Lawyer needn’t give notice before filing bankruptcy

By Alan Cooper, Virginia Lawyers Weekly – April 28, 2008

The Supreme Court of Virginia could have reversed the sanction against a lawyer who avoided a trial with a last-minute bankruptcy filing based on its finding that there was no factual basis for the trial court’s conclusion that he never intended to try the case.

But the court went on to establish a much broader principle. A lawyer representing a client in state court “does not have an obligation to inform opposing counsel or the circuit court that the attorney’s client is considering filing a petition in bankruptcy,” Chief Justice Leroy R. Hassell Sr. wrote for a unanimous court in McNally v. Rey (VLW 008-6-047).

“To hold otherwise would have a chilling effect upon the rights of litigants and their attorneys when such litigants seek to avail themselves of their statutory rights set forth in the federal Bankruptcy Code,” Hassell said.

That language stemmed from a lawsuit filed by a couple who contended that a home improvement company had botched the removal of lead-based paint from their home.

Trial of the case was set for Nov. 15, 2006. John J. McNally, the attorney representing the company and its principal, filed a bankruptcy petition electronically the evening before trial. He notified the plaintiffs’ counsel, Daniel R. Warman, within an hour of filing the petition.

The next day, Warman asked Norfolk Circuit Judge Charles D. Griffith Jr. to assess costs and attorney’s fees against McNally. Griffith questioned McNally about the circumstances of the bankruptcy petition. McNally responded that he had discussed the possibility of a filing months earlier, but the client had not ultimately decided to file until immediately before trial.

McNally also said he wasn’t prepared to respond to the oral motion for sanctions. Griffith did not rule immediately on the motion but dismissed the case without prejudice because of the automatic stay of legal proceedings of 11 U.S.C. §362.

Four days later, McNally wrote Griffith about the court’s consideration of sanctions and said that it would have been an ethical violation to disclose the client’s intent to file a bankruptcy petition without specific authorization by the client. He also asked for an opportunity to respond.

Warman then filed a request for fees and costs totaling $14,090.45 and Griffith granted it without a hearing in an order entered a month later. The judge said the appropriate sanction was for McNally to personally pay the fees, expert charges and costs incurred in the week before trial.

McNally asked for reconsideration and asserted that he had not violated Virginia Code § 8.01-271.1. Griffith denied the request and McNally appealed.

Hassell wrote that Griffith did not state his authority for imposing the sanctions and noted that the court had ruled last year in Nusbaum v. Berlin, (VLW 007-6-026) that trial courts do not have inherent authority to award fees and costs as a sanction.

Code § 8.01-271.1 authorizes an award of fees when an attorney files a pleading that is not well grounded in law and fact or submitted for an improper purpose.

“The circuit court’s order that imposed the sanctions against McNally was based on the circuit court’s conclusion that McNally filed a witness and exhibit list when he did not intend to try the case,” Hassell said. “There is simply nothing in the record before this Court that supports this finding.”

The decision was the first sanctions case since a flurry of sanctions opinions the court issued in an eight-month period in 2006-07, most notably Taboada v. Daily Seven (VLW 006-6-072) and Ford Motor Co. v. Benitez (VLW 007-6-001).

L. Steven Emmert, the Virginia Beach attorney who argued the case for McNally, said the ability of a defense attorney to file a bankruptcy petition to forestall suit is in many ways analogous to the plaintiff’s attorney’s ability to file a nonsuit.

He said he expected the court’s ruling to be favorable from the tone of the oral argument and from his conversations with other lawyers about the case. “The lawyers I described the situation to were flabbergasted. ‘Can he do that?’ ” was a frequent response.

Emmert said he thought it was significant that the court took the unusual step of announcing a rule of law not required to resolve the case.

Click here for the full text of the decision.