The United States Court of Appeals for the Ninth Circuit in Scheer v. The State Bar of California (4/14/16 – Case no. 2:14-cv-04829-JFW) reversed the district court’s affirmance of the bankruptcy court’s decision that a suspended attorney’s debt was nondischargeable in bankruptcy under 11 U.S.C. §523(a)(7).
In Scheer, the client (Clark) retained attorney Scheer to help modify his home mortgage loan. Clark paid Scheer $5,500 before any modification occurred. Clark then fired Scheer and sought return of the $5,500 under California’s mandatory attorney fee dispute arbitration program. An arbitrator concluded that, although Scheer performed competently, she violated California Civil Code §2944.7(a) by receiving advance fees for residential mortgage modification services. Although the arbitrator believed that Scheer’s violations were neither willful nor malicious, he concluded California law required a full refund of the improperly collected fees. Scheer made a few payments against the arbitration award but, claiming a lack of funds, failed to pay the outstanding balance.
Scheer was then suspended by the State Bar of California for failure to pay a debt under an arbitration award concerning improperly collected client fees. Scheer then filed for Chapter 7 bankruptcy, naming both Clark and the State Bar as creditors. She also demanded reinstatement of her law license under 11 U.S.C. §525(a), which prohibits the government from revoking or refusing to renew a license “solely because” an individual has not paid a debt that is dischargeable in bankruptcy. After the State Bar ignored her demand, Scheer filed suit in the bankruptcy court against the State Bar and certain Bar officials. The bankruptcy court rejected Scheer’s argument, reasoning that her debt was nondischargeable. Scheer appealed the bankruptcy court’s decision to the district court which affirmed the bankruptcy court’s decision. Scheer then appealed to the United States Court of Appeals for the Ninth Circuit.
The Court of Appeals examined §523(a)(7) which provides a debt is excepted from discharge in bankruptcy “to the extent such debt is for a fine, penalty, or forfeiture payable to and for the benefit of a governmental unit, and is compensation for actual pecuniary loss.” Further, the appellate court looked to State Bar of Cal. v. Findley (In re Findley) (2010) 593 F.3d 1048, where the State Bar initiated proceedings against an attorney and assessed a $14,054 fee for the cost of disciplinary and probationary proceedings. In Findley just as in Scheer, the attorney refused to pay the award, declared bankruptcy, and demanded reinstatement by the State Bar. Findley turned, however, on whether the costs were intended to “promote rehabilitation and to protect the public” rather than as compensation.
In Scheer, there were no costs or fees assessed against Scheer for disciplinary reasons. Scheer’s debt consisted solely of the amount she improperly received from a client and did not pay back. The appellate court expressed disapproval of Scheer’s conduct and agreed it was unsettling she could use bankruptcy to avoid refunding her client’s improperly collected fees. Ultimately, however, as the debt was compensation for actual loss as opposed to a fine or penalty, the appellate court could not stretch its interpretation of §523(a)(7) to cover the fee dispute at issue.
Although Scheer appears to stand for the proposition that attorneys who engage in misconduct can avoid pecuniary punishment by simply filing bankruptcy, the decision has a very narrow focus. The court in Scheer made it abundantly clear that any fees or penalties assessed against an attorney for misconduct will remain nondischargeable in bankruptcy. A fundamental goal of bankruptcy is to give debtors a financial “fresh start” from burdensome debts. In accordance with that principle, a debtor attorney owing an amount to a client or other entity which is compensatory only with no punitive element may be able to discharge that debt in bankruptcy, like any other debtor.
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