A federal bankruptcy court has held that a secured creditor—with a priority interest in collateral that had a value of more than six times the amount of the debtor’s indebtedness—could recover some but not all of its attorney fees in bankruptcy.

In In re Amherst Orthopedic Assocs., 355 B.R. 420 (Bankr. W.D.N.Y. 2006), the debtor filed a petition for relief under chapter 11 for reasons primarily related to a disputed lease of real property. The debtor’s creditor included Charter One Bank, which held a secured claim of approximately $333,434. The debtor granted the bank a security interest in its personal property, including deposit accounts, inventory, accounts receivable and equipment.

On the day the debtor filed for bankruptcy, it had more than $358,000 in its checking account, and more than $1.9 million in assets from its accounts receivable. At the outset of the bankruptcy case, the debtor and Charter One Bank stipulated to the entry of an order providing for the debtor’s expenditure of its cash collateral in accord with the terms of an agreed budget, giving Charter One a replacement lien on all assets acquired postpetition, and providing for the resumption of all scheduled payments of principal and interest under the original loan agreements.

A year after filing for bankruptcy protection, in March 2006, the debtor paid $313,626 on its loan to the bank, which represented the outstanding balance on the loan. However, the bank also sought reimbursement of its legal fees in the amount of more $44,000. The debtor objected to this amount, arguing that the requested fees were excessive and unreasonable.

Section 506(b) of the Bankruptcy Code sets the standard for the allowance of legal expenses incurred on behalf of a secured creditor, the court noted. To the extent that a creditor is oversecured, the creditor will be allowed to recover interest on its claim, and any "reasonable fees, costs or charges provided under the agreement under which such claim arose."

The reasonableness of the costs depends upon the circumstances, the court stated.

"Here, Charter One’s position was not just fully secured, but was tremendously oversecured," the court noted. "Outstanding cash deposits would suffice to discharge the entire obligation with interest." Beyond the cash collateral, the value of the debtor’s other secured assets was more than six times its indebtedness, the court stated.

In addition, the bank was provided with numerous protections through the bankruptcy proceedings, such as several court-authorized extensions for the use of the cash collateral.

"At all times relevant, therefore, the debtor preserved a cash position that assured ample protection of the indebtedness to Charter One," the court concluded.

In the case at hand, the court found that even though the bank was oversecured and fully protected, the bank’s counsel undertook tasks that were not necessary for the protection of the client’s interests.

"In its application for reimbursement, Charter One asserts that ‘it was imperative to file pleadings and participate in the hearings on the various issues that came before the Court,’" the judge stated. "If Charter One faced any serious risk of loss in this case, I could accept the need for an aggressively protective approach to legal representation…

"In the present instances, however, the court will allow only a level of reimbursement that is reasonable under the circumstances where the creditor enjoyed a substantially adequate protection of its security interest."

This article is presented for informational purposes only and is not intended to constitute legal advice.