Fourth Circuit Holds that Chapter 7 Trustees are Entitled to Commission-Based Payments in the Absence of Extraordinary Circumstances

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Professional compensation is often a contentious issue in bankruptcy, as we have previously discussed. Compensation for chapter 7 trustees has been subject to a split among district and bankruptcy courts – some hold that fee awards for chapter 7 trustees should be based solely on the commission rates provided in section 326(a) of the Bankruptcy Code, while others hold that section 326(a) sets a maximum limit, rather than a standard for, awarding compensation.

In In re Rowe, the Fourth Circuit weighed in on the question of whether a bankruptcy court is required, in the absence of extraordinary circumstances, to compensate chapter 7 trustees on a commission basis.

In this case, the trustee requested a fee of $17,254.61. The bankruptcy court found that the trustee had failed to complete his duties properly or timely and reduced the fee to $8,020, which was the equivalent of a fee based on the trustee’s hourly rate. The trustee appealed the fee reduction, and the district court affirmed the bankruptcy court’s decision. The trustee then appealed to the Fourth Circuit.

The Bankruptcy Code:

Section 330(a)(1) of the Bankruptcy Code provides that “. . . the court may award to a trustee . . . reasonable compensation for actual, necessary services rendered by the trustee. . .” while section 330(a)(2) further provides that “[t]he court may . . . award compensation that is less than the amount of compensation that is requested.” Under BAPCPA (the 2005 amendments), section 330(a)(7) was added to the Bankruptcy Code. This section provides that “[i]n determining the amount of reasonable compensation to be awarded to a trustee, the court shall treat such compensation as a commission, based on section 326.” Section 326 then sets forth a commission scheme for payments to a trustee.

In examining the interplay between sections 326 and 330, the Fourth Circuit noted that section 330(a)(7) consists of a dependent clause “in determining the amount . . .” and an independent clause “the court shall . . .”. The Fourth Circuit further noted that Congress chose to use the word “shall” as opposed to “may” in this particular subpart of section 330(a)(7), even though “may” is used elsewhere in section 330. Accordingly, the Fourth Circuit interpreted section 330(a)(7) as mandatory and found that absent extraordinary circumstances, a chapter 7 trustee’s fee award must be calculated on a commission basis, based on the percentages set forth in section 326(a).

The Fourth Circuit next turned to a discussion of which extraordinary circumstances would allow for a reduction of the section 326(a) rates. The court cited the Handbook for Chapter 7 Trustees, in which the United States Trustee states that extraordinary circumstances only arise where a trustee’s “administration falls below acceptable standards . . . .”

As the Fourth Circuit points out, “extraordinary circumstances” are not mentioned in the Bankruptcy Code. The court posited that the concept was developed to reconcile sections 330(a)(7) and 326(a) with sections 330(a)(1) and (a)(2). A side-by-side reading of these sections creates a general rule that “the court may award to a trustee . . . reasonable compensation for actual, necessary services rendered by the trustee” where the commission rates under section 326(a) are the “reasonable compensation.” In extraordinary circumstances, however, the bankruptcy court is nevertheless entitled to reduce the fee pursuant to section 330(a)(2).

The bankruptcy court found that the trustee had not properly discharged his duties in that the trustee failed to administer the estate in an expeditious manner and neglected to adequately supervise the case. The bankruptcy court, therefore, based the trustee’s compensation on an hourly rate, rather than a commission-based rate. The Fourth Circuit found that this was legal error and that the bankruptcy court should have first determined the maximum statutory commission rate pursuant to section 326(a) and then determined whether extraordinary circumstances existed that would render the commission-based rate unreasonable. In the event of any reduction, the bankruptcy court should have made detailed findings of fact explaining the “rational relationship between the amount of the commission and the type and level of services rendered.”

The Fourth Circuit reversed the district court’s decision affirming the bankruptcy court’s non-commission-based fee award and remanded the case with instructions to vacate the trustee’s fees and determine the proper commission-based fee award.

Conclusion:

The Fourth Circuit was the first circuit court to address this question, and it remains to be seen if other circuit courts will follow suit. Of course, a chapter 7 trustee’s best way of ensuring that she receives her full commission is to ensure that her administration of cases meets the requisite standards.