Opinion
Case No. 93-20358, Chapter 7
June 21, 1996
ORDER ON REQUEST FOR PAYMENT OF ATTORNEY'S FEES
THIS MATTER comes before the court on the amended application for an allowance of attorney fees and costs filed by Mr. Georg Jensen. The United States Trustee objected to the application. The court held a hearing on the application on April 18, 1996. Now the court, having reviewed the pleadings on file and considered the applicable law and the arguments of the parties, hereby rules on the application.
Facts
Mr. Jensen filed this case for the debtor as a chapter 11 on May 13, 1993. With the petition he filed the disclosure statement required by Fed.R.Bank.P. 2016(b). In it he stated that he had received no funds as compensation except the filing fee. The source of that money was identified as earnings, wages, and compensation for service performed. In the statement of affairs, a payment was listed to Mr. Jensen in the amount of $5,000.
On May 9, 1993, the debtor in possession filed an application to retain Mr. Jensen as attorney. Mr. Jensen's affidavit was attached in which he stated that he had no prior connection with the debtor or its creditors, except for circumstances not applicable here. He stated further that he did not believe prior contacts with the debtor in possession, if any, represented an interest adverse to the estate or were disqualifying.
On May 18, 1993, the court appointed Mr. Jensen to represent the debtor in possession. Shortly thereafter, the court converted the chapter 11 case to one under chapter 7. On August 11, 1993, the Farmers State Bank moved the court for relief from the automatic stay. Included in the creditor's collateral was all the debtor's machinery and equipment, a Case backhoe, and other specified items. Mr. Jensen filed an objection to the motion on behalf of the debtor. Eventually, the parties and the chapter 7 trustee stipulated to stay relief and the property was liquidated. The backhoe was not listed on the debtor's schedules, nor was the sale listed in the debtor's statement of affairs.
On January 19, 1996, Mr. Jensen filed an application for attorney fees. On the required cover sheet, he stated that he had received $5,000 as a retainer from the corporate debtor's shareholders. This was his first disclosure that any retainer had been paid. The application for fees and expenses totaled $4,999.99.
The United States Trustee objected. At the hearing, counsel was unclear concerning the source of the retainer. The court denied the application without prejudice and ordered that counsel should amend his application to provide a complete explanation of the discrepancies surrounding the retainer and the source of the retainer funds.
On March 11, 1996, Mr. Jensen submitted the instant application. In it he seeks a total of $7,051.54, an increase of approximately $2,000 for the same time period. There is no information in the application concerning the receipt or source of the retainer. On the cover sheet, counsel states that the retainer was $5,000, but the source of the funds is still not disclosed.
The U.S. Trustee objected. Mr. Jensen filed a traverse in which he finally stated that the retainer was paid from corporate funds with a cashier's check purchased by the debtor. At the hearing, the United States Trustee's attorney indicated to the court that the source of the funds was from the sale of the backhoe encumbered by the lien of the Farmers State Bank. Thus, the retainer paid to Mr. Jensen was with funds that were the cash collateral of the creditor and property of this estate.
Mr. Jensen did not dispute this. He stated that he thought the shareholders paid the retainer personally, but deleted his reference to them in the second fee application when he found out otherwise.
DISCUSSION
A debtor in possession may, with the court's approval, employ an attorney that does not "hold or represent an interest adverse to the estate" and that is a disinterested person. 11 U.S.C. § 327 (a). A disinterested person is defined by the code as one who
does not have an interest materially adverse to the interest of the estate or of any class of creditors or equity security holders, by reason of any direct or indirect relationship to, in connection with, or interest in, the debtor. . .
Counsel for the debtor in possession is a fiduciary of the estate and as such, has a duty to fully disclose possible conflicts and fee arrangements. In re Bonneville Pacific Corp. , 1996 W.L. 277427 p. 18 (Bankr.D.Utah 1996). The attorney is required by Fed.R.Bankr.P. 2014 to disclose any connections with the debtor or creditors. From this mandatory disclosure, the court can determine whether or not the application should be approved.
The attorney must also evaluate any actual or potential conflicts. In re Amdura, 139 B.R. 963, 978 (Bankr.D.Colo. 1992). An actual conflict of interest has been defined as "an active competition between two competing interests, in which one interest can only be served at the expense of the other." In re Adam Furniture Industries, Inc., 158 B.R. 291, 301 (Bankr.S.D.Ga. 1993). In the attorney's examination and investigation process, counsel must do more than go through the motions of filing the necessary documents. The attorney must disclose even arguable conflicts of interest, so that the court may fairly determine whether those facts are sufficient to establish a disqualifying conflict of interest.
The attorney for the debtor is also required to file a disclosure statement of compensation pursuant to Rule 2016, which implements the requirement of § 329. The disclosure of compensation paid is mandatory rather than permissive. In re Investment Bankers, Inc., 4 F.3d 1556, 1565 (10th Cir. 1993), cert. denied, 114 S. Ct. 1061 (1994).
Any retainer taken must also be disclosed pursuant to § 329(a). "This disclosure is appropriate at the inception of the case, not its end." in re NBI, Inc., 129 B.R. 212 (Bankr.D.Colo. 1991). The court examines the circumstances as of the date of the appointment, not in a no harm, no foul, retrospective mode. In re Interwest Business Equipment, Inc., 23 F.3d 311, 317 (10th Cir. 1994).
The reason for early disclosure of compensation taken and of actual and potential conflicts of interest is obvious. The court has no duty to peruse the file to find evidence of such information. Yet the information is essential for the court to determine whether counsel should be appointed.
The failure of counsel to fully disclose potential conflicts is grounds for a denial of all fees, although the disallowance of all fees is not mandatory. In re Smartt, 132 B.R. 765, 770 (Bankr.D.Colo. 1990). The bankruptcy court has broad discretion to deny fees or order the disgorgement of a retainer taken. In re Prudhomme, 43 F.3d 1000, 1003 (5th Cir. 1995).
The failure to adequately disclose a fee arrangement or compensation taken is also sufficient grounds to deny compensation entirely. In re Investment Bankers, Inc ., 4 F.3d at 1565; In re Hills , 170 B.R. 404 (Bankr. 1). Ariz. 1994). Further, a negligent failure to disclose relevant facts will not relieve counsel of the consequences of the failure. In re National Distributors Warehouse Co . , Inc., 148 B.R. 558, 562 (Bankr.E.D.Ark. 1992).
With these principles of law in mind the court turns to this case. Mr. Jensen did not disclose the receipt of a prepetition retainer of $5,000 in his Rule 2016 statement. This statement has never been amended. The court does not know whether the retainer was taken before or after the filing of the bankruptcy case. Even if the result of negligence, this failure is, in itself, sufficient to deny all fees.
Equally as serious is Mr. Jensen's failure to inform the court of the source of the funds. Mr. Jensen conducted a U.C.C. lien search prior to filing this case. With a proper investigation, he would have known that the backhoe was encumbered and sold out of trust. He had a duty to inquire from his client as to the source of the funds paid to him from a cashier's check purchased by the corporation.
At the first hearing, Mr. Jensen represented that he was unsure of the source of the retainer. After the court ordered Mr. Jensen to provide additional information regarding the source of the retainer funds, he still was unable to do so. Not until the United States Trustee filed a second objection to his fee application did he make this information part of the record. Mr. Jensen failed in his duty to discover and disclose this information to the court.
Whether he realized it or not at the time, Mr. Jensen received cash collateral as a retainer. This immediately created an unacceptable conflict of interest between him and a creditor of the estate and between the debtor and the creditor. Whether the court would have appointed him under those circumstances is only speculation at this point. Certainly, Mr. Jensen had a fiduciary duty to segregate the cash collateral. If disclosed, the funds would have been treated differently.
The court concludes that the failure to investigate and disclose the amount and source of the retainer funds from the inception of the case, and the failure to investigate and disclose the conflicting claims to the funds, requires the denial of compensation.
It is ORDERED that Mr. Jensen's application for fees and the reimbursement of expenses is denied; and, further ORDERED that Mr. Jensen shall turnover to the chapter 7 trustee the funds he received as a retainer in this case.