Decided Oct 2, 2008 by a bankruptcy court in Pennsylvania in the Third Circuit

In this case, the debtor signed an attorney’s one-contract retainer agreement before the petition was filed, which the debtor would pay half upfront, and the rest in four equal monthly installments after the petition was filed.

The U.S. Trustee requested a §329 hearing because he believed that the attorney was “not entitled to collect any postpetition payments from the Debtor because [the Debtor’s] monetary obligations under the Agreement constitute a dischargeable debt.” The UST also asked for the disgorgement of all payments already received by the attorney after the petition was filed, as well as the cancellation of future payments.

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The court held that a debtor is not obligated to pay for legal services after a petition is filed, if that debtor made a promise to pay in a one-contract retainer agreement that was signed before the petition was filed:

A Chapter 7 debtor’s obligation under a flat or fixed fee agreement with his attorney constitutes a prepetition debt that is dischargeable pursuant to §727(b). In order to recover for postpetition legal services, a Chapter 7 attorney must segregate the fee for prepetition services from the fee for postpetition services.

The court also endorsed the two-contract practice used in modern bifurcations, blessing postpetition payment for postpetition services:

It follows that an attorney’s right to payment for legal services performed postpetition pursuant to a fee agreement which, in some manner, segregates prepetition fees from postpetition fees … arises when the postpetition services are performed. … Viewed thusly, a client’s debt for postpetition services is a postpetition debt which is not subject to the automatic stay or the Chapter 7 discharge injunction (unless the work is rendered pursuant to a flat fee agreement as discussed above). The key to recovery for postpetition services, therefore, lies in the terms of the attorney’s fee agreement. The fee agreement must segregate the fee(s) for prepetition work from the fee(s) for postpetition work. Once again, this distinction is necessary because a fee for prepetition work constitutes a prepetition debt of, or claim against, the estate which is dischargeable, whereas a fee for postpetition work constitutes a postpetition debt of, or claim against, the debtor which is nondischargeable.

Notably, although the court ruled against the debtor’s attorney, the judge instituted no penalty against him:

[A]s there was unclear guidance on this issue to date, the UST’s motion will be denied and counsel will be instructed to abide by the terms of the Court’s Order in the future.

While the judge ruled against the debtor’s attorney in this case, this opinion maps out in dicta exactly how debtor’s attorneys can segregate contracts to bifurcate a Chapter 7.

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