Orlando Bankruptcy Attorney Facing Malpractice Suit For Ill-Advised ...

I have been asked by legal malpractice attorneys occasionally to review cases they are considering for legal malpractice claims against bankruptcy lawyers. This week a south Florida attorney asked me to look at  a bankruptcy case filed by an Orlando, Florida bankruptcy attorney whom his client wants to sue for legal malpractice. I declined the engagement because I know the attorney about  to be sued, and I want to maintain a professional relationship. However the facts alleged illustrate what can happen if some people are encouraged to file bankruptcy by a bankruptcy attorney without  fully considering better options outside of bankruptcy court. 

A concise version of the debtor’s story is as follows. The debtor had about $30,000 of credit card debt. He was facing foreclosure and contacted an  Orlando bankruptcy attorney because he was concerned about the potential for a $250,000 deficiency claim. The debtor had already move out of the foreclosed house and used all his available cash, about $105,000, to buy a new homestead for approximately $155,000. The debtor and a partner owned their own business which was an LLC. The LLC had about $50,000 of cash and other assets, but also had debts of about $75,000. It paid both partners a salary but had made no profit distributions. 

The debtor filed Chapter 7 bankruptcy in Orlando. The Chapter 7 trustee challenged the investment of $105,000 in the new homestead as a fraudulent conversion within two years of filing. The trustee also objected to the debtor’s valuation of his LLC interest at $100. The trustee claimed that even though the LLC balance sheet showed a negative net worth the assets listed, plus undervalued good will, made the debtor’s interest much more valuable. The debtor had to pay the bankruptcy trustee over $25,000 to settle the trustee’s objections. 

This debtor should not have filed bankruptcy. Many homeowners are scared of foreclosure deficiencies, but in fact few or no first mortgage deficiency actions are filed. A remote possibility of deficiency is not a reason to file bankruptcy. A deficiency judgment, if any, is still far away. A bankruptcy could have been filed later if absolutely necessary, and a significant delay would provide time for pre-bankruptcy exemption planning. 

Even if there were a deficiency judgment, this debtor’s situation would be much better by avoiding bankruptcy. His large cash down payment to buy a new home would be exempt and protected in state court as there are not fraudulent conversions to a Florida homestead outside of bankruptcy. The creditor’s only state court remedy against his LLC business interest would be a charging lien on profit distributions, but the LLC has not made distributions. The LLC’s assets would otherwise have been completely safe, and the debtor would have not had to pay to keep his business interest. 

If the debtor’s version of the facts is correct, the bankruptcy attorney gave him bad advice either because he does not understand the debtor’s legal exemptions, or worse, he was more interested in getting a bankruptcy fee than in doing what is best for his client. There will be a malpractice suit filed; insurance company will settle; and things will go on as they are. Many bankruptcy attorneys can learn something from this example.