In Re Felix and Lawsuits Before Filing Chapter 7 Bankruptcy in Ohio

Pre-Petition Lawsuits Under Chapter 7 Bankruptcy in Ohio Under In Re Felix

This case was heard before the United States District Court for the Northern District of Ohio. The Judge presiding over the case was Patricia A. Gaughan. In the case, Zipkin Whiting Co., LPA (“Zipkin”) was appealing an order of the Northern District Bankruptcy Court. Jeffrey and Stacy Felix (hereinafter “Debtors”) filed for Chapter 7 bankruptcy on October 18th, 2018. Before this bankruptcy filing, there were two lawsuits pending in Cuyahoga County Court of Common Pleas where the Debtors were named Plaintiffs. Zipkin represented the debtors in these two lawsuits. There was an agreement between the debtors and Zipkin that 50% of any recovery from these lawsuits would be paid to Zipkin as compensation for legal services. Notably, there had been no recovery, judgment, or settlement at the time the Chapter 7 bankruptcy petition was filed.

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The pending lawsuits were listed as assets in the Debtors’ bankruptcy estate. Zipkin ultimately was able to negotiate a settlement to resolve the claims but did not file a proof of claim as a creditor for the alleged fees due. Instead, the trustee filed a motion to request the court to authorize the settlement and resolve the pending claims. The Debtors objected to this motion. This dispute resulted in an evidentiary hearing where the court granted the motion. Given no proof of claim was filed, there was found to be no standing.

Upon this ruling by the bankruptcy court, the appellants filed an appeal and a motion to stop the bankruptcy court. A hearing was held but no opinion was rendered. Ultimately, the appeals court distilled the dispute down to an appeal over whether the holding by the lower court that there was no standing was correct. Bankruptcy appeals are reviewed under an appellate standard based on whether the appeal is a question of fact or law. Questions of fact are reviewed under the clearly erroneous standard. Questions of law are reviewed under the de novo review standard.

The court begins by explaining that all legal or equitable interests of the debtor in property as of the commencement of the case (including pre-petition lawsuits) becomes property of the bankruptcy estate under 11 U.S.C. 541. If a debtor has a pending pre-petition lawsuit on the date they file bankruptcy, 100% of any subsequent proceeds become property of the estate under 11 U.S.C. 541(a). The debtor has no control over the litigation or disposition of the claim which becomes the fidicuiary responsibility of the trustee at that time. As far as settlements go, the trustee is authoried to negotiate them on behalf of the bankruptcy estate subject to the approval of the bankruptcy court under Fed. R. Bank. P. 9019(a). The creditors or parties in interest do have the right to object but must be qualified as a party in interest under 11 U.S.C. 502(a). This is usually defined by circuit precedent and in the Sixth Circuit, a party in interest is defined as one who has a pecuniary interest in the outcome of the bankruptcy under the holding of In Re O’Donnell. With respect to contingency fees for lawyers on pre-petition litigation, the court held that these are equitable liens which are not enforceable in bankruptcy proceedings. As such, Zipkin did not have standing as held in the lower bankruptcy court. Since Zipkin never filed a proof of claim as a creditor for monies advanced as part of this pre-petition litigation, it was not considered an unsecured creditor for pre-petition legal services and was not entitled to share in the estate under Fed. R. Bank. Pr. 3002(a). Ultimately, the court held that the appellant had no interest in the outcome of the proceedings and no standing to object.

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