Opinion
2010-12-06
Sue RUBERTO, Claimant, v. Michael J. DeFILIPPO, Defendant.
Sue Ruberto, Claimant, pro se. Michael J. Defilippo P.C., Staten Island, for Defendant.
Sue Ruberto, Claimant, pro se.
Michael J. Defilippo P.C., Staten Island, for Defendant.
PHILIP S. STRANIERE, J.
Claimant, Sue Ruberto, commenced this small claims action against defendant, Michael J. DeFilippo, an attorney, seeking to recover legal fees. A trial was held on October 21, 2010. Both sides appeared without counsel.
Claimant testified that the defendant was retained on February 28, 2008 to assist in the probate of her mother's estate. In November 2008, claimant sought to have the $5,500.00 retainer returned as the defendant had made no progress in probating the estate. Defendant did not return the money and alleges that there were in fact two retainers, one for the estate and another to do estate planning for the claimant's father which would include preparation of a trust, health care proxy and related documents. Defendant has not placed into evidence either retainer agreement nor has he produced any documentation to support his contention that he performed work for the claimant's father and applied the $5,500.00 retainer money to those services. The thrust of the defense is that the defendant and his wife had filed for personal bankruptcy in New Jersey in December 2008 and had received a discharge of debtor from that court on March 24, 2009. Defendant is alleging that he intends to return to the bankruptcy court to amend the petition to include this and other return of legal fee awards against him. He also contends that the claimant has sued the wrong entity in that the services were rendered by "Michael DeFilippo, PC."
Claimant had previously sought fee arbitration of this dispute with the Richmond County Bar Association Fee Arbitration as set forth in the Rules of the Chief Judge. The defendant did not participate in that process which resulted in an award in the claimant's favor of $5,500.00 on April 8, 2010.
Previously, this court has dealt with the defendant's contention that a former client was suing the wrong entity and it rejected that contention ( Spina v. DeFilippo, 27 Misc.3d 1225(A), 2010 WL 2026026). The court is incorporating that reasoning into this decision as well and rejecting that defense.
The court is also rejecting any bankruptcy defense. Defendant has presented no law to support his contention that claimant and other's like her are "unscheduled creditors" of the defendant. In fact, the United States Bankruptcy Code sets forth certain exceptions to a discharge of debts (11 USCA 523(a)). It provides:
(a) A discharge under section 727, 1141, 1228(a), 1228(b), or 1328(b) 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; ... (4) for fraud or defalcation while acting in a fiduciary capacity, embezzlement, or larceny; ...
A strong argument can be made that the Bankruptcy Court would not entertain defendant's application. Defendant obtained these legal fees by "false pretenses" or by "a false representation." He accepted advanced legal fees from the claimant and either had no intention of performing the legal services as agreed, or after entering into the agreement with the claimant, misrepresented to the client that services were being performed as he had been contracted to do when in fact, no such services were being rendered, while defendant took the retainer fees and used those monies for his own benefit.
Further, defendant's actions might constitute a defalcation under 11 USCA 523(a)(4) because the defendant was acting in a fiduciary capacity when he was given the retainer monies. Defendant knew he was not entitled to retain this payment. Even if he reasonably believed he had a claim to the monies because he had performed the contracted for services, he forfeited any credibility in that regard by not participating in the Richmond County Bar Association Fee Dispute Arbitration process; then refusing to refund the monies awarded to the claimant by the arbitration panel; and finally by not defending this action on the merits. It can only be concluded that a defalcation in violation of his fiduciary obligation as a member of the bar to a client, has occurred.
Although ethics rulings in New York do not require an attorney to place "advance payment retainer" monies in a trust account to be drawn down as work is performed (New State Bar Ethics Opinion 816-10/26/97; see also Opinion 570 (1985)), this opinion is based on the ethical mandate that the lawyer "must promptly return any portion of the advance payment retainer that is not earned" (DR 9-102(C)(4)). Part of the rational cited in the ethics opinion for not requiring an attorney to segregate an advance payment retainer in a trust account is that the monies are therefore exempt from claims of creditors of the client. According to the reasoning in these opinions, this procedure insures that clients will be able to retain counsel. The issue of who "owns" the retainer, may not seem that important in most attorney-client situations because in order for a creditor to attach those funds, the creditor would have to have a judgment and to have undertaken enforcement proceedings. It does become an issue in the area of bankruptcy law where the clients are seeking counsel because of extensive debt.
On the other hand, in situations such as the one currently before the court, such a procedure insures that a client seeking to recover an advance payment retainer will be reduced to trying to enforce a potentially uncollectible judgment if the attorney converts the monies for his or her own use and has no assets. The ruling, by not protecting the client's funds, makes the monies to which the client is entitled subject to execution by the judgment creditors of the lawyer. Perhaps the answer is for the legislature to make such prepaid fees exempt from execution by creditors of both the client and the lawyer.
The law has recognized three different categories of retainers in regard to lawyer-client relations. The "classic retainer fee arrangement" is one in which money is paid by the client to the attorney to secure the lawyer's availability over a prescribed period of time. In this situation the attorney would be entitled to the fee regardless of whether any services are performed by the client [ In re McDonald Bros. Const. Inc., 114 B.R. 989, 998 (Bankr.N.D.Ill.1990); Baranowski v. State Bar, 24 Cal.3d 153, 164 (1979) ]. This is sometimes referred to as a "general" or "true" retainer.
The second type of retainer is called a "security retainer." It is a retainer agreement in which the attorney holds the money solely to secure the ability of the client to pay for the services the client expects the lawyer to render in the future. Under a security retainer the money is not present payment for future services. The money remains the property of the client until the attorney applies it to charges incurred for services actually rendered. In this situation, all "unearned" fees are required to be returned to the client [ In re McDonald Bros., supra, 999]. In some jurisdictions, payments pursuant to a "security retainer" must be placed in an escrow or trust account to be drawn upon only as the fee is earned.
The third category of retainer known as an "advance payment retainer." The client pays the attorney in advance for all or some of the legal services which the attorney is expected to provide on behalf of the client. Traditionally, under this type of retainer ownership of the funds is intended to pass to the attorney at the time of payment in exchange for the promise by the attorney to provide the legal services [ In re McDonald Bros., supra, 1000]. As stated above, absent a "security retainer" being specifically created in the retainer agreement, New York treats all such legal fee payments as an "advance payment retainer."
The fact that under New York law ownership of the fee does not remain with the client, does not mean that the defendant can have his legal and ethical obligation to return the unearned fee discharged in bankruptcy. The court has noted that if the actions of the defendant are determined to be a "defalcation" then the requirement to repay the unearned legal fee cannot be discharged in bankruptcy. Cases interpreting the Bankruptcy Code have held that the attorney-client arrangement is a fiduciary relationship. As the United State Court of Appeals, Second Circuit, stated:
Of course, the attorney-client relationship entails one of the highest fiduciary duties imposed by law. See, In re Cooperman, 83 N.Y.2d 465, 472, 611 N.Y.S.2d 465, 633 N.E.2d 1069 (1994) ("This unique fiduciary reliance ... is imbued with ultimate trust and confidence.") In Cooperman, the New York Court of Appeals explained that "[t]he duty to deal fairly, honestly and with undivided loyalty superimposes onto the attorney-client relationship a set of special and unique duties, including maintaining confidentiality, avoiding conflicts of interest, operating competently, safeguarding client property and honoring the clients' interests over the lawyers." Id. at 472, 611 N.Y.S.2d 465, 633 N.E.2d 1069, ...
As a result, the attorney-client relationship, although usually not involving a technical trustee or express trust, has long been understood to be a fiduciary relationship within the meaning of the defalcation exception. See, e.g. In re Young, 91 F.3d, 1367, 1372 (10th Cir.1996) ("[C]ourts have often found the requisite trust relationship to be created by the applicable Rules of Professional Responsibility."); Marchiando , 13 F.3d at 1115 ("[A] lawyer is deemed the fiduciary of his client [under Section 523], even if he does not manage a fund entrusted to him by the client...."); In re Gelson, 12 F.Supp. 924, 925 (E.D.N.Y.1935) (An attorney receiving money which is the property of is client, does so in a fiduciary capacity within the purview of the bankruptcy law).
[ In re Hayes, 183 F.3d 162, 168 (1999) ].
The full citation is: Matter of Marchiando, 13 F.3d 1111, C.A.7, (Ill.1994).
The court in In re Hayes in holding that the attorney's fiduciary obligation extends to matters involving fee arrangements went on to state that:
"The fiduciary obligation owed by an attorney to his client extends to all aspects of the attorney-client relationship, including the means by which the relationship is created, as evident from the extensive regulation of attorney-client fee arrangements" [ In re Hayes, supra, 169]. The Hayes court also cited and agreed with Judge Learned Hand's decision in Central Hanover Bank & Trust Co. v. Herbst, 93 F.2d 510, 512(2nd Cir.1937) where the court noted:
All we decide is that when a fiduciary takes money upon a conditional authority which may be revoked and knows at the time that it may, he is guilty of a "defalcation" though it may not be a "fraud," or "embezzlement," or perhaps not even a "misappropriation." [ In re Hayes, @172].
The Hayes court went on to conclude that the actions of an attorney where there is no attempt to match the fees to the value of services rendered would amount to a defalcation under the Bankruptcy Code and make such a legal fee refund obligation a non-dischargeable debt.
Defendant was not entitled to the monies paid him by this client. It was never his money. He never earned the fee. Because defendant did not establish that any legal services were performed, the money remained an asset of the claimant client. Professionals, such as attorneys, cannot be paid unless they perform services. The mere fact that the client advances money through a retainer payment, does not entitle the attorney to claim "ownership" of the funds at the moment of receipt. It is in effect money of the client to be held in a constructive trust with the attorney being entitled to payment as he performs work. If the attorney does not perform the work he must return the money.
The Code of Professional Responsibility was in effect until April 1, 2009 and when the retainer was entered into provided: "A lawyer who withdraws from employment shall refund promptly any part of a fee paid in advance that has not been earned" (12 NYCRR § 1200.15(a)(3)). No similar rule existed in regard to prepaid fees when a lawyer was discharged by the client. However, because an attorney must "earn" his or her legal fee, it follows that unearned fees must be returned. The Code of Professional Responsibility makes an attorney a fiduciary as to funds in his or her possession belonging to another and may not commingle or misappropriate such funds (22 NYCRR § 1200.46).
To permit the defendant to escape from legal fee refund obligations by the use of a discharge in bankruptcy would undermine public confidence in the legal system and make a mockery of the lawyer-client relationship.
Conclusion:
Judgment for claimant. Claimant has proven her prima facie case. Defendant's defenses are without any merit. The defendant's obligation arose from an attorney-client arrangement. This is a fiduciary relationship. As the money paid to the defendant was unearned and arose from a fiduciary relationship, it is not a dischargeable debt under the Bankruptcy Code as the failure of the defendant to return the unearned fee constitutes a defalcation under the law. Claimant is advised to consult counsel in the event the defendant attempts to use the bankruptcy process to discharge this debt.
Although the claimant is entitled to a return of the entire $5,500.00 given to the defendant as a retainer, claimant's recovery is limited to the $5,000.00 jurisdictional limit of the small claims part.
Judgment for claimant in the amount of $5,000.00 with interest from February 28, 2008, the date of payment to the defendant, costs and disbursements.
Exhibits, if any, will be available at the office of the clerk of the court thirty days after receipt of a copy of this decision.
The foregoing constitutes the decision and order of the court.