In re Marotta

479 B.R. 681

In re Mary Antonia MAROTTA, Debtor. In re William Kenneth Hall, Debtor. In re Shanteia Letrice Warren, Debtor. In re Louanna H. Blackman, Debtor. In re Holly Pochis Overton, Debtor. In re Michael Wallace Pettiford, Debtor. In re Andrea Victoria Pettiford, Debtor. In re George Penn Gaitling Jr. and Sherita Warren Gaitling, Debtors. In re Thomas Riley Sweatt, Debtor. In re Nakeisha Denise Thorpe, Debtor. In re Roy Lee Newman and Cynthia Kay Newman, Debtors. In re Ethel Renee Graves, Debtor. In re Dawn W. Martin, Debtor.

Nos. 12–10409, 12–10446, 12–10449, 12–10487, 12–10540, 12–10552, 12–10585, 12–10608, 12–10619, 12–10620, 12–10639, 12–10663, 12–10685.

United States Bankruptcy Court,

M.D. North Carolina,

Greensboro Division.

Oct. 9, 2012.

John T. Orcutt, Raleigh, NC, for Debtors.

MEMORANDUM OPINION

THOMAS W. WALDREP, JR., Bankruptcy Judge.

At issue in these cases is the effect of a “no money down” arrangement between debtors and their attorneys under Chapter 13 of the Bankruptcy Code. In each of these thirteen cases, the parties entered into a fee arrangement in which the debtor paid nothing “up front” to file a Chapter 13 bankruptcy petition, and the debtor's attorney was obligated to pay certain prepetition fees, including the bankruptcy filing fee, when the case was filed. Under this arrangement, the filing fee and other fees would be repaid through the Chapter 13 plan, along with the standard $3,500.00 flat rate attorney fee in this District. Based on this arrangement, the United States Bankruptcy Administrator (the “Bankruptcy Administrator”) and the Standing Chapter 13 Trustee (the “Trustee”) filed objections to confirmation of the proposed plan in each case.

The Court held confirmation hearings in each of these cases on July 26, 2012, at which time the Court confirmed each plan, preserving the issues raised by the Bankruptcy Administrator's and Trustee's objections and taking them under advisement. The relevant facts of each case are similar or identical; therefore, the Court will address all thirteen cases together in this consolidated opinion and enter a separate order in each case.

I. FACTS

Beginning on July 5, 2011, the website of The Law Offices of John T. Orcutt P.C. (“Orcutt”) advertised a “$0 Money–Down Bankruptcy” to “qualified” clients. Ex. 1. The Orcutt website, in both written statements and video ads, offered to advance the court costs related to filing for bankruptcy. See The Law Offices of John T. Orcutt website, available at http:// www. billsbills. com/ introducing- o- money- down- bankruptcy. The website specifically provides that Orcutt will “advance” the filing fee and other fees, and it defines “advance” as “ ‘pay on [the client's] behalf’.” Ex. 1. The website footnotes that “Costs advanced will be added to the Chapter 13 plan for reimbursement.” Ex. 1.

Clients seeking bankruptcy assistance entered into contracts with Orcutt, which charged them a flat fee for legal services. The contracts provide that, in addition to listed legal services, the flat fee included the costs of the filing fee, credit reports, the pre-filing “online” credit counseling certification, and PACER access, all of which are expenses generally paid by debtors before filing the bankruptcy petition. See Ex. 2. As a result, the flat fee in the contract, which varied in amount among the debtors, reflected the standard legal fee plus an additional $335.00 in other fees.

Moments after filing a Chapter 13 petition on behalf of each debtor, Orcutt filed an Amended Disclosure of Compensation of Attorney for the Debtor. Each disclosure states that Orcutt agrees to accept the standard fee for legal services plus additional “unreimbursed necessary expenses I advanced on behalf of the debtor” and lists the various fees included in the “flat fee.” Amended Disclosure of Compensation of Attorney for Debtor at ¶ 1.¹ The disclosure also lists, as one of the legal services rendered in exchange for the requested fee, “[p]ayment, on behalf of the Debtor, of necessary expenses” and specifically includes the above-mentioned fees. Amended Disclosure of Compensation of Attorney for Debtor at ¶ 6.e. Additionally, some, but not all, of the debtors' petitions list Orcutt on Schedule E as a creditor holding an unsecured administrative expense priority claim for the full amount of the contractual “flat fee.”

On July 26, 2102, the Court held a hearing on the matter. At the hearing, the Bankruptcy Administrator made seven arguments against the practice of advancing fees to clients: (1) the advance is essentially a loan to the client that represents prepetition debt and should be a prepetition unsecured claim; (2) the unsecured claim, which is classified as an administrative priority claim in the debtors' schedules, is not an administrative claim under Section 330(a)(4)(B); (3) classifying the prepetition loan as an administrative claim violates Section 1322 as an impermissible classification; (4) the firm's practice of extending credit to its clients constitutes advice to incur debt in violation of Section 526(a)(4); (5) the advance is neither reasonable nor necessary under Section 330; (6) the practice of extending credit is against public policy because it damages the bankruptcy system as a whole, helps the Orcutt firm to the detriment of unsecured creditors, puts Chapter 7 debtors into Chapter 13 cases, and is an indicia of a bad faith filing; and (7) the practice of advancing fees poses ethical issues because making loans to clients violates North Carolina Rules of Professional Conduct 1.7 and 1.8. Hr'g 2:23:29–2:36:45.

The Trustee joined the Bankruptcy Administrator's arguments and emphasized that the basis for her objection to confirmation was that the practice of advancing filing costs to the debtor transforms the attorney into a creditor. Furthermore, the Trustee argued that the claim is not an administrative expense but rather an unsecured claim classified as an administrative expense, which violates Section 1322 by unfairly discriminating against other unsecured creditors. The Trustee agreed with the Bankruptcy Administrator's remaining concerns. H'rg 2:37:04–2:39:30.

In response, Orcutt argued that the issue turns on whether the advancement is a loan, which would determine whether it is unsecured debt or an administrative claim. If the advancement is an unsecured debt, then the scope of the matters before the Court is much narrower because no issues arise regarding unfair classification, harm to unsecured creditors, or ethics. Orcutt further argued that the firm's practice of advancing fees simultaneously benefits debtors and the Court: Orcutt's advancements allow the repayment of the fee to be spread out over the life of the plan, while shifting the burden of nonpayment of the filing fee from the Court to the law firm. Orcutt also argued that the fee arrangement benefits the estate insofar as it improves the debtor's cash flow during the early months of a bankruptcy, when debtors most critically need the money. Finally, Orcutt argued that the arrangement serves to increase access to bankruptcy services because putative clients do not need to save money for the filing fee before seeking bankruptcy relief.

II. JURISDICTION

The Court has jurisdiction over the subject matter of this proceeding pursuant to 28 U.S.C. §§ 151, 157 and 1334, and Local Rule 83.11 of the United States District Court for the Middle District of North Carolina. This is a core proceeding within the meaning of 28 U.S.C. § 157(b)(2)(A), which this Court has the jurisdiction to hear and determine. Pursuant to the analysis in Stern v. Marshall, 564 U.S. ––––, 131 S.Ct. 2594, 180 L.Ed.2d 475 (2011), the Court may enter a final order in this matter.

III. DISCUSSION

I. Advances made by Orcutt to his clients are loans.

Black's Law Dictionary defines an “advance” as “[m]oney paid before or in advance of the proper time of payment; ... a loan or gift, or money advanced to be repaid conditionally.” Black's Law Dictionary (9th ed. 2009). Similarly, the Oxford English Dictionary defines “advance” as “an amount of money paid before it is due” and “loan” as “a thing that is borrowed, especially a sum of money that is expected to be paid back with interest.” Oxford English Dictionary (2d ed. 1989). Though slightly different in form, the two definitions are identical in substance: both terms involve the temporary provision of some thing with the expectation that it will be returned. See also Laurens Fed. Sav. & Loan Ass'n v. S.C. Tax Comm'n, 365 U.S. 517, 521, 81 S.Ct. 719, 5 L.Ed.2d 749 (1961) (explaining that the terms “loans” and “advances” are synonymous).

Although the law does not explicitly define what constitutes an “advance,” many courts have interpreted it to include an expectation of repayment. See City of Detroit v. Murray Corp. of Am., 355 U.S. 489, 517 n. 4, 78 S.Ct. 458, 2 L.Ed.2d 441 (1958) (“It has long been recognized and understood that an ‘advance payment’ is a loan”); Boccardo v. C.I.R., 56 F.3d 1016, 1018 (9th Cir.1995) (noting that the label of “advances” can imply “loans”); Burnett v. C.I.R., 356 F.2d 755, 760 (5th Cir.1966) (finding that conditional “advances were intended to, and did, operate as loans” where there was an expectation that the disbursement would be substantially repaid). A “no money down” offer is characteristic of an advance because it anticipates that the money that is provided up front will simply be repaid at a later date. See, e.g., United States v. Hauck, 980 F.2d 611, 612–13 (10th Cir.1992) (explaining a defendant's “ ‘no-money-down’ schemes” which included the defendant co-investing with buyers and supplying the down payment in order to sell homes); Leathermon v. Grandview Mem'l Gardens, Inc., 2010 WL 1381893, at *2 (S.D.Ind. Mar. 31, 2010) (explaining a “no money down” arrangement that required monthly payments and a final balloon payment of the remainder of the purchase price); Bro–Tech Corp. v....