There are situations in which bankruptcy debtors work in fields that involve “commissions” rather than regular salary.  Examples of these types of employment are real estate agents, insurance brokers, or any other job that pays commissions rather than salary.  Under what circumstances are commissions property of the bankruptcy estate?  What happens, for example, when a real estate agent enters into a sales contract before he files a bankruptcy, but does not “close the sale” until after the bankruptcy is filed?

This question was considered by the Eighth Circuit Bankruptcy Appellate Panel in the case of In re Smith (B.A.P. No. 08-6050, from March 2009).  The issue on appeal was whether the bankruptcy court in Iowa erred when it concluded that a real estate agent’s commissions earned in connection with two sale contracts entered into pre-petition but not closed until post-petition were property of the debtor real estate agent’s bankruptcy estate subject to turnover to the trustee. Unfortunately for the debtor in this case, the B.A.P. concluded that the commissions were property of the estate, and should be turned over to the Trustee.

The facts were relatively straight-forward.  The debtor was a self-employed real estate agent who arranged for several real estate sales deals.  Contracts were drawn up and formalized.  The debtor then filed a Chapter 7 bankruptcy.  The sales actually “closed” and the commissions were received only after the bankruptcy filing, and the commissions totaled around $40,000.  The Trustee ordered the debtor to turn over the commissions, and the court affirmed this order.  The debtor appealed to the 8^th Circuit BAP.

A debtor’s bankruptcy estate, noted the BAP, includes “all legal and equitable interests of a debtor.”  Commissions earned by a real estate agent pre-petition are property of the real estate agent’s bankruptcy estate regardless of when they are paid to the agent. In re Parsons, 280 F.3d at 1188.  Property interests are created and defined by state law. Parsons v. Union Planters Bank (In re Parsons), 262 B.R. 475, 478 (B.A.P. 8th Cir. 2001), aff’d 280 F.3d 1185 (8th Cir. 2002).

Under Iowa law, the court noted, a real estate agent earns commissions in three ways:  (1) effecting a binding contract of sale under authority given to the agent to make such contract for the principal; (2) producing a purchaser to whom a sale is in fact made; or (3) producing a purchaser who is ready, willing, and able to purchase on the terms specified in the agency agreement. Ducommun v. Johnson, 110 N.W.2d 271, 273 (Iowa 1961).  Looking at the fact pattern in the case, the court had no problem concluding that the commissions had been earned before the filing of the bankruptcy.  This is true even if the debtor had continued to perform services post-petition.

The Debtor argued that the real estate sales contracts contained contingencies which were unsatisfied as of the bankruptcy petition date, and therefore were not actually “earned” within the meaning of the law.  The debtor’s argument here was that he could not have earned his commissions until all contingencies were satisfied.  However, this same argument was made—and rejected—in an earlier case.  That case was Parsons v. Union Planters Bank (In re Parsons), 280 F.3d 1185, 1187 (8th Cir. 2002); see also Parsons v. Union Planters Bank (In re Parsons), 262 B.R. 475, 479 (B.A.P. 8th Cir. 2001).

In the Parsons case, the debtor argued vigorously that she performed substantial services post-petition, without which the sales would not have closed and there would be no commissions.  But the Parsons court was similarly unpersuaded.  The rule here appears to be a strict one:  once the sales contract is drawn up and entered into, the commission is considered “earned” for bankruptcy purposes.

The Debtor presented no evidence that the contract terms were altered by post-petition events so as to alter his interest in receiving the commissions. The only postpetition changes were to one contract, and they were relatively minor changes that involved extensions in dates and deadlines. Neither change, the court said, altered the debtor’s right to a commission which was earned prepetition.

The debtor was, no doubt, chagrined by this result.  But presumably there could still be some remedies left available to the debtor, such as reaching an equitable settlement with the Trustee regarding retaining a portion of the commission.  If the commissions were already spent, there may have also been the possibility of converting the case to another chapter, and then paying out the amount into a plan over time.  In this type of a situation, it is critical to communicate to one’s attorney the fact that there are pending commissions before a bankruptcy petition is filed.

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