Bankruptcy Does Not Discharge Some Attorneys Fees

Bankruptcy does not solve all debt problems. This week I interviewed a client who wanted to file Chapter 7 bankruptcy to stop a lawsuit. The prospective client had been appointed trustee of a family member’s trust. After the family member died, he distributed over $100,000 of trust property to himself thinking he was entitled to the distribution. Subsequently, another heir filed a lawsuit against the client in state court alleging that he had breached his fiduciary duty as trustee by making the distribution, and that the money was actually intended to go to the other family member. The plaintiff was seeking damages plus about $50,000 in attorneys fees owed to his attorney. The prospective client thought he would lose the case in state court, and even though he was willing to give back the $100,000, he wanted to file bankruptcy in order to discharge the attorneys fees liability. I told him bankruptcy would not solve the problem.

A judgment for breach of fiduciary duty is not dischargeable in bankruptcy. If the defendant filed bankruptcy before the state court entered a civil judgment the plaintiff either could file the same claim in bankruptcy court or could ask the bankruptcy court judge to send the case back to state court in order complete the pending litigation there. Attorneys fee liability is not listed in the bankruptcy code as a non-dischargeable debt. But, when the fees are incurred in connection with a debt which itself is non-dischargeable the attorney fee liability attaches to the non-dischargeable debt and the fees too cannot be discharged. The same rule applies to punitive damages attached to a non-dischargeable claim. Filing bankruptcy would enrich a bankruptcy trustee who is paid a percentage of recovered assets but would not reduce the debt owed to this plaintiff.

The only benefit for filing bankruptcy in this instance may be to show the creditor that the prospective debtor has no non-exempt assets other than the money he is already willing to surrender. The better tactic would be to offer the money to the plaintiff as a settlement to avoid continuing litigation.

posted by Jonathan Alper, bankruptcy and asset protection attorney, Orlando, Florida