Filing an involuntary bankruptcy petition is an alternative not often considered by creditors. However, faced with the possibility of having to write-off a claim, a creditor may choose to file an involuntary bankruptcy petition in order to put the debtor under the control of the Bankruptcy Code and the bankruptcy court. Such a move comes with risk, and a recent Eleventh Circuit Court of Appeals decision may expand that risk. In In re Maury Rosenberg, Case No. 13-14781 (Feb. 27, 2015), the Eleventh Circuit held that a creditor that files an involuntary bankruptcy petition that is ultimately dismissed can be liable not only for the attorney’s fees incurred by the alleged debtor fighting the involuntary filing itself, but also the attorney’s fees incurred by the alleged debtor both sustaining the dismissal in the appellate courts as well as prosecuting a claim for a bad faith filing.
While the facts of the case are convoluted, what is important is that the bankruptcy court found that the petitioning creditors were not eligible creditors and that therefore the involuntary petition had been improperly filed. The bankruptcy court entered an order (the “Dismissal Order”) dismissing the involuntary case and retaining jurisdiction to award the alleged debtor, Maury Rosenberg, his costs, reasonable attorney’s fees and damages (if appropriate) under § 303(i) of the Bankruptcy Code. Section 303(i)(1) provides that if an involuntary petition is dismissed, the court may enter judgment for attorney’s fees and costs against the petitioning creditors and in favor of the alleged debtor. Furthermore § 303(i)(2) provides that the court may also award compensatory and punitive damages if the involuntary petition was filed in bad faith.
The petitioning creditors appealed the Dismissal Order to both the district court and the Eleventh Circuit, losing at both appellate levels. During this time period, Rosenberg filed a separate adversary proceeding (the “Adversary Action”) against the petitioning creditors seeking to recover attorney’s fees, costs and damages incurred as a result of the involuntary petition. The bankruptcy court awarded Rosenberg fees and costs incurred obtaining the dismissal of the involuntary petition. Furthermore, the district court, to which the bad-faith claims had been transferred, awarded Rosenberg both compensatory and punitive damages.
At issue before the Eleventh Circuit was Rosenberg’s entitlement to fees incurred in three different contexts: (1) fees incurred defending the creditors’ appeal of the Dismissal Order; (2) fees incurred in the Adversary Action, and (3) fees incurred recovering the first two categories of fees. The Eleventh Circuit ruled that Rosenberg was entitled to recover fees incurred in all three contexts. The court squarely rejected the petitioning creditors’ claim that § 303(i) precluded appellate fees and limited fees awarded to only those incurred before the date of the dismissal of the involuntary petition. Relying on the plain language of the statute, the Court held that there was nothing in § 303(i)(1) that precluded appellate fees or limited fee awards to only those incurred before the date of the dismissal in the bankruptcy court. Opinion, p. 24. Construing § 303(i)(1) & (2) together, the court also held that the bankruptcy court has discretion under § 303(i)(1) to award fees incurred prosecuting bad-faith claims for damages under § 303(i)(2). Opinion, p. 28. In essence, the Eleventh Circuit construed § 303(i) as a fee-shifting statute applying to all facets of an involuntary proceeding. Under the court’s reasoning, fees are recoverable throughout the entire proceeding, from contesting the involuntary petition, to related appeals and bad-faith claims.
The implications of this decision may be far reaching. The ability of creditors to file an involuntary bankruptcy petition is a powerful tool that can be utilized with a recalcitrant obligor. Sometimes, it may be the only way to achieve any sort of recovery on a claim since the involuntary petition, if granted, places the debtor under the watchful eyes of the bankruptcy court. Nonetheless, creditors have always been wary of the involuntary petition, especially given the risks of an improper filing. The Eleventh Circuit’s decision underscores the need for creditors to carefully consider the benefits and risks of filing an involuntary filing. Not only can petitioning creditors be on the hook for attorney’s fees and costs incurred by the alleged debtor if the petition is dismissed. But now, at least in the Eleventh Circuit, these creditors are also potentially on the hook for appellate fees incurred in sustaining the dismissal, fees incurred prosecuting a bad faith claim, and fees incurred in collecting fees. Should the involuntary proceeding go wrong, the petitioning creditors may end up owing substantial amounts to the debtor – a dramatic turn of events