has requested an order approved by Debtor’s counsel before
making payment to the Trustee.
11. The Chapter 7 bankruptcy case was filed May 25, 2012.
12. Debtors included the following entities on the mailing matrix for notice in
their bankruptcy case:3 Bankwest of Kansas, Pioneer Credit Recovery, US Department of
Treasury (Debt Management Services), Department of the Treasury (Financial
Management Services), and US Department of Agriculture. The address listed for the
USDA does not comply with District of Kansas Local Bankruptcy Rule 2002.2.
13. On July 16, 2012, the Trustee made demand on Pioneer Credit Recovery for
avoidance and recovery of the preferential transfer effected through wage garnishment.
See ¶ 10. No response was received and this adversary action was filed September 24,
14. Debtor was insolvent on the dates when (a) the Department of the Treasury
paid the USDA the Debtor’s 2011 federal income tax overpayment, see ¶ 9 above (the
3 The addresses are listed in the stipulation, but omitted above for simplicity.
Case 12-05155 Doc# 24 Filed 10/22/13 Page 5 of 15
“set-off”), and (b) Debtor’s wages were garnished prepetition, see ¶ 10 above. The setoff
and all such garnishments occurred within two (2) years of the filing of the
A. The parties’ positions.
As found above, Debtor obtained a loan from Bankwest, secured by his residence,
and guaranteed by the RHS. After Debtor’s default, Bankwest obtained a judgment
against Debtor for the full debt owed, foreclosed the mortgage to satisfy the judgment,
and, at the sheriff’s sale, bid in the full amount of the judgment and other amounts owed.
Bankwest subsequently sold the property for less than the bid amount, and sought
recovery of the difference from the RHS under the Guarantee. The RHS paid the claim
and sought reimbursement from Debtor, causing his 2011 federal income tax refund of
$6,068 to be offset, and garnishing his wages in the amount of $2,541.83. The RHS
agrees that $1,572.78 of the garnishments was preferential because obtained within 90
days of the filing of the petition. The Trustee seeks to recover the IRS offset and the
remaining garnished wages of $969.05 as fraudulent transfers.
The Trustee’s theory of recovery is simple. He contends that the RHS’s Guarantee
automatically terminated when Bankwest bid in the amount owed by Debtor at the
foreclosure sale. He relies upon the fact that the Guarantee provides that it shall terminate
upon “full payment of the guaranteed loan” and that Bankwest’s bid at the foreclosure
sale constituted full payment of the guaranteed debt under Kansas law. Therefore,
Case 12-05155 Doc# 24 Filed 10/22/13 Page 6 of 15
according to the Trustee, because the Guarantee terminated, the payments made by the
RHS to Bankwest were gratuitous and may be recovered by the Trustee for the benefit of
the estate. The RHS argues that the Guarantee did not terminate, that its obligation to pay
Bankwest under the Guarantee is not dependent upon Kansas law, that USDA regulations
authorized the payment made to Bankwest, and that Debtor agreed in the certification to
the Request for Single Family Housing Loan Guarantee to indemnify the RHS for the
amount paid to Bankwest.
B. Under Kansas mortgage foreclosure law, a judgment creditor has no
deficiency claim against the debtor following a full credit bid.
There is no question that under Kansas mortgage law, when a creditor is granted a
judgment on a note secured by a mortgage, the mortgage is foreclosed, the property is
sold to the judgment creditor by credit against the judgment, and the sale is confirmed, the
amount of any deficiency judgment is determined by the simple mathematical calculation
of the difference between the judgment amount and the bid amount.4 When the amount
the creditor bids is the full amount owed by the judgment debtor, a full credit bid, the
mathematical calculation results in no deficiency. The creditor cannot thereafter recover
anything from the judgment debtor, even if the property is later sold by the creditor for
substantially less than the amount of its credit bid. Because the creditor purchased the
property for the full amount of the debt, the debt is deemed to have been paid in full, even
thought the creditor has not received any cash payment. In this case, Bankwest bid the
4 Federal Land Bank v. Cummings, 12 Kan. App. 2d 134, 137-38, 735 P.2d 1110, 1113 (1987).
Case 12-05155 Doc# 24 Filed 10/22/13 Page 7 of 15
full amount owed, and it has no claim against Debtor for the difference between the credit
bid and the amount Bankwest later received when it sold the property to a third party.
C. Bankwest’s full credit bid did not terminate the Guarantee.
The question here is the impact of the Kansas full-credit-bid rule on the right of
Bankwest to receive payment under the Guarantee. That agreement provides that “[t]he
Loan Note Guarantee will terminate automatically (a) upon full payment of the
guaranteed loan; or (b) upon full payment of any loss obligation hereunder; or (c) upon
written notice from the Lender to RHS that the guarantee will terminate provided this
Loan Note Guarantee is returned to be canceled by RHS.” The Trustee contends that the
phrase stating the Guarantee “will terminate automatically . . . upon full payment of the
guaranteed loan” is unambiguous and was triggered by Bankwest’s full credit bid.
Evaluation of the Trustee’s position requires the Court to apply rules of contract
construction to the Guarantee.
As stated by the Trustee in his reply brief, “‘When the United States enters into
contract relations, its rights and duties therein are governed generally by the law
applicable to contracts between private parties.’”5 Determining the intent of the parties is
the ultimate goal of contract interpretation. “The whole agreement should, if possible, be
construed so as to conform to an evident consistent purpose, and a court should interpret
5 Dkt. 22 at 3 (quoting Franconia Assocs. v. United States, 536 U.S. 129, 141 (2002)).
Case 12-05155 Doc# 24 Filed 10/22/13 Page 8 of 15
the contract in a manner that makes the contract internally consistent.”6 “Contracting
parties are presumed to contract in reference to the existing law.”7 All existing applicable
regulations must be read into the contract just as if an express provision to that effect
were inserted in the contract.8
The Guarantee was issued by the USDA, acting through the RHS, under Title V of
the Housing Act of 1949 (42 U.S.C. § 1472), and a program established by the Cranston-
Gonzalez National Affordable Housing Act of 1990,9 and amended in 2004 to be called
the “Doug Bereuter Section 502 Single Family Housing Loan Guarantee Program,”
codified at 42 U.S.C. § 1472(h).10 Under that program, guaranteed loans are made only to
low- or moderate-income families or those whose income does not exceed 115 per cent of
the median income of the area.11 Preference is given to first-time home buyers or
veterans, their spouses, or children of deceased veterans.12 A guaranteed loan may only
be used to purchase or build a single-family residence for the borrower; the borrower
6 17A Am. Jur. 2d Contracts § 376 (obtained from Westlaw at AMJUR CONTRACTS § 376,
database updated Aug. 2013).
7 Id. at § 371 (obtained from Westlaw at AMJUR CONTRACTS § 371).
9 Pub. L. No. 101-625, § 706(b) (1990), 104 Stat 4079.
10 Act of Aug. 4, 2004, P.L. 108-285, § 3, 118 Stat. 917.
11 42 U.S.C. § 1472(h)(3).
12 42 U.S.C. § 1472(h)(5); 7 C.F.R. § 1980.353(b).
Case 12-05155 Doc# 24 Filed 10/22/13 Page 9 of 15
must be eligible for assistance; and the residence must be located in a rural area.13 The
loans are targeted to areas that have a demonstrated need for additional sources of
mortgage financing for low- and moderate-income households.14
The Guarantee provides for payment to Bankwest of the lesser of (1) any loss of an
amount equal to 90 percent of the principal amount actually advanced to Debtor, or
(2) any loss “of an amount up to 35 percent of the principal amount actually advanced to
[Debtor], plus 85 per cent of any additional loss sustained by [Bankwest] of an amount up
to the remaining 65 percent [of] the principal amount actually advanced to [Debtor].” It
provides the guaranteed loss shall cover interest to the date of the final loss settlement if
Bankwest liquidates the collateral in an expeditious manner, in which circumstance, the
“[n]et proceeds received from liquidation of the collateral will be used in calculating the
amount of loss sustained by [Bankwest].” It further provides that “[a]ny amount due
under this instrument will be determined and paid, as provided in 7 CFR Part 1980,
Subpart D in effect on the date of this instrument.”
The referenced regulations provide further detail about the liquidation of collateral
and the calculation of the guaranteed loan loss. If a borrower of a guaranteed loan cannot
make a loan payment, the lender is required to assist the borrower or liquidate the loan.15
If a lender concludes that a loan must be liquidated, the lender is to notify the RHS of the
13 42 U.S.C. § 1472(h)(4).
14 42 U.S.C. § 1472(h)(11).
15 7 C.F.R. §§ 1980.309(f); 1980.371; 1980.374.
Case 12-05155 Doc# 24 Filed 10/22/13 Page 10 of 15
decision and initiate a foreclosure within 90 days.16 The lender must proceed in an
expeditious manner and is expected to make the maximum collection possible on the
indebtedness.17 The lender is directed to “consider the possibility of recovery of any
deficiency apart from the acquisition or sale of collateral” and to “submit a
recommendation on such recovery considering the borrower’s assets and ability to pay,
prospects of future recovery, the costs of pursuing such recovery, recommendation for
obtaining a judgment, and the collectability of a judgment in view of the borrower’s
Loss payments in settlement of a guarantee under the housing program are made
within 60 days of the lender’s properly filed claim.19 The loss payment is determined by
applying the net proceeds from the property to the unpaid debt.20 The net proceeds are
defined differently, depending upon which of three circumstances is involved. First, if at
liquidation, title to the property is conveyed to a bona fide third-party purchaser, the loss
payment is based upon the net sale proceeds received for the property.21 Second, “[i]f, at
liquidation, title to the property is conveyed to the Lender, then the Lender must prepare
16 7 C.F.R. § 1980.374.
17 7 C.F.R. § 1980.374(a) and (b).
18 7 C.F.R. § 1980.374(b).
19 7 C.F.R. § 1980.376(a).
20 7 C.F.R. § 1980.376(a)(1).
21 7 C.F.R. § 1980.376(a)(1)(i).
Case 12-05155 Doc# 24 Filed 10/22/13 Page 11 of 15
and submit a property disposition plan to RHS for RHS concurrence.”22 The plan must
address the proposed method of sale, the estimated value and minimum sale price, the
estimated costs of sale, and any other information that could impact the loss on the loan.
The lender is allowed 6 months to sell the property. For purposes of determining the loss
payment under this second alternative, the loss payment “will be based on the net
proceeds received for the property when the sale is conducted in accordance with the plan
as approved by RHS.”23 Third, “[i]f a deficiency judgment is obtained, the Lender must
enforce the judgment against the borrower before loss settlement if the current situation
provides a reasonable prospect of recovery. A loss payment will be made when the
Lender holds a deficiency judgment but there are not current prospects of collection, even
if there may be in the future.”24
As the RHS contends, the Court finds that automatic termination of the Guarantee
was not triggered by Bankwest’s full credit bid at the foreclosure sale. Since, under the
terms of the Guarantee and the applicable regulations, the amount of the bid is irrelevant
to the calculation of the loss to be paid to Bankwest, a full credit bid does not equate to
payment in full. Implicit in the Trustee’s position that the Guarantee was automatically
terminated by Bankwest’s full credit bid is the use of Kansas law for construing the
22 7 C.F.R. § 1980.376(a)(1)(ii).
23 Id. A different net proceeds calculation would apply if the lender could not make a sale during
the 6 months, but Bankwest apparently made a timely sale of the property in this case.
24 7 C.F.R. § 1980.376(a)(1)(iii).
Case 12-05155 Doc# 24 Filed 10/22/13 Page 12 of 15
Guarantee. The RHS’s reliance on federal law, particularly the USDA regulations for the
housing program, rather than state law, to construe the Guarantee is fully supported by
general principles of contract construction which direct that applicable regulations be read
into the Guarantee.
The RHS’s position is also supported by Shimer, 25 a United States Supreme Court
opinion construing the Veterans’ Administration’s guarantee of a mortgage loan under
Title III of the Servicemen’s Readjustment Act of 1944, as amended. In Shimer, where
the effect of a Pennsylvania anti-deficiency statute was in issue, the Supreme Court held
that the applicable regulations made “clear that they were intended to create a uniform
system for determining the [Veterans’] Administration’s obligation as guarantor, which in
its operation would displace state law.”26 The Supreme Court reasoned that the
regulations spelled out the method for determining the loss after a sale “in such great
detail that there can be little doubt of an administrative intent that such method should
provide the exclusive procedure.”27 Although as noted by the Trustee, there are factual
distinctions between Shimer and this case, those distinctions do not detract from the
importance of the Shimer rationale to loan guarantee programs other than the one
involved there. In this case, the USDA regulations define the loss payment on the
guaranteed loan made by Bankwest in such detail that the Court is confident the
25 United States v. Shimer, 367 U.S. 374 (1961).
26 Id. at 377.
27 Id. at 379.
Case 12-05155 Doc# 24 Filed 10/22/13 Page 13 of 15
regulations provide the exclusive procedure and displace Kansas law. Likewise, the
Court is unpersuaded by the Trustee’s arguments distinguishing other cases cited by the
RHS in support of the proposition that the Kansas law full-credit-bid rule does not bar
Bankwest’s loss claim under the Guarantee.28
The Court therefore concludes that the Guarantee did not terminate when
Bankwest at the mortgage foreclosure sale bid the full amount owed by Debtor to
Bankwest, leaving no deficiency judgment. Although Kansas law determined Debtor’s
liability to Bankwest after the sale, it did not determine the obligation of the RHS to
Bankwest under the Guarantee.
D. The RHS properly paid the loss to Bankwest.
In this case, Bankwest liquidated the collateral and, after purchasing the mortgaged
premises at the foreclosure sale, sold the property to a third party. It calculated its loss in
accord with the applicable regulations. The Trustee does not challenge that calculation.
The RHS paid the loss to Bankwest. The payment was not gratuitous.
E. Debtor was obligated to the RHS for the amount it paid to Bankwest.
Debtor agreed in the acknowledgment and certification portion of the Request for
Single Family Housing Loan Guarantee that if the RHS “pays a loss claim on the
requested loan to the lender, I (We) will reimburse the Agency for that amount.” The
payments which the Trustee seeks to recover as fraudulent transfers were made in
28 See cases cited by the RHS in its brief, dkt. 21 at 8-10, and the Trustee’s response, dkt. 22 at
Case 12-05155 Doc# 24 Filed 10/22/13 Page 14 of 15
fulfillment of Debtor’s obligation to indemnify the RHS for valid, non-gratuitous
payments to Bankwest. The amount garnished from Debtor’s wages and the amount of
Debtor’s IRS refund offset in payment to the RHS may not be recovered as fraudulent
For the foregoing reasons, the Trustee’s claim to recover Debtor’s 2011 federal tax
refund and $969.05 of the prepetition wage garnishments as fraudulent transfers is denied,
and as agreed by the parties, the claim to recover $1,572.78 of the prepetition wage
garnishments as preferential transfers is sustained.
The foregoing constitutes Findings of Fact and Conclusions of Law under Rule
7052 of the Federal Rules of Bankruptcy Procedure, which makes Rule 52(a) of the
Federal Rules of Civil Procedure applicable to this proceeding. A judgment based upon
this ruling will be entered on a separate document as required by Federal Rule of
Bankruptcy Procedure 7058, which makes Federal Rule of Civil Procedure 58 applicable
to this proceeding.
IT IS SO ORDERED.
# # #
Case 12-05155 Doc# 24 Filed 10/22/13 Page 15 of 15
- Category: Judge Somers
- Published on 01 October 2013
- Written by Judge Somers
- Hits: 118
Posl-Bendsen et al v. Leonard et al, 09-06043 (Bankr. D. Kan. Sep. 27, 2013) Doc. # 196
SIGNED this 26th day of September, 2013.
For on-line use but not print publication
IN THE UNITED STATES BANKRUPTCY COURT
FOR THE DISTRICT OF KANSAS
DAVID TODD LEONARD and
MICHELLE LEIGH LEONARD,
JANICE POSL-BENDSEN, by John R.
Kurth, guardian and conservator; and
JOHN R. KURTH, Trustee of the Janice
Posl-Bendsen Revocable Living Trust,
DAVID TODD LEONARD and
MICHELLE LEIGH LEONARD,
CASE NO. 09-20190
ADV. NO. 09-6043
MEMORANDUM OPINION AND ORDER DENYING
PLAINTIFFS' MOTION FOR SUMMARY JUDGMENT
Case 09-06043 Doc# 196 Filed 09/26/13 Page 1 of 19
In this adversary proceeding creditors Janice Posl-Bendsen, by John R. Kurth,
guardian and conservator, and the Trustee of the Janice Posl-Bendsen Revocable Living
Trust object to the discharge of their claim against Debtors David Todd Leonard and
Michelle Leigh Leonard under 11 U.S.C. §§ 523(a)(2), (a)(4), and (a)(6) and also seek an
order denying discharge under 11 U.S.C. §§ 727(a)(3), (a)(4), and (a)(5). Plaintiffs, who
appear by Patrick E. Henderson, move for summary judgment. Debtors, who appear pro
se, oppose the motion. The Court has jurisdiction.1 For the reasons discussed below, the
Court denies the motion.
In support of the motion for summary judgment, Plaintiffs rely upon the
bankruptcy pleadings, the depositions of the Debtors which are included in the record,2
and the exhibits to those depositions. Debtors deposition testimony is uncontroverted.3
No deposition and no statement has been provided by Plaintiff, Janice Posl-Bendsen
(Janice). She is alleged to be a 65 year old woman whose health has been deteriorating
over the last several years. John R. Kurth, Janice’s son, has been appointed guardian and
1 This Court has jurisdiction over the parties and the subject matter pursuant to 28 U.S.C. §§
157(a) and 1334(a) and (b), and the Standing Order of the United States District Court for the District of
Kansas that exercised authority conferred by § 157(a) to refer to the District's bankruptcy judges all
matters under the Bankruptcy Code and all proceedings arising under the Code or arising in or related to a
case under the Code, effective July 10, 1984. Furthermore, this Court may hear and finally adjudicate
this matter because it is a core proceeding pursuant to 28 U.S.C. §§ 157(b)(2)(I) and (J). There is no
objection to venue or jurisdiction over the parties.
2 Dkts. 115 and 116.
3 The Court observes that if this matter proceeds to trial, it is very unlikely that Plaintiffs will
prevail on their § 523 claims if they continue to rely almost exclusively on Debtors’ testimony.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 2 of 19
conservator of Janice by order of the District Court of Atchison County, Kansas.4
Apparently the appointment was in 2008, after the events which are issue in this
Plaintiffs are entitled to summary judgment only if Debtors’ uncontroverted
testimony show that judgment should be entered in Plaintiffs’ favor as a matter of law.
The following is a summary of the events which give rise to this proceeding as testified to
by the Debtors.
Debtor David Todd Leonard (David) is referred to by Janice as Todd Leonard. He
was born in 1968. After working as a fitness trainer, he began employment in the
financial industry in 2002. He continued in that employment at various businesses,
including Countrywide Financial, until May 2007, when he began managing Janice’s
assets on a full time basis. David and his wife Michelle Leigh Leonard (Michelle) have
four children. Michelle was not employed outside the home, but she assisted with the
administration of David’s investment operations.
Janice is David Leonard’s second cousin. They had occasional contact while
children. In 2000, the relationship was reestablished, and Janice began visiting Debtors
and spending time with Debtors and their children. Janice started joining in traditional
family functions, such as Thanksgiving, Christmas, and birthdays. Janice was very
generous, giving the Leonard family gifts initially worth hundred of dollars and then
4 Dkt. 1 at ¶¶ 8-11.
5 See Dkt. 1 at ¶ 11, stating that the Atchison County District Court case number is 08 PR 55.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 3 of 19
increasing to gifts worth thousands of dollars. For example, for Easter 2004, she gave the
family members Easter eggs with $10,000 checks in them. She gave a sapphire bracelet
to Michelle Leonard and loaned her other jewelry and a fur coat.
In 2003, Janice inherited stock worth approximately 6 million dollars from her
mother, but David did not know of the inheritance until 2005, when he started to become
actively involved in managing Janice’s assets. From 2005 through 2007, several entities
were formed and accounts were set up to manage both Janice’s and Debtors’ assets.
In September 2005, Leonard & Bendsen, LLC, which was owned by Janice, was
formed to invest a small portion of her assets. In November 2005, a MasterTrader.com
account was set up for day trading of the Leonard & Bendsen property. David managed
the account. Initially it had a balance of over a hundred thousand dollars. By September
30, 2006, the balance was $32.91.6
On May 31, 2006, Janice executed a Revocable Living Trust prepared by an
attorney. Janice is the sole trustee. The trust provides that upon Janice’s death, the
balance of the trust assets remaining after payment of trust obligations and taxes shall be
distributed to “Todd Leonard and Michelle Leonard, or the survivor of the two of them if
one of them dies before” Janice. Apparently at this time, the majority of Janice’s assets
were held in an account at Merrill Lynch. Also on May 31, 2006, Janice executed a
General Durable Power of Attorney naming Todd Leonard as her attorney-in-fact. David
6 Dkt. 116 (Michelle Leonard depo.) at 14.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 4 of 19
denies that any of the actions which are the subject of this proceeding were taken by him
under the powers granted to him by the power of attorney.
Starting in 2005 and continuing until August 2008, checks signed by David on
accounts holding Janice’s property were written to Fitness Quest, LLC, a fitness business
owned in part by David. By these investments, Janice was not purchasing an interest in
the business. Rather, she directed that the checks be written so David could invest in the
business, which Janice wanted to succeed. Fitness Quest eventually filed for bankruptcy.7
In late 2006, Janice had a irreconcilable conflict with her advisors at Merrill
Lynch, who had been attempting to restrain Janice’s reckless spending. On December 14,
2006, an account was established at MasterTrader.com in the name of Janice Posl-
Bendsen, Janice Posl-Bendsen Revocable Living Trust. David Leonard is shown as a
joint customer on the account documentation.8 Account statements were addressed as
Janice Posl-Bendsen Rev. Living Trust
Janice Posl-Bendsen & Todd Leonard TTEES.9
On January 31, 2007, the balance of the trust MasterTrader.com account was
$2,941,248.76, which was the value on that date of the assets which had been held in the
7 Id. at 13.
8 Dkt. 168.
9 E.g., Dkt. 140.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 5 of 19
Merrill Lynch account. By November 30, 2007, the value of the account was
$655,464.22. David attributes the majority of the loss in value of investments to Janice’s
decisions regarding the holding of the stock of CROCS, but details as to the investment
activities and withdrawals from the account are not provided.
David also established Fit Trade, LLC for the purpose of trading stocks. David
was the only member. Debtor testified that the funds in the account were gifts from
Janice. Ultimately, the investments were a total loss, and the account was closed.
The Complaint alleges the following transfers to Debtors of Janice’s assets by
checks signed by David or by wire transfers: Checks to David and Michelle totaling at
least $227,000; transfers of at least $60,000 to Fitness Quest; checks totaling $195,000
and a wire transfer of $55,000 to Fit Trade, LLC; transfers of $48,000 to Debtors’ four
children; payment of $500 to Lynda Leonard; payment of $2,500 to Anthony Wilson, and
payment of $36,754.82 to Lori Larson, and payment of $18,039.92 to various vendors.
These transfers total $642,794.74.
Debtors admit that these transfers were made with the direct permission and or
direct instruction of Janice. As to transfers to Debtors, when the Merrill Lynch account
was closed, David agreed to manage Janice’s assets in exchange for Janice providing
$10,000 per month living expenses and a bonus based upon performance. Michelle also
was significantly involved by providing personal support and companionship to Janice.
Payments to Lori Larson were for her work in organizing Janice’s financial records and
Case 09-06043 Doc# 196 Filed 09/26/13 Page 6 of 19
providing the information necessary for the preparation of three years worth of past due
Debtors’ relationship with Janice was terminated by Janice in November 2007 or
earlier, and Debtors have not seen her since that time. On August 8, 2008, Janice filed
suit against the Debtors in the District Court of Johnson County, Kansas. She alleged that
pursuant to the Power of Attorney, David took control of plaintiff’s funds for the alleged
purpose of investing and reinvesting the funds for Janice’s benefit, but breached his
fiduciary duties, by among other things, misappropriating $582,377.00 of Janice’s funds.
Causes of action for breach of fiduciary duty, gross negligence, civil conspiracy, and
conversion were alleged. Debtors did not respond to the Petition. An Order of Default
Judgment was entered on October 10, 2008. Debtors were held jointly and severally
liable for $582,377, plus interest and costs. In addition, judgment was entered in favor of
Janice against David for $550.00 plus interest, and David was ordered to provide an
account of all of his transaction regarding Janice’s accounts from January 1, 2007 to the
date of the judgment. In this action, Plaintiffs do not rely upon any collateral estoppel
effect of the prior judgment.
Debtors filed for relief under Chapter 7 on January 29, 2009. Debtors filled out an
information sheet at the request of their counsel, Jeff Koons, and met with him four times.
Mr. Koons completed the schedules. Copies were given to Debtors when they signed
them, but Debtors did not carefully review them. In response to question 1 of the
Statement of Financial Affairs (SOF), income from employment, trade, or business,
Case 09-06043 Doc# 196 Filed 09/26/13 Page 7 of 19
Debtors listed $361,191 for 2007 and approximately $300,000 for 2008. David testified
that the 2007 income was the amount Debtors received from Janice.10 For the same year,
Debtors federal tax return show income from wages of $36,191 and plus other income
totaling less than $100,000. There was no income reported in response to SOF question 2,
income from other sources. SOF question 18 requests information about the nature,
location and name of businesses. Debtors’ SOF lists Fitness Quest and states that David
holds a 48% interest and two other individuals own 51% and 1% respectively. The SOF
does not mention Leonard & Bendsen, LLC, which David contends was owned 100% by
Janice. Fit Trade, LLC, which Debtor contends was his business, the assets of which
were given to him by Janice, was not listed under question 11, closed financial accounts,
or question 18, businesses. Although there was testimony that Janice’s funds had been
used to buy computer equipment, it was not included under SOF 14, property held for
another person, or on Schedule B, personal property. In addition, although there was
testimony the funds provided by Janice were used to buy two bicycles and that Debtor
owned two additional bicycles, the bicycles were not included in Schedule B, personal
property. In general, Debtors declined to testify regarding the particulars of the
schedules, stating that they wanted to review the issues with the attorney who prepared
10 Dkt. 115 (David Todd Leonard depo.) at 136.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 8 of 19
THE ADVERSARY COMPLAINT.
Plaintiffs seek to except their claim, in an unspecified amount, against Debtors
from discharge under various subsections of § 523 and to deny Debtors a discharge under
various subsections of § 727. The Complaint alleges that in 2007, David undertook to
serve as Trustee of the Janice Posl-Bendsen Revocable Living Trust. Debtors admit this
allegation, but state that Debtor was appointed by Janice. The Complaint then alleges the
transfers from the trust in the total amount of $642,794.74 as enumerated above. Debtors
admit to all of the alleged transfers, but respond that they were made with the direct
permission or direct instruction of Janice. Plaintiffs also allege that David engaged in a
pattern of reckless stock trading where he lost significant funds from the revocable trust
(an allegation which Debtors deny), but no amount is specified. In Count 1, Plaintiffs
allege that David breached his fiduciary duty to Janice by writing checks to himself, his
family, and his friends and seek judgment for at least $585,294.74. The Complaint in
Counts II thorough IV then alleges that Debtors’ debt to Plaintiffs, in an amount not
specified, is nondischargeable under §§ 523(a)(2)(money and property obtained by false
pretenses, false representation, or actual fraud); (a)(4) (fraud while acting in a fiduciary
capacity, embezzlement, or larceny); and (a)(6) ( willful and malicious injury to the
property of another). In counts V through VII, Plaintiffs allege that Debtors should be
denied a discharge under §§ 727(a)(3) (concealment, destruction, mutilation, falsification,
or failure to keep or preserve recorded information from which Debtor’s financial
condition or business transactions might be ascertained); (a)(4) (making a false oath or
Case 09-06043 Doc# 196 Filed 09/26/13 Page 9 of 19
account knowingly and fraudulently in or in connection with the bankruptcy case); and
(a)(5) (failure to satisfactorily explain the loss of assets).
A. If Plaintiffs seek summary judgment on their contention of a claim against
Debtors under Count I, judgment is denied.
Plaintiffs’ motion is for summary judgment, not partial summary judgment, so the
Court must address all counts, including Count I, even though it is not discussed in
Plaintiffs’ brief. Count I alleges a right to recover $585,294.74 from David for breach of
fiduciary duty through writing checks on Janice’s trust account without authority payable
to himself, his family, his fiends, or his creditors. Although it is uncontroverted that
David wrote the checks as alleged, it is also uncontroverted for purposes of summary
judgment that Janice directed or authorized the transfers. Plaintiffs are not entitled to
judgment on Count I.
B. Plaintiffs’ motion for summary judgment on the objections to discharge of
Plaintiffs’ claim against debtors is denied.
Exceptions to discharge are construed liberally in favor of the debtor.11 To prevail
on an objection to discharge, a creditor has the burden to prove its case by a
preponderance of the evidence.12
1. The uncontroverted facts do not prove the elements required for exception
to discharge under § 523(a)(2)(A).
11 4 Collier on Bankruptcy, ¶ 523.05 at 523-21 (Alan N. Resnick & Henry J. Sommer eds.-inchief,
16th ed. rev. 2013).
12 Grogan v. Garner, 498 U.S. 279 (1991).
Case 09-06043 Doc# 196 Filed 09/26/13 Page 10 of 19
Section 523(a)(2)(A) excepts for discharge debts for money or property to the
extent obtained by “false pretenses, a false representation, or actual fraud, other than a
statement respecting a debtor’s or insider’s financial condition.” In this case, there is no
evidence of any false pretenses, false representations, or actual fraud. Summary judgment
cannot be granted on denial of discharge under § 523(a)(2)(A).
2. The uncontroverted facts do not prove the elements required for exception
to discharge under § 523(a)(4).
Section 523(a)(4) excepts from discharge a debt for “fraud or defalcation while
acting in a fiduciary capacity, embezzlement, or larceny.” Plaintiffs rely upon the
fiduciary relationship portion of the exception. “The existence of a fiduciary relationship
under § 523(a)(4) is determined under federal law, ... [h]owever, state law is relevant to
this inquiry.”13 “For purposes of section 523(a)(4), the definition of ‘fiduciary’ is
narrowly construed, meaning that the applicable nonbankruptcy law that creates a
fiduciary relationship must clearly outline the fiduciary duties and identify the trust
property.”14 “[A]n express or technical trust must be present for a fiduciary relationship
to exist under § 523(a)(4).”15 Therefore, not all fiduciary relationships which exist under
common law or state law rise to the level actionable under § 523(a)(4).
13 Fowler Brothers v. Young (In re Young), 91 F.3d 1367,1371 (10th Cir. 1996).
14 4 Collier on Bankruptcy, ¶ 523.10[d] at 523-73.
15 In re Young, 91 F.3d at 1371.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 11 of 19
“Under Kansas law, the elements necessary to create an express trust are: (1) an
explicit declaration and intention to create a trust; (2) the transfer of lawful and definite
property by a person capable of making transfer thereof; and (3) a requirement to hold the
property as trustee for the benefit of a cestui que trust with directions as to the manner in
which the trust funds are to be applied.”16 “Neither a general fiduciary duty of
confidence, trust, loyalty, and good faith, nor an inequality between the parties’
knowledge or bargaining power is sufficient to establish a fiduciary relationship for
purposes of dischargeability.”17 “A technical trust differs from an express trust in that the
intention of the parties is not relevant, and the parties’ fiduciary obligations are imposed
by law, not implied by law.”18
The Court finds that Plaintiffs have not sustained their burden of proof to show a
fiduciary relationship. When moving for summary judgment, Plaintiffs appear to be
relying primarily upon the admissions of Debtors in their depositions that they were
acting as fiduciaries, or trusted advisors and confidants, for Janice. But, as examined
above, for purposes of dischargeability, the bankruptcy law requires an express or
technical trust - more than a position of trust and confidence.
16 Jenkins v. IBD, Inc., 489 B.R. 587, 598 (D. Kan. 2013), quoting In re Foy, 2010 WL 2584193,
*3 (Bankr. D. Kan. June 21, 2010).
17 In re Young, 91 F.3d at 1372 (citiaitons omitted).
18 Jenkins v. IBD, Inc., 489 B.R. at 598.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 12 of 19
The Complaint alleges that in 2007 David “undertook to serve as Trustee of the
Janice Posl-Bendsen Revocable Living Trust,”19 thereby apparently intending to allege
the creation of an express trust. The uncontroverted facts establish that the transfers
which are alleged to be the basis of the claim by Plaintiffs against Debtors were, at least
for the most part, made from the account which was established on December 14, 2006 at
MasterTrader.com in the name of Janice Posl-Bendsen, Janice Posl-Bendsen Revocable
Living Trust. David and Janice are named as joint customers on the account
documentation,20 and the account statements name both Janice and David as trustees.
These facts do not satisfy the criteria for an express trust under Kansas law. First,
the creation of the MasterTrader.com account does not evidence an explicit declaration
and intention to create a trust. Second, the assets of the revocable trust were transferred
to a MasterTrader.com account titled in the name of the trust; the assets were not
transferred to David, the alleged trustee. Third, there is no evidence that Janice provided
directions to David regarding the investments. Janice, as well as David, was a customer
for the account, with the ability to direct investments. In addition, there is no basis in the
record to find a technical trust.
19 Dkt. 1 at ¶ 13. Plaintiffs do not rely upon the relationship created by the May 31, 2006 General
Durable Power of Attorney naming David as Janice’s attorney in fact and David denies having acted
under the authority granted to him by that instrument. General powers of attorney have been held to
create fiduciary relationships for purposes of dischargeability. E.g., Collier v. Goepp (In re Goepp), 455
B.R. 388 (Bankr. D.N.J. 2011).
20 Dkt. 168.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 13 of 19
Further, assuming a fiduciary relationship between Janice and one or both Debtors,
denial of discharge requires that the debt excepted from discharge for either fraud or
defalcation while acting as a fiduciary. Fraud, for purposes of § 523(a)(6) “has generally
been interpreted as involving intentional deceit, rather than implied or constructive
fraud.”21 Plaintiffs provide no evidence of intentional deceit. The United States Supreme
Court, in Bullock v. BankChampaign, N.A., 22 recently held that defalcation for purposes of
the exception to discharge requires an intentional wrong. It stated:
Thus, where the conduct at issue does not involve bad faith,
moral turpitude, or other immoral conduct, the term requires
an intentional wrong. We include as intentional not only
conduct that the fiduciary knows is improper but also reckless
conduct of the kind that the criminal law often treats as the
Plaintiffs have provided no uncontroverted facts evidencing defalcation.
3. The uncontroverted facts do not prove the elements required for exception
to discharge under § 523(a)(6).
Section 523(a)(6) excepts from discharge debts “for a willful and malicious injury
by the debtor to another or to the property of another.” An injury is malicious within this
exception “if it was wrongful and without just cause or excuse.”24 Malicious conduct is
21 4 Collier on Bankruptcy, ¶ 523.10[a] at 523-71.
22 Bullock v. BankChampaign, N.A., __ U.S. __, 133 S.Ct. 1754 (2013).
23 Id. at 1759.
24 4 Collier on Bankruptcy, ¶523.12 at 523-92.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 14 of 19
more culpable than recklessness.25 Willfulness refers to a deliberate and intentional act
that necessarily leads to injury.26 Plaintiffs have provided no evidence of willful and
malicious injury to Janice’s property.
C. Plaintiffs’ motion for summary judgment on the denial of discharge claims
Grounds for denial of discharge are limited to those clearly expressed in the
Code.27 “The burden of proof for an objection to discharge is on the objector.”28
1. The uncontroverted facts do not prove the elements required for denial of
discharge under § 727(a)(3).
Section 727(a)(3) provides that a debtor shall be granted a discharge unless
“the debtor has concealed, destroyed, mutilated, falsified, or failed to keep or preserve
any recorded information, including books, documents, records, and papers, from which
the debtor’s financial condition or business transactions might be ascertained, unless such
act or failure to act was justified under all of the circumstances of the case.” “The
purpose of the objection is to ensure documentation to permit an objective determination
of the debtor’s true financial status.”29 “[A] prima facie case under Code § 727(a)(3) may
be made upon showing that (1) the debtor failed to maintain and preserve adequate
25 Id. at 523-93, citing In re Long, 774 F.2d 875, 881 (8th Cir. 1985).
26 Id., citing H.R. Rep. No. 595, 95th Cong., 1st Sess. 365 (1977).
27 6 Collier on Bankruptcy, ¶ 727.01 at 727-7.
28 Id., ¶ 727.01 at 727-8.
29 4 William L. Norton, Jr., and William L. Norton III, Bankruptcy Law & Practice 3d, § 86:9 at
86-29 to 86-30 (Thomson Reuters/West 2013).
Case 09-06043 Doc# 196 Filed 09/26/13 Page 15 of 19
records, and (2) such failure makes it impossible to ascertain the debtor’s financial
condition and material business transactions.”30
In the Complaint, Plaintiffs allege that Debtors withdrew and wrote checks for at
least $585,294.74 from Plaintiff’s trust account for their personal use or the benefit of
their family, friends, and creditors but have failed to provide an accounting of these
“expenditures.”31 The Court understands “expenditures” to be referring to the
expenditures of the trust, not the expenditures of the Debtors. The predicate for denial of
discharge is a debtor’s failure to keep books from which the debtor’s financial condition
can be ascertained. It does not apply to these Debtors’ alleged failure to maintain
complete records as to the trust’s financial condition and transactions.
2. The uncontroverted facts do not prove the elements required for denial of
discharge under § 727(a)(4).
Section 727(a)(4)(A) provides that a debtor shall be granted a discharge unless
“the debtor knowingly and fraudulently, in or in connection with the case made a false
oath or statement.” A false statement or omission in a debtor’s schedules may be
sufficient for denial of discharge.32 One commentator summarizes the applicable law as
Under current Official Bankruptcy Forms, the debtor is
required to verify the completeness and accuracy of any
30 Id. at 86-29.
31 Dkt. 1 at ¶ 33.
32 6 Collier on Bankruptcy, ¶727.04[c] at 727-38.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 16 of 19
schedule of assets, debts, or affairs filed in a case. However,
since the failure to list an asset must be both knowing and
fraudulent, mere inadvertence is not sufficient to establish an
objection. Where there is a knowing failure to list a
substantial asset, an inference of fraudulent intent may be
drawn in the absence of mitigating circumstances. The failure
to amend schedules to include omitted information concerning
assets is a reckless indifference to the truth, which is
equivalent to fraud.
The false oath or account must relate to a material
matter. The failure to list a significant asset is the most
frequently established basis for denying discharge under this
section, and certainly satisfies the materiality element.
Materiality under Code § 727(a)(4)(A) means that the
statement must bear a relationship to the debtor's financial
transactions or to the bankruptcy estate, concern the
disclosure of assets, or relate to the disposition of assets. If
there is a failure to list a valuable asset, materiality is
Although the record evidences inaccuracies and omissions from Debtors’
schedules, particularly their SOF, which were signed the Debtors under oath of
completeness and accuracy, the uncontroverted facts do not evidence the elements
necessary for denial of discharge. As alleged in Count VI of the Compliant, Debtors did
not disclose funds transferred to them from the Plaintiff’s trust in response to SOF
question 2,34 but Debtors in response to question 1 did disclose income from Plaintiffs.
The amount is consistent with Debtors’ testimony admitting to the receipt of the transfers
alleged in Count I of the Complaint. The discrepancy between the income from Plaintiffs
33 4 Norton Bankruptcy Law & Practice, ¶ 86:11at 86-33 to 86-34.
34 Dkt. 1 at ¶ 37.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 17 of 19
disclosed in the SOF and the lesser amount reported in Debtors’ 2007 federal income tax
return raises questions of accuracy of the disclosures, but does not prove falsity. Debtor’s
interest in Fitness Quest, LLC was disclosed. Although Leonard and Bendsen, LLC was
not mentioned in the SOF, Debtor testified that it was owned solely by Janice. Fit Trade,
LLC also was not mentioned in the SOF, but Debtor testified that it, as well as Leonard
and Bendsen, LLC had no value. The materiality of the omissions from the SOF is not
established. Likewise, the materiality of the omissions from Schedule B of computer
equipment and bicycles purchased with trust assets is not established.
In addition, Plaintiffs have not shown by uncontroverted facts that the inaccuracies
and omissions were knowing and fraudulent. Debtors were represented by counsel when
the schedules were prepared, but are presently pro se. When questioned about the
schedules during their depositions, Debtors’ responses did not establish that they acted
either knowingly or fraudulently. Rather, Debtors recognized the need to consult with
their former counsel before responding to detailed questioning as to the reasons for the
manner in which the schedules were completed.
3. The uncontroverted facts do not prove the elements required for denial of
discharge under § 727(a)(5).
Section 727(a)(5) provides that the court shall grant the debtor a discharge, unless
“the debtor has failed to explain satisfactorily, before determination of denial of discharge
under this paragraph, any loss of assets or deficiency of assets to meet the debtor’s
liabilities.” The uncontroverted facts do not include any evidence to support Plaintiffs’
Case 09-06043 Doc# 196 Filed 09/26/13 Page 18 of 19
allegation in Count VII of the Complaint for denial of discharge under this section. The
Debtors’ deposition testimony, the only evidence relied upon by Plaintiffs, did not
address the Debtors’ loss of assets.
For the foregoing reasons, Plaintiffs’ motion for summary judgment is denied as to
all counts alleged in the Complaint.
IT IS SO ORDERED.
Case 09-06043 Doc# 196 Filed 09/26/13 Page 19 of 19