The Collateral Estoppel Trap in Legal Malpractice
We've discussed the oft-found fact situation of how a fee determination by a bankruptcy court may block a later legal malpractice action. In Breslin Realty Dev. Corp. v Shaw ; 2010 NY Slip Op 00087 Decided on January 5, 2010; Appellate Division, Second Department; Chambers, J., J. the court writes persuasively about the concept:
"In bankruptcy proceedings, the general rule arising under 11 USC § 330(a)(4) is that "a finding of malpractice would mean that the attorneys were not entitled to compensation for those services found to be substandard" and, accordingly, failure to raise the malpractice claims when the final fee applications were considered and approved by the Bankruptcy Court barred later litigation of such claims under principles of res judicata (In re Iannochino, 242 F3d 36, 42; see Grausz v Englander, 321 F3d 467; Osherow v Ernst & Young [In re Intelogic Trace], 200 F3d 382; cf. Clement v Brumfield, 2004 Cal. App. Unpub. LEXIS 1031, citing Matter of Boddy, 950 F2d 334). Res judicata bars future litigation between the same parties or those in privity arising out of transactions giving rise to a cause of action which could have been raised in a prior bankruptcy proceeding (see Truesdell v Donaldson, Lufkin & Jenrette Sec. Corp., 281 AD2d 334; Evergreen Bank v Dashnaw, 246 AD2d 814). An exception lies if the plaintiff was deceived in the prior action or proceeding (see Izko Sportwear Co. Inc., v Flaum, 25 AD3d 534; Penthouse Media Group v Pachulski Stang Ziehl & Jones [US Dist Ct, SD NY, 9 Civ 85, Scheindlin, J., 2009]).
Applying these principles, we conclude that the final award of fees in the bankruptcy proceeding bars the plaintiffs' malpractice claim based upon the same services in the present litigation. The final fee award in the bankruptcy proceeding was a determination on the merits, barring the legal action sounding in legal malpractice pursuant to the doctrine of res judicata (see Izko Sportwear Co. Inc. v Flaum, 25 AD3d 534).
Further, we are unpersuaded that there is evidence in this case that the defendants deceived the debtors or the Bankruptcy Court. The June 2003 agreement demonstrates that the plaintiffs were aware of the factual basis of their malpractice claim at the time of the defendants' fee application. Moreover, the June 2003 agreement was drafted at least in part by separate and independent counsel—the Dollinger law firm. Thus, on the date that the Bankcuptcy Court entered the defendants' final award, December 15, 2003, the debtors had ample opportunity to raise their malpractice claims as objections to the fee award. Accordingly, we conclude that the plaintiffs failed to meet their burden of demonstrating under the doctrine of collateral estoppel that they lacked a full and fair opportunity to litigate the legal malpractice claim in the Bankruptcy Court (see Izko Sportswear Co. Inc. v Flaum, 25 AD3d 534; cf. Penthouse Media Group v Pachulski Stang Ziehl & Jones [US Dist Ct, SD NY, 9 Civ 85, Scheindlin, J., 2009]). "