Wednesday, July 2, 2008
C.A. Clarifies Priority of Lien for Attorney Fees
By KENNETH OFGANG, Staff Writer
A security interest in personal property does not attach to a commercial tort claim, and thus does not take precedence over a subsequent lien for attorney fees, the Third District Court of Appeal has ruled.
Reversing a Sacramento Superior Court judge’s ruling, the court held on Monday that San Francisco attorney Noreen McDermott and the law firm of Sedgwick, Detert, Moran & Arnold was entitled to the entire $2.5 million settlement between its client, Stephen Waltrip, and various defendants.
Waltrip and his now-defunct company, Waltrip and Associates, took out two loans, for $500,000 and $100,000, in 1996. The larger loan was secured by an agreement granting Wells Fargo Bank a security interest in all inventory, equipment, and “general intangibles,” and the bank filed a UCC-1 form to perfect its interest.
Waltrip defaulted on the larger loan, the bank sued, and a judgment for nearly $700,000 was entered in August 2001, the same month that Waltrip sued Kevin B. Kimberlin and others.
The complaint alleged that the defendants had agreed to finance operations of the Waltrip company in exchange for stock and the ultimate transfer of the company’s inventory, trade secrets, intellectual property and employees. The complaint further alleged that defendants breached the agreement, made false representations to induce the plaintiffs to fulfill their obligations under the agreements, and otherwise engaged in “fraud, misrepresentation, breaches of fiduciary and other chicanery.”
A few days later, Wells Fargo filed a judgment lien against the personal property of Waltrip and his company. A short time later, the second loan went into default, eventually resulting in a judgment for more than $100,000 and another judgment lien against personal property.
McDermott entered the case in May 2002, substituting for the plaintiffs’ original attorney. The plaintiffs agreed to pay a 40 percent contingency fee and executed a lien for McDermott’s fees and costs against the proceeds of the suit.
Segwick Detert subsequently came in as co-counsel. The firm agreed to advance all litigation costs, with the prior retainer agreement and lien remaining in effect and the attorneys to split the fees, 60 percent to Sedgwick Detert and 40 percent to McDermott.
In August 2005, some of the defendants agreed to settle for $2.5 million and the return to the plaintiffs of all Waltrip property, including software, in the defendants’ possession. The case proceeded to trial against the remaining defendants, resulting in a defense verdict.
Plaintiffs’ counsel then moved to have the entire proceeds of the settlement distributed to them as fees and costs. The bank objected, contending it had priority liens for the full amount due under its two judgments.
Judge David W. Abbott expressed sympathy for the attorneys’ position, noting that there would be no money to fight over if not for their efforts. But the bank, he ruled, had a priority lien; as a matter of equity, he ordered that the proceeds be split $1.727 million to the attorneys and the remaining $773,000 to the bank.
But Justice Fred Morrison, writing for the Court of Appeal, said that neither the security agreement nor the judgment lien on personal property had priority over the attorney fee lien because neither was a lien on the plaintiffs’ claim.
“Where there are competing liens, the general rule is that, all things being equal, liens have priority according to the time of their creation,” the justice wrote. “An attorney’s lien on a judgment for services prevails over later encumbrances.”
He added that “[p]ublic policy favors the priority of the attorney lien,” since lawyers may be hesitant to take cases if they cannot attach the proceeds to pay their fees, and that it is equitable to permit attorneys whose efforts result in a recovery to collect their fees from that source.
Turning to the specifics of the Waltrip case, the justice said the commercial security agreement does not take priority over the attorneys’ lien.
Morrison explained that in 1996, when the agreement was executed, California law precluded the granting of a security interest in a commercial tort claim. While the law was changed in 2001 to permit creation of such interests, the justice noted, the agreement between Waltrip and Wells Fargo was not amended to do so.
Nor, he added, can an interest in a commercial tort claim be acquired under an “after-acquired property” clause, according to the UCC.
Morrison also rejected the argument that either the judgment lien on personal property or the judgment lien on the proceeds of the suit itself took priority.
“Code of Civil Procedure Code of Civil Procedure section 697.530, subdivision (a) sets forth the categories of personal property on which the lien attaches: accounts receivable, chattel paper, equipment, farm products, inventory and negotiable documents of title,” the justice wrote. “Commercial tort claims are not listed.”
The judgment lien on personal property, he reasoned, did not attach to the settlement until the money was paid out, long after the attorney’s fee lien attached.
He also rejected the argument that the judgment lien on the lawsuit, filed in April 2003, related back to the filing of the judgment lien on personal property, since the earlier lien did not attach to commercial tort claims as a matter of statute.
The case is Waltrip v. Kimberlin, 08 S.O.S. 3870.
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