On June 23, 2014, the Fifth Circuit Court of Appeals weighed in on the applicability of section 506(b) to an oversecured creditor’s entitlement to payment for interest, fees and expenses in a case in which the secured creditor obtained relief from the automatic stay and executed a sale of its collateral under state law.  The case, Wells Fargo Bank, N.A. v. 804 Congress, LLC (In re 804 Congress, LLC), involved a single asset office building in Austin, Texas.  Wells Fargo Bank, N.A. (“Wells Fargo”) had financed the purchase of the building and held a real estate lien note (the “Note”) and a deed of trust that granted Wells Fargo a first-priority lien on the building.   Wells Fargo was owed $3,296,915, which included $87,000 in attorneys’ fees.

This bankruptcy case was 804 Congress, LLC’s second filing.  Shortly after the case was filed, the Bankruptcy Court granted Wells Fargo’s motion for relief from stay so that the bank could proceed with a non-judicial foreclosure sale of the property.  The trust deed trustee’s sale of the building yielded sale proceeds in the amount of $4.355 million.  Even after accounting for the trustee’s 5% commission in the amount of $217,750, which was provided for under the trust deed, and payment to the second lien lender, Wells Fargo was oversecured.  The deed’s trustee proposed distributing the sale proceeds to satisfy its 5% commission, Wells Fargo’s full claim (including interest, fees and costs on the Note) and payment in full to the second lien lender, with the remainder distributed back to the bankruptcy estate.  The Office of the United States Trustee objected.

The Bankruptcy Court found that Wells Fargo was entitled to full payment except for its attorneys’ fees, which the Bankruptcy Court disallowed in full.  Further, the Bankruptcy Court reduced the trustee’s fees from $217,750 to $7,500 on the grounds that her hourly rate was $375 and she admitted to only spending less than 20 hours on the sale.

Wells Fargo appealed to the District Court, which reversed the Bankruptcy Court and remanded for further proceedings.  The District Court’s rationale for reversal was that when the Bankruptcy Court lifted the automatic stay and the foreclosure sale occurred, the Bankruptcy Court ceased to have jurisdiction over the building assets or the sale proceeds.  The District Court remanded with instructions that the trustee disburse the foreclosure sale proceeds in accordance with Texas law and the trust deed.

The Fifth Circuit reversed the District Court and remanded back to the Bankruptcy Court.  Its rationale for reversal and remand stands for the fact that even after relief from stay is granted, the Bankruptcy Court retains jurisdiction over the assets and the parties.  In particular, the Fifth Circuit reasoned that the lifting of the automatic stay is not synonymous with abandonment of estate assets.  In other words, the secured lender’s collateral remains property of the debtor’s estate notwithstanding the lifting of the stay.

Further, section 506(b) only entitles oversecured creditors to reasonable attorneys’ fees; that a contractual fee provision is enforceable under state law is not tantamount to meeting the reasonableness determination under the Bankruptcy Code.  According to the Fifth Circuit, nothing in section 506(b) differentiates oversecured creditors entitled to exercise their state law remedies with oversecured creditors who remain subject to the automatic stay.

It is important to recognize that section 506(b) is a priority provision and not an allowance provision.  In other words, section 506(b) entitles a creditor to “secured status” for fees that are reasonable.  Failure to satisfy section 506(b) does not mean that such fees should be disallowed on an unsecured basis pursuant to section 502, which governs allowance.  Importantly, section 502 looks to state law for allowance.  Therefore, while such fees may not be entitled to secured status, they may still be allowed as an unsecured claim under section 502.

At its core, this case stands for the proposition that relief from the automatic stay to exercise state law remedies does not necessarily mean that the Bankruptcy Court no longer has jurisdiction over the property that constitutes the secured lender’s collateral.  In short, the lender may be done with the Bankruptcy Court, but the Bankruptcy Court may not be done with the lender.