Collection of Professional Accounts
David W. T. Carroll, Esq.
Carroll, Ucker & Hemmer LLC
175 S. 3rd St., Suite 200
Columbus, Ohio 43215
(614) 547-0350
fax: (614) 547-0354


When a client has financial trouble, the client's professional accounts are the easiest to avoid paying.

Often the professional gets caught in a trap.  Have you ever heard yourself say or think, "If I press too hard for collection this time, the client may not use my services the next time?"  Collection decisions on overdue professional fees are difficult, because any suit for collection may bring a claim for malpractice, warranted or not.  This paper is intended to serve as a guide through the collection process, but every decision whether to take collection action must be made on its own merits, preferably with the help of counsel knowledgeable in malpractice issues.

In the Beginning

The best start to collections is in the selection of clients.  Avoid clients unfamiliar with construction and those new to working with design professionals.  Alternatively, understand that these clients require you to train them.  They need constant attention.  You need to document carefully all additional services.  You need to explain the many hours of work that go into drawings and specifications.  You need to explain that every structure is a first of a kind.  Even houses with similar floor plans have dissimilar sites and dissimilar contractors. 

You need to explain that the construction process is not perfect and that professional services are most assuredly not perfect.  With professional services, the client buys the professional's skill, not a finished product.  In other words, you must carefully and in detail explain the scope of services and create reasonable expectations on time, money, construction administration, and quality of finished product given the budget.

Avoid doing design work for small, inexperienced developers, because they seem always to want you to work on a contingent fee, without any premium for the extra risk.  Avoid contracting with small corporations, because they often have no assets from which to collect when the funding falls through.  If you knowingly take a project on the contingency that the developer will get funding, you ought, at least, be paid for the risk.

Consider the client.  If you have a reason to be uncertain about collection (i.e., any small client), ask for a cash payment up front to be applied to the last payment.

Finally, provide for the charging of interest in the contract.  This a particularly helpful with large corporate clients, many of whom will delay your payment as a matter of corporate policy, because the corporation makes money on the float.  In fact, this is very unfair, because you and your consultants have paid salaries and overhead, too.  You should be compensated for the additional time you have to finance the work due to tardy payments.

The Clients

Corporations and Limited Liability Companies.  As clients, corporations and limited liability companies are worth only the value of their assets at collection time.  Some large entities are quite collectible.  Smaller entities pose a significant risk to the design professional.  Unless an individual guarantees to corporate debt in writing, the design professional will be limited to collecting from company assets, no matter who is behind the corporation or limited liability company.  Most developer entities have no assets from which to collect.

Partnerships and Joint Ventures.  With a partnership or joint venture, the creditor may collect from the assets of the partnership or joint venture and then when those are exhausted from the assets of the individual partners or joint venturers.  Of course the partners may corporations without assets.

Limited Partnerships.  A limited partnership is a partnership that has a general partner and additional partners called limited partners.  Limited partners are not liable for the debts of the limited partnership, except to the extent of any unpaid subscriptions for the limited partnership interest.  However, the general partner's assets are available for collection after exhausting limited partnership assets.

Government entities.  Government entities present special collection problems on those rare occasions when they are recalcitrant (as opposed to being normally merely slow).  Those problems are beyond the scope of this paper.  Fortunately government clients rarely plead poverty after contracting for design services--at least as an excuse for non-payment.  In Ohio, anyone contracting with a government entity below the level of the state government has a duty to obtain a fiscal officer's certificate with the contract by which the chief fiscal officer certifies that the funds to pay the contract have been appropriated and are either collected or are in the process of collection.   To be valid, the contract with a school district also requires a certification signed by the treasurer, superintendent and the President of the Board of Education stating in effect that the school district has enough funds to operate for the entire school year.   Without those certificates, there is no right to collect on an unpaid contract!

Individual.  The individual contract signer is the most likely pay.  If a contract is with a corporation or some other entity, it is best to have the contract co- signed (i.e., jointly signed) by an individual principal of the corporation or other business entity.  Although trickier, you may also request that the individual guarantee the contract in a written guarantee.

Written guarantees are difficult to draft well.  A simple guarantee may be discharged in many ways not obvious.   For example, any deferral or compromise of the debt may, in the proper circumstances relieve the guarantor of liability.  Before entering into a written guarantee (as opposed to a joint obligation due to co-signing), consult with legal counsel.

During the Project

The more quickly invoices are billed, the more quickly they are paid.  The longer the billing from the service, psychologically, the easier it is for the client to avoid paying, especially if your services are no longer needed.  (What have you done for me lately?)

When the client runs out of money, many will then complain about the quality of the service.  This translates to real problems in collection, as discussed below.

During the project, find subtle ways to confirm in writing the client's expressions of pleasure. 
At the first sign of slow payment, confirm orally that the client is happy with the services and then confirm it in writing, perhaps coupled with a short extension of time to pay.  If possible, get the owner's signature agreeing to the satisfaction. 
Confirming the owner's satisfaction does two things.  First, if the late payment is truly a temporary phenomenon, you concern for the client's satisfaction will promote good client relations.  Second, it will make it more difficult for the client's lawyer, if collection really falls apart, to make malpractice claims or claims that you failed to live up to your end of the contract.

The Seriously Overdue Invoice

  The most cost effective collection methods are your personal contacts followed by confirming collection letters.  Your follow-up letters should again confirm that the client has expressed satisfaction, or possibly no dissatisfaction, or define the only areas of dissatisfaction and the agreed resolutions.

If the client complains of financial problems, and you believe there is some prospect for eventual collection, there are a number of avenues to consider. 

1.   Payment Schedule.  A voluntary payment schedule, with or without interest, as you may agree.  It is best if the payments are secured by a note, preferable cognovit in form.  A cognovit note is a note that confesses judgment in advance.  If any payment is missed, the noteholder may go into court and get a judgment in one day.  With any other type of note, judgment arrives only after the 28 days after service and then only if no defense is offered, otherwise judgment may be weeks or months afterward, if at all.

A debtor may apply to the court to vacate the cognovit judgment if the debtor can show that there is a valid defense to the note.  Usually, by that time, the debtor is more interested in paying to get the creditor off his back than to pay a lawyer to fight a once-lost battle.

2.   Voluntary liens.  Along with, or in lieu of a note, try to get the debtor to give you a voluntary lien on property.  Rarely will you find that the debtor has real estate without any prior liens, but any lien is better than no lien at all.  Even a junior creditor may cause serious problems (resulting in an increased desire to resolve the debt), especially if the property is valuable to the debtor.  You will need a lawyer to prepare the mortgage and security agreement.

Liens may be granted on any property, not just real estate.  Stocks, bonds, CD's, receivables -- all may be subjected to liens.  To perfect the liens, you will need to consult a lawyer.  It is not difficult so much as tricky.  One small error may render the liens worthless.  You will need a security agreement and proper filings under the Uniform Commercial Code.

Fair Debt Collection Practices Act

The Federal Fair Debt Collection Practices Act was initially enacted to protect consumers from professional collectors.  Although the Act has been expanded beyond its original intent by both by legislation and by court decision, it's still does not apply to collection actions by the original debtor (i.e., the architect trying to collect its own debt) or generally to business debts.  In cases involving architectural fees, it applies to collection of fees for the design of a home, for example, when the architect is hired by the homeowner, but only if a professional collector attempts to collect the fee. 

While this Act as a limited application to collection of architectural fees today, be alert to any changes (which undoubtedly would make the news in at least the business section of the newspaper).

Methods of Collection

1.    Collection Agencies.  Collection agencies charge a percentage of the collections, plus court costs if it goes that far.  Unfortunately, collection agencies are not geared to recognize the peculiar problems of professionals.  Collection agencies work best for multiple, recurring collection of trade debts, and in our judgment, are not really suitable for the collection of professional fees.

2.    Suit.   Law suits are expensive, but in collection cases may be done based upon a percentage of the amount collected.  Often that is not an appropriate method of legal compensation.  That compensation method is more likely acceptable to the lawyer for a regular client, particularly if the collection is relatively small. 

Unfortunately, collection suits frequently result in malpractice claims.  When suit is filed, a party must make a counterclaim for any claim the party may have arising from the same facts and circumstances as the original claim.  When the original claim is collection of professional fees, a debtor's lawyer will ask his client if there is any reason to believe there was malpractice.  A pressed debtor often will think of something, however insubstantial.  The lawyer will then make a malpractice counterclaim, to avoid being accused of malpractice himself. 

A malpractice claim requires the professional to notify the malpractice insurer, which will result in the employment of a lawyer knowledgeable in malpractice issues.  Unless the design professional's original lawyer regularly works through insurance companies in malpractice cases, the insurer will require another lawyer--who the design professional will pay for through the deductible.

If a malpractice counterclaim is made, the nature of the construction process is such that the defense will rarely be lower than a small deductible ($10,000 to $15,000).

3.   Small Claims.  If the debt is less than $3000 or if you are willing to accept only $3000, you may bring an action in the small claims court without a lawyer.  The debtor may still counterclaim for malpractice, but unless the debtor asks for over $3000, any judgment will be limited to that amount.  Any request for more than that will cause the action to be transferred either to municipal court or to common pleas court where both parties will need lawyers.

As a practical matter, debtors rarely make malpractice counterclaims in small claims court.  Because small claims court allows both parties to proceed easily without a lawyer, the debtor usually will save money (the debtor is generally short of money anyway) and will not consult a lawyer who would suggest the counterclaim.

After judgment--getting the money

A judgment is no guarantee that a debtor will pay.  The creditor must take certain steps to collect.  Which steps are up to the creditor.

1.   Judgment lien.  A judgment creditor may get a lien on all real property owned by the debtor by getting a certificate of judgment from the court clerk and filing that certificate in the county in which the debtor owns property.

The lien will attach to any real property owned by the debtor when the lien is filed.  It will not attach to property recorded by the debtor after the filing of the lien.  It will not attach to stock, bonds, accounts receivable, automobiles or any other property that is not real estate.  The lien will have priority over liens filed after the lien filing, but not those filed before.  It will not have priority over a pre-existing mortgage, for example.

If the debtor owns the property with his wife, the lien will not attach to the wife's half ownership.  If the debtor owns property in the name of a corporation or a partnership, the lien will not attach to the property.

2.   Attachment by Execution.  Personal property in possession of the debtor may be attached by an execution.  The creditor having a judgment files a writ of execution with the sheriff describing the property to be attached and the sheriff may seize the property.  The property then gets sold at sheriff's sale to the highest bidder.  The proceeds pay first the costs then the judgment.

3.   Wage garnishment.  Garnishment is a means of seizing property of the debtor in the hands of another.  In a wage garnishment, the creditor causes the clerk of courts to issue a writ of garnishment which is served on the debtor's employer ideally the day before payday.  The employer must then answer to the court paying the court a certain amount which is withheld from the employee.  The amount required to be paid to court and the permitted frequency of garnishments are limited by law. 

The debtor may obtain a prompt hearing to raise any valid objections to the garnishment.  The hearing is usually held in five to ten days from the service of the garnishment. 

A wage garnishment is a powerful incentive for employees to make other arrangements to pay, because many employers will fire an employee rather than suffer continued garnishments.

4.   Non-wage Garnishments.  Non-wage garnishments seek to obtain property of the debtor in the hands of a third party, other than wages.  For example, non-wage garnishments are used to attach funds in bank accounts.

The creditor files a writ garnishment with the clerk of courts identifying the garnishee (and if a bank, the debtor's account numbers if possible) and causes the writ to be served.  The bank (or whoever) is required to pay the money into the court (or explain why not). 

The debtor has five days in which to request a hearing which is usually held 5 to 10 days after service of the writ.  The debtor may raise any proper issue in that hearing, such as whether the debt has already been satisfied.  Whether the judgment should have been granted is not a proper issue.

5.   Judgment Debtor Examination.  A judgment creditor may, by filing the appropriate writ, require the debtor to come to court and tell the creditor about the assets available to answer for the debt.  The debtor is put under oath and must answer any question put to him about his assets and recent transfers of the assets.  The creditor may use that information to pursue other collection methods.

6.   Execution Against the Person.  Although the Ohio Constitution forbids imprisonment for debt, there is an exception for debts resulting from fraud or where a debtor fraudulent transfers or conceals assets.  Ohio has a rarely used procedure to allow execution against the person by which the debtor is put in jail until the debt may be paid or secured or it is proven that the debtor lacks the means to satisfy any further portion of the debt.  Yes, Virginia, there is a limited form of imprisonment for debt in Ohio.

Pre-judgment Liens

1.   Mechanic's Liens.  Ohio does not specifically recognize mechanic's liens for design professionals.  In Ohio design professionals have no mechanic's lien right except possibly for services actually performed physically on the property.  There is a school of thought that surveyors who physically stake property for construction may have lien rights for the portion of the work performed on the property.  However, clearly there are no lien rights for the development of drawings and specifications for the work.

The theory is that there is fair notice of the possibility of a mechanic's lien if the passerby can see that work has been physically performed on the site or that materials have been delivered.  There is no such physical evidence of the commencement of drawings.

2.   Prejudgment Attachment.  Generally in Ohio, a creditor may get a lien on the property of a debtor only if the creditor has performed physical work to improve the property on which the lien is claimed.  However, there is no right to obtain any other prejudgment lien on the property of a debtor unless the creditor can show that the debtor is about to flee the jurisdiction or hide the property.

This is a rare remedy in Ohio and is very difficult to prove.  However, if a creditor can make the proof, a court will allow prejudgment attachment of property if the creditor will furnish a bond in double the amount of the amount sought in the judgment. 

Transfers in Fraud of Creditors

Any transfer of an asset to hide it from present or future creditors made without sufficient consideration (for example, transfer by gift) is in fraud of creditors.  As a result, those assets may be garnisheed or attached by the creditors.  There are also rarely enforced criminal penalties for such transfers.

Of course, there is usually a fight over whether the transfer was valid. 

Exemptions

Not all assets of a debtor may be attached by a creditor.  The statute gives the debtor the right to claim certain exemptions.  The trick is that the debtor must affirmatively claims those exemptions before the property is sold or the money turned over the creditor.

Bankruptcy

Bankruptcy of the debtor presents special problems, the full scope of which fills volumes.  The design professional is well advised to consult with counsel about how best to proceed.  One thing is certain.  As soon as you know of the bankruptcy, you must immediately stop all collection efforts.

As soon as a debtor files bankruptcy, an automatic stay goes into effect.  That stay prohibits almost all (but not quite all) creditors from taking any collection action.  Any attempt to collect debt could result in a finding of contempt of the bankruptcy court.

If you have collected money from the debtor within 90 days of the bankruptcy filing (longer if you are an insider of the debtor), you may have to give that collected money back to the bankruptcy court.  You will have to give that money back unless it was paid for services rendered within 45 days of the date the money was paid to you.  This is called a preference.  In theory, the bankruptcy court is leveling the playing field because the debtor has preferred you over other creditors due to the recent payment.

All too often, bankruptcy means the creditor takes nothing.  However, sometimes the aggressive creditor can create problems in the bankruptcy that encourages payment.

There are two types of bankruptcy most commonly seen.  A chapter 7 bankruptcy results simply in liquidation of a creditor's assets supposedly for the benefit of the creditors.  Usually the trustee, if anyone, benefits the most.   If the bankruptcy is a "no asset" estate, count no not collecting anything from that debtor.

A chapter 11 bankruptcy is supposed to be a reorganization of the debtor.  In a chapter 11, the debtor keeps operating.  The debtor has four months (and longer actually) to propose a plan of reorganization.  Basically the plan tells how much of the debt the debtor proposes to repay on what payment schedule.  The largest unsecured creditors form creditor's committee to act on behalf of the creditors to negotiate the plan.  Usually, the plan results in a few cents on the dollar of repayment, but only if the debtor lives up to the plan.

As a practical matter, a chapter 11 bankruptcy usually helps only the debtor, the secured creditors (usually the largest creditors), the trustee (who gets a fee) and the lawyers (who all get fees).  The smaller creditors, especially if unsecured, usually get little return.  Even secured smaller creditors usually have liens subordinate to the larger secured creditors and the assets securing the liens usually have insufficient value to pay the lower priority secured debts.

Conclusion
Probably our best advice is to select your clients well.  Your collection will be aided by good communications before and during the project.  Always confirm in writing that the client was pleased with the services (if that is true).


For mor information, email David W. T. Carroll

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