Lawyers Challenge Limits of 2005 Bankruptcy Act

Marcia Coyle, The National Law Journal April 27, 2009

As the economy tanks and bankruptcy filings soar, bankruptcy lawyers challenging a 2005 law's restrictions on how they can assist debtors contend that there is an urgent need for guidance from the nation's highest court.

For the past four years, consumer bankruptcy attorneys and lawyers representing the credit industry, along with their national associations, have filed lawsuits around the country attacking attorney-related provisions in the 2005 Bankruptcy Abuse Prevention and Consumer Protection Act.

Their challenges are generally two-pronged: Licensed attorneys are not "debt relief agencies" within the meaning of the statute even if they provide bankruptcy-related advice to debtors, and, to the extent that the statute does apply to them, certain provisions restricting the advice they can give clients violate the First Amendment.

Three petitions for review, including one from the United States that lost on a First Amendment issue, are pending now in the U.S. Supreme Court, where bankruptcy lawyers hope that the justices will consider them before the term ends. And three other cases are pending in the 2nd and 9th U.S. Circuit Courts of Appeals.

"We have a new administration and we're in an economy very different from when we started this litigation," said Chad William Schulze of Milavetz, Gallop & Milavetz of Edina, Minn., whose firm has one of the pending Supreme Court petitions. "It has become even more important that people get sound financial advice, which makes our challenge to the [advice restrictions] of great national importance. It involves telling people the truth."

SEEKING REVIEW

The BAPCPA, according to the House report on the legislation, was the "most comprehensive set" of bankruptcy reforms in more than 25 years. Most of the court challenges to date on the lawyer-related provisions focus on three sections of the act: 526, 527 and 528.

Those sections impose various restrictions on the speech and activities of entities known as "debt relief agencies." The United States and the 5th and 8th Circuits (the only circuits to have ruled thus far) have interpreted "debt relief agencies" to include licensed attorneys who provide bankruptcy help to an "assisted person" (someone whose debts are primarily consumer debts and who has nonexempt property valued at less than $150,000).

Including attorneys imposes on them some of the following restrictions and duties:

N Prohibits them from advising people to incur any additional debt in contemplation of filing for bankruptcy. Attorneys and courts have said there are many examples in which an individual might legally consider incurring debt before filing for bankruptcy.

-- Requires them to clearly and conspicuously include in their advertising the statement "We are a debt relief agency."

-- Requires them within five days of first providing any bankruptcy assistance services to an assisted person to execute a written contract explaining services and fees. (Attorneys say this leaves no extra time for a client who needs to consult with family or friends.)

-- Requires specific written disclosures to clients about the bankruptcy process, which, attorneys contend, are often inaccurate and misleading.

BOTH SIDES DISPUTE 'MILAVETZ'

In U.S. v. Milavetz, Gallop & Milavetz, No. 08-1225, the government is seeking review of the 8th Circuit's holding that the restriction on advising clients about incurring more debt is unconstitutionally overbroad and thus violates the First Amendment. The Milavetz law firm has cross-petitioned, challenging the 8th Circuit's holding that attorneys are within the definition of debt relief agencies. Milavetz v. U.S., No. 08-1119.

In Hersh v. U.S., No. 08-1174, Dallas bankruptcy attorney Howard Marc Spector is seeking review of the 5th Circuit's holding that the so-called "gag rule" on advice about additional debt is not unconstitutional and only applies to advice that would lead to "substantial abuse of the bankruptcy system."

"My circuit said you can advise your client to incur more debt so long as you're not substantially abusing the bankruptcy code," said Spector. "That begs the question: What do we mean by substantial abuse? They've replaced all the overbreadth with vagueness."

Challenges pending in the circuits include Zelotes v. Adams, No. 07-1853 (2nd Cir., argued Oct. 10, 2008; Zenas Zelotes of New London, Conn., counsel); Connecticut Bar Association v. U.S., No. 08-5901 (2nd Cir., not argued yet; Barry S. Feigenbaum of Rogin, Nassau, Caplan, Lassman & Hirtle in Hartford, Conn., counsel); and Olsen v. Holder, No. 07-35616 (9th Cir., not argued yet; Keith D. Karnes of Olsen, Olsen & Daines in Salem, Ore., counsel).

The challenges to including attorneys under the definition of "debt relief agency" have had some success in the district courts, but not yet at the circuit level, and that leaves some scholars and attorneys pessimistic about any direct challenges.

"I don't think the language of the statute gets you there," said bankruptcy scholar Robert Lawless of the University of Illinois College of Law. "If you look at the legislative history or intent, the intent was to make consumer-debtor attorneys subject to these provisions. It would surprise me if the Supreme Court were to rule attorneys were not debt relief agencies, but it would solve a lot of problems if they did."

'STRONG ARGUMENTS' TO BE MADE

But Henry Sommer, immediate past president of the National Association of Consumer Bankruptcy Attorneys -- a party in the Connecticut Bar challenge -- said some "very strong arguments" have not been made by parties in other cases, such as: Taking attorneys out of the definition avoids constitutional problems with the other provisions, and regulation of attorneys is the domain of the states.

"We also think our case has a much better factual record than previous cases; we have a lot of affidavits and declarations from attorneys in all types of practices showing how the provisions have affected them and confused clients," he said.

Whatever the Supreme Court does, Olsen's Karnes said his firm will press forward.

"We have a much broader claim, a due process claim," he said. "We want the whole debt relief scheme declared unconstitutional."