Creditors of an entity or individual who is not paying its or his debts as they ordinarily come due may seek to have the alleged debtor adjudicated a bankrupt by the filing of an involuntary petition.  Section 303 of the Bankruptcy Code governs the filing of involuntary bankruptcy petitions and allows creditors to force debtors into a liquidation or reorganization. If the alleged debtor has more than three creditors, the petition must be brought by at least three creditors each holding a separate claim that is neither contingent, nor subject to a bona fide dispute as to liability or amount.  If the alleged debtor has less than 12 creditors, the petition may be filed by one creditor holding an eligible claim.  This proposition is by no means risk free for the petitioning creditor(s).   If the Bankruptcy Court dismisses the petition, it can also award the alleged debtor a judgment against the petitioning creditor(s) for attorneys’ fees and costs and, if the Bankruptcy Court determines that the petition was filed in bad faith, it can impose an award of punitive damages against the petitioning creditor(s).

In DVI Receivables XIV, LLC, et al v. Rosenberg, 779 F.3d 1254 (11th Cir. 2015), the Eleventh Circuit recently ruled on the scope of attorneys’ fees the court may award to an alleged debtor following dismissal of an involuntary petition. Rosenberg, the managing member of a diagnostic imaging company, guaranteed several equipment leases made to his imaging company.  While the leases were made by several affiliated entities, Rosenberg’s guarantee was held by only one affiliate (the “Guarantee Holder”) and not each of the entities that leased the equipment.  Following default on the leases, the lessors and the Guarantee Holder filed an involuntary bankruptcy petition against Rosenberg.  The involuntary petition was signed by the same person, as authorized representative for each equipment lessor and the Guarantee Holder.  Following a trial, the Bankruptcy Court dismissed the involuntary petition finding, among other things, that the equipment lessors were not creditors of Rosenberg since they did not hold Rosenberg’s guarantee. Only the Guarantee Holder was a creditor of Rosenberg’s.   The petitioning creditors appealed the dismissal of the petition.  The district court and the Eleventh Circuit Court of Appeals each agreed with the Bankruptcy Court and affirmed the dismissal.

Meanwhile, Rosenberg filed suit in the Bankruptcy Court seeking to recover attorneys’ fees, costs and damages contending that the petition was filed in bad faith.  He sought four categories of fees: (1) fees incurred to obtain the dismissal of the involuntary petition in the bankruptcy court; (2) fees incurred to sustain that dismissal on appeal in the district court and then before the Eleventh Circuit; (3) fees incurred in the adversary proceeding itself to recover the first two categories of fees, called “fees on fees”; and (4) fees incurred to prosecute his separate bad-faith claim for damages which had been withdrawn to the district court.   The bankruptcy court entered judgment for Rosenberg and against the petitioning creditors for $1,032,287.04, including for attorneys’ fees and costs incurred by Rosenberg in defending the petitioning creditors’ appeal of the order dismissing the petition.

The petitioning creditors once again appealed contending, among other things, that the Bankruptcy Court was not authorized to award Rosenberg the attorneys’ fees he incurred on appeal.   The only other circuit court to rule on an alleged debtor’s entitlement to an award of attorneys’ fees incurred in defending an appeal of an order dismissing a petition, the Ninth Circuit, concluded that appellate fees could not be awarded by the Bankruptcy Court under Section 303(i) (Higgins v. Vortex Fishing Sys., Inc., 379 F.3d 701, 708-09 (9th Cir. 2004).

The Eleventh Circuit saw things differently.  In disagreeing with the Ninth Circuit, the Court in Rosenberg focused its analysis on the statutory language of Section 303(i)(1). That section has two conditions to the award of fees by a bankruptcy court: (1) if the court dismisses the petition other than by consent of the debtor, and (2) if the debtor does not waive the right to judgment.  If both conditions are met, a bankruptcy court may grant judgment against the petitioners and in favor of the debtor for costs or a reasonable attorney’s fee.  The Eleventh Circuit found that Section 303(i)(1) does not limit the attorney’s fee to only the fees incurred in the bankruptcy court.   It entitles the alleged debtor to recover all fees, including those incurred on appeal.

The Rosenberg decision sends a strong and clear message to creditors considering filing or joining in an involuntary bankruptcy petition: be careful and do your homework.  Petitioners should carefully review the documents that allegedly give rise to a claim against a debtor.  Creditors considering placing a non-paying debtor or client in bankruptcy need to be aware of the substantial risk if the petition is dismissed.  If the petition is dismissed, the damages may far outweigh the potential benefits of the filing.