UPDATE 3-Bankruptcy lawyers face fee overhaul to curb high legal costs

Tue Jun 11, 2013 8:04pm EDT

* Lawyers must justify rate hikes but not 'step-up' increases

* Will also be pushed to provide rough budgets

By Nick Brown

June 11 (Reuters) - Bankruptcy lawyers will soon have to make new disclosures on how they bill clients under guidelines finalized by the U.S. Department of Justice on Tuesday, the first overhaul of bankruptcy billing in 17 years.

Lawyers will have to justify any increases in their hourly rates and will be asked to provide rough budgets, requirements that were points of contention over the last year as the U.S. Trustee Program, the Justice Department's bankruptcy watchdog, rolled out early drafts of the proposal.

In one key change from prior drafts, rate increases tied to associates' promotions, so-called step increases, will be excluded from disclosure requirements.

The guidelines, due to take effect Nov. 1, will apply to bankruptcy cases for companies with more than $50 million in assets and $50 million in liabilities. Courts are not legally obligated to implement them, but in general, most courts follow Justice Department guidelines.

The overhaul stemmed from what some lawyers and academics saw as a disproportionate cost structure in bankruptcy billing. While many companies have looked to curb legal costs by demanding discounts from non-bankruptcy legal advisers, bankruptcy attorneys can still demand $1,000 an hour or more because their field is so specialized.

The issue is critical because advisers of bankrupt companies and some of their creditors are paid out of the company's estate. Since legal fees are paid ahead of other creditor claims, higher legal costs mean less money for creditors.

"The costs of bankruptcy fall on the creditors and employees of the debtor companies," Tony West, U.S. acting associate attorney general, said in a statement on Tuesday. The guidelines seek to ensure that bankruptcy costs reflect market rates for legal work outside bankruptcy, rather than effectively creating a premium for bankruptcy work, West said.

The new guidelines require lawyers to reveal the methodology they use to establish certain rates and to explain and justify rate increases. The Trustee will also push for attorneys to provide budgets and will ask for an explanation if they exceed those budgets by more than 10 percent.

During a comment period last year, large law firms complained the overhaul would ignore market pricing and impose burdensome tasks on lawyers, with little benefit to clients.

A major sticking point was a requirement that firms calculate how much clients' bills would rise and submit statements showing that clients had agreed to an increase in fees.

Clifford White, director of the Trustee Program, told reporters in a conference call on Tuesday that the finalized guidelines exempt traditional step increases, which is a change from a draft released last November.

"That's not a rate increase in the sense that the firm might be changing upward its overall hourly fees," White said. "It is instead a step in a natural progression."

That does not mean that associates' rate increases are always small. They often raise rates as they gain experience.

For instance, Candace Arthur, an associate at Weil, Gotshal & Manges, began work on Lehman Brothers' record-setting Chapter 11 case in 2010 at $395 an hour but by September of last year her rate had risen 48 percent to $585 per hour, according to the firm's public fee applications in the case. In contrast, Weil partner Harvey Miller, who led Lehman through bankruptcy, increased his rate by $50 over four years to $1,000 per hour from $950.

It is not clear whether Arthur's increases were purely step increases. When Reuters reported on the issue in September, Weil and Arthur declined to comment.

The Trustee warned against rate increases that are disguised as step-ups, saying in the guidelines that "applicants should not attempt to characterize actual rate increases ... as 'step increases' in an effort to thwart meaningful disclosure or billing discipline."

Under the guidelines, the Trustee will also regularly seek to appoint examiners or committees to oversee fees in large cases, a practice currently reserved for the most complex bankruptcies. If fee examiners become more common, it could open an avenue for professionals looking to get into the business of bankruptcy.

"One might say we already have a cottage industry of fee examiners in its budding stages," John Penn, a bankruptcy partner at law firm Haynes & Boone, said on Tuesday.

The guidelines will apply only to lawyers. White said new fee guidelines for investment bankers, financial advisers and accountants could be introduced in the future.

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