Many if not most commercial contracts in the United States provide for a party to recover its legal expenses, including attorneys’ fees, in enforcing its rights under the agreement.  Although the language of such provisions can take a variety of different forms, it typically provides that if one party is required to expend attorneys’ fees in protecting its contractual rights, it can recover these fees from the other party, whose conduct resulted in the first party incurring such expenses.  A party to such a contracts may understandably expect that its recovery rights would apply equally to attorneys’ fees incurred in the bankruptcy case of its counterparty. 

In fact, a body of law has developed in the United States that calls into question a creditor’s ability to recover attorneys’ fees incurred in the bankruptcy case of its contract counterparty, even if such expenses are expended to ensure that the creditor’s contractual rights are not jeopardized as a result of the bankruptcy proceeding, and even if the creditor “prevails” in a particular legal dispute. 

Although somewhat technical in their analysis, the starting point for these cases is typically the so-called “American Rule.”  As explained by the United States Supreme Court, , “[i]t is the general rule in the United States that in the absence of legislation providing otherwise, litigants must pay their own attorney’s fees.”[1]  “Congress has provided only limited exceptions to this rule ‘under selected statutes granting or protecting various federal rights.’”[2] 

Based on the American Rule, federal courts in the United States have generally reasoned that a creditor is not entitled to recover the attorneys’ fees it incurs in litigating bankruptcy law issues in a debtor’s bankruptcy case, because such recovery is generally not authorized under the United  States Bankruptcy Code.  As one federal appellate court has ruled: 

“Consistent with this philosophy, we have held that, absent bad faith or harassment, attorney’s fees are not recoverable in bankruptcy for litigating issues peculiar to federal bankruptcy law.  The Bankruptcy Code does contain some fee provisions.  However, it does not contain any provisions that create a general right for the prevailing party to be awarded attorney’s fees in federal bankruptcy litigation.  Thus, we have held that there is no general right to recover attorney's fees under the Bankruptcy Code.”[3] 

“However, a prevailing party in a bankruptcy proceeding may be entitled to an award of attorney’s fees in accordance with applicable state law if state law governs the substantive issues raised in the proceedings.”[4]  “Because state law necessarily controls an action on a contract, a party to such an action is entitled to an award of fees if the contract provides for an award and state law authorizes fee shifting agreements.”[5]  Nevertheless, attorneys’ fees are not available despite an express contractual provision “if the substantive litigation raise[s] federal bankruptcy law issues rather than basic contract enforcement questions.”[6]  This is because “the question of the applicability of the bankruptcy laws to particular contracts is not a question of the enforceability of a contract but involves a unique, separate area of federal law.”[7] 

Applying this rule, courts have held that a creditor is only entitled to recover attorneys’ fees incurred in litigating the validity and amount of its claim as a matter of state law, and cannot recover for litigating federal law issues, even where state law is integral to such determination.[8]  Thus, creditors have been barred from recovering their attorneys’ fees incurred in (successfully) objecting to the debtor’s reorganization plan despite a contractual provision for the “payment of fees and costs incurred in collection of amounts due or enforcement of rights.”[9] 

It might appear that a contract party could avoid the result of these cases by including a specific contractual provision authorizing it to be reimbursed for attorneys’ fees incurred in its counterparty’s bankruptcy case.  However, attorneys’ fees have not been allowed despite a contractual provision authorizing recovery of fees “incurred in any bankruptcy proceeding.”[10]  The court in that case denied recovery of attorneys’ fees under a state law attorneys’ fee reciprocity provision to a debtor who succeeded in confirming a plan over a creditor’s objection and prevailed in other bankruptcy issue litigation, ruling:

We will not convert a bankruptcy issue into a state law question . . . based [on] how the parties drafted the Note.  That would elevate the form (of the Note) over substance (of the bankruptcy disputes).  Stated otherwise, the nature of the issues litigated arise solely in bankruptcy and federal bankruptcy attorneys’ fees policy is clear and well-settled and may not be abrogated by artful drafting.[11] 

On the other hand, United States courts have recognized that the Bankruptcy Code does authorize a creditor’s right to recover attorneys’ fees incurred during a debtor’s bankruptcy case under certain circumstances.  For example, pursuant to a specific Bankruptcy Code provision, courts have held that an oversecured creditor (i.e., one holding a security interest in collateral that is worth more than the amount of the underlying debt) is entitled to recover attorneys’ fees incurred during the course of a bankruptcy case, even in litigating issues of bankruptcy law, in accordance with the terms of its contract.[12]

In addition, based on another Bankruptcy Code statute requiring the curing of any defaults in connection with a debtor’s “assumption” (i.e., ratification) of an executory contract, and compensation “for any actual pecuniary loss” to the contract counterparty resulting from such default, courts have ruled that a party to a contract with the debtor may recover attorneys’ fees incurred during the debtor’s bankruptcy case, even if issues of bankruptcy law are involved.[13] 

Furthermore, a number of United States courts have held that a creditor should be reimbursed for attorneys’ fees in expended in successful litigation determining that a debtor’s debt is not discharged (i.e., cancelled ) in its bankruptcy case. Those courts generally reason that this issue involves enforcement of the contract, because it arises from the debtor’s failure to perform under the contract, and because the dischargeability question essentially is a fight about the extent to which the creditor will be paid on the contractual obligations.[14]   However, some courts decline to award a creditor attorneys’ fees incurred in objecting to the debtor’s discharge of a debt on bankruptcy law grounds, where it does not involve establishing the validity or amount of the underlying debt.[15] 

In the final analysis, unless a creditor is entitled to attorneys’ fees under a particular Bankruptcy Code provision or incurs such fees in enforcing its rights under non-bankruptcy law, its ability to recover attorneys’ fees expended during a debtor’s bankruptcy case is far from certain in United States federal courts. 

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