The Surety and Attorney’s Fees – The American Rule
July 26, 2022
This is the first post of a multi-part post regarding attorney’s fees. In this post we will explore the American Rule regarding recovery of attorney’s fees and its exceptions. In the follow on posts we will discuss determining and proving the reasonableness of fees, attorney’s fees under the Miller Act, potential liability for attorneys’ fees under a provision appearing in the bond itself, attorneys’ fee provisions that appear in the underlying bonded contract and attorney’s fees in interpleader actions.
Of course, attorney’s fees are near and dear to every attorney, but they can also be a large component of claims. Sureties have an interest in this topic because of the potential exposure to attorney’s fees and because of the claims for attorney’s fees that sureties may make against indemnitors and others. The bedrock or foundation of recovery of attorney’s fees is the American Rule. Hence the starting point of our discussion of attorney’s fees.
THE AMERICAN RULE
Under the “American Rule” attorneys’ fees incurred by the prevailing party in litigation are not recoverable as an item of damages in the absence of a contractual or statutory provision to the contrary. Hiss v. Friedberg, 201 Va. 572, 112 S.E.2d 871, 875 (1960); Wallace Process Piping Co. v. Martin-Marietta Corp., 251 F. Supp. 411, 420 (E.D. Va. 1965); Glassman Const. Co., Inc. v. Maryland City Plaza, Inc., 371 F. Supp. 1154, 1163 (D. Md. 1974). The Rule means that each party – win or lose – pays for its own attorneys’ fees. The Rule was originally created as a judicial policy by court opinions, but now many jurisdictions have codified the Rule to varying degrees.
The “American Rule” gets its name because the rule in the United States differs from the rules regarding attorney fees in other countries. For example, in England at common law, the prevailing party was entitled to recover attorney fees. The common law approach to fee-shifting made litigation a risky business even under the best of circumstances. But those pesky American rebels, adopted a distinctly different approach upon obtaining independence. Indeed, the purpose of the American rule was, in part, to ameliorate the harshness of the common law approach. It has been observed that the Rule is rooted in our Founders’ distrust of lawyers (come on, really) and continued because of a belief that the English system favored the wealthy and unduly penalized the losing party. Conte v. Flota Mercante del Estado, 277 F.2d 664, 672 (2d Cir.1960) (citing Arthur L. Goodhart, Costs, 38 Yale L.J. 849, 872–77 (1929)); New Mexico Right to Choose/NARAL v. Johnson, 127 N.M. 654, 658, 986 P.2d 450, 454 (1999).
It has also been noted that the purpose of the American rule “is to avoid stifling legitimate litigation by the threat of the specter of burdensome expenses being imposed on an unsuccessful party.” 20 Am. Jur. 2d Costs § 55 (2005). In Fleischmann Distilling Corp. v. Maier Brewing Co., 386 U.S. 714, 718, 87 S.Ct. 1404, 18 L.Ed.2d 475 (1967) the Supreme Court, addressing the purpose of the American Rule, observed that one should not be discouraged from prosecuting or defending against a suit because of the uncertainty of litigation and noting that the poor might be unjustly discouraged from defending their rights for fear of paying their opponents’ fees. See also Ex parte Baker, 143 So. 3d 754, 761 (Ala. 2013).
In NCJC, Inc. v. WMG, L.C., 960 N.W.2d 58, 68–69 (Iowa 2021), the court observed “[t]he question of who pays attorney fees is a big deal. This is so for a number of reasons. First, potential litigants with few resources are at a distinct disadvantage in legal disputes where attracting skilled lawyers, if not a prerequisite for success, greatly increases the odds of a positive outcome. Second, our legal system has become more complicated and thus more expensive. Under the circumstances, an underdog risks being crushed by the resource imbalance notwithstanding the underlying merits of the case.” So, the American Rule is fairly straight forward and well entrenched in American jurisprudence with a strong policy foundation.
EXCEPTIONS TO THE AMERICAN RULE
However, as with most “rules,” there are exceptions. The exceptions to the American Rule are: (1) the parties can contractually bind themselves to pay attorney’s fees as an item of damages or to the prevailing party, (2) a statute can specifically allow the recovery of attorney fees under certain circumstances, (3) the wrongful conduct of a defendant forces a plaintiff into litigation with a third party and (4) where one party develops a common fund for multiple parties. Nova Research, Inc. v. Penske Truck Leasing Co., L.P., 405 Md. 435, 446, 952 A.2d 275 (2008) (quoting Thomas v. Gladstone, 386 Md. 693, 699, 874 A.2d 434 (2005)); Thomas v. Capital Medical Management Associates, LLC, 189 Md. App. 439, 467, 985 A.2d 51, 68 (Md. App. 2009). So, let’s look at some of these exceptions:
Contracts
The first exception is for contractual obligations. Of course, in the construction industry recovery of attorney’s fees is a common provision in construction contracts, purchase orders, credit applications and the like. Some bond forms, especially the general contractor manuscript bond forms, provide for the recovery of attorney’s fees. As we all know, the surety General Indemnity Agreements typically require the payment of attorneys’ fees to the surety. That is certainly true with respect to contract surety bond cases, but may not always be true in the commercial bond context. In commercial bonds, those squirrelly little applications and an “after-thought” indemnity provision may not fully and properly provide for recovery of attorney’s fees. The old adage RTFB must be observed. The GIA must indemnify against any liability and not just loss and it must specifically mention recovery of attorneys’ fees associated with addressing defaults and claims, as well as in seeking to enforce the GIA.
Statutes
While the American Rule has deep roots and sound justification, over time, legislatures began to enact statutes altering the Rule in certain situations to allow an award of attorney fees to a prevailing party. Some of these fee-shifting statutes are so-called “leveling the playing field” regimes, while others apply in commercial settings where the power imbalance between the parties may be less pronounced or nonexistent. See Rochelle Cooper Dreyfuss, Note, Promoting the Vindication of Civil Rights Through the Attorney’s Fees Awards Act, 80 Colum. L. Rev. 346, 349 (1980). Some examples include consumer protection statutes, bad faith statutes, unfair claims handling practices, False Claims Act litigation, and wage and hour violations.
In some statutes it may not be clear if the legislature intended to countermand the American Rule. In those instances, the Supreme Court has provided guidance holding that “Congress must provide a sufficiently ‘specific and explicit’ indication of its intent to overcome the American Rule’s presumption against fee shifting.” Hyatt v. Hirshfeld, 16 F.4th 855, 859–60 (Fed. Cir. 2021) (quoting Alyeska Pipeline Serv. Co. v. Wilderness Soc’y, 421 U.S. 240, 260, 95 S.Ct. 1612, 44 L.Ed.2d 141 (1975)). The Court noted that the American Rule presumption against fee shifting applies to all statutes. While no “magic words” are needed to override the American Rule, the requirement that legislative intent be “specific and explicit” is recognized as a high bar. Key Tronic Corp. v. United States, 511 U.S. 809, 815–21, 114 S.Ct. 1960, 128 L.Ed.2d 797 (1994).
Under this exception, there are also court rules that may allow for recovery of attorney’s fees, such as motions to compel in discovery, offers in compromise, failure to admit requests for admissions, and sanctions for frivolous or bad faith actions in litigation. Federal Rule of Civil Procedure, Rule 11 allows for the imposition of sanctions for wrongful conduct in litigation. It has also been held that a court may award attorney’s fees pursuant to its inherent equitable powers to address acts of bad faith, vexatious, wanton, or oppressive conduct. Int’l Chem. Workers Union, Local No. 227 v. BASF Wyandotte Corp., 774 F.2d 43, 47 (2d Cir. 1985).
Third Party Litigation
The third well-recognized exception to the American Rule relates to third party litigation and is commonly referred to as the collateral litigation doctrine. McGaw v. Acker Merrall & Condit Co. 111 Md. 153, 160, 73 A. 731 (1909). The exception provides that where the wrongful acts of the defendant has involved the plaintiff in litigation with others, or placed the plaintiff in such relations with others as to make it necessary to incur attorney’s fees and expense to protect their interest, such fees and expenses should be treated as the legal consequences of the original wrongful act. St. Luke Evangelical Lutheran Church, Inc., 318 Md. at 345–46, 568 A.2d 35 (“[A]ttorney’s fees may be awarded when … the wrongful conduct of a defendant forces a plaintiff into litigation with a third party.”); Kromm v. Kromm, 31 Md. App. 635, 358 A.2d 247 (“The allowance of such expenses manifestly was grounded on the fact that the wrong there complained of had imposed a necessary obligation upon the plaintiff to institute the collateral action[.]”). Collateral litigation expenses under this exception are only recoverable “for legal services in a separate litigation against another party[,] which the wrongful act of the defendant had required,” and not the legal services rendered in the instant litigation. Freedman v. Seidler, 233 Md. 39, 47, 194 A.2d 778 (1963). A plaintiff may recover collateral litigation expenses as damages by demonstrating that such expenses were the natural and proximate consequence of the injury complained of, were incurred necessarily and in good faith, and were a reasonable amount. Fowler v. Benton, 245 Md. 540, 550, 226 A.2d 556 (1967).
This exception can have application in the surety industry. For example, there can be a situation where because of a principal’s wrongful conduct, such as delaying a project could lead to claims against the obligee by a third party, such as an owner, or other trade contractors who were impacted by the alleged delays. You could also see this exception in a mechanics’ lien case as well, where the unpaid subcontractor or supplier asserts a mechanics lien against the owner/obligee of the property, and the owner/obligee asserts a claim against the surety. Thus, under the third-party litigation exception to the American Rule, even if there was no provision in the bond, statute or underlying contract, the obligee in such circumstances may be entitled to seek attorney’s fees in the dispute with the surety.
Common Fund
The common fund doctrine is one of the earliest recognized exceptions to the “American Rule.” Premised on the equitable powers of the court, the common fund doctrine allows a person who maintains a suit that results in the creation, preservation or increase of a fund in which others have a common interest, to be reimbursed from that fund for the litigation expenses incurred. Cent. R.R. & Banking Co. v. Pettus, 113 U.S. 116 (1885). “[A] litigant or a lawyer who recovers a common fund for the benefit of persons other than himself or his client is entitled to a reasonable attorney’s fee from the fund as a whole.” Boeing Co. v. Van Gemert, 444 U.S. 472, 478 (1980); Adkins v. Midland Credit Mgmt., Inc., No. 5:17-CV-04107, 2022 WL 327739, at *4 (S.D.W. Va. Feb. 3, 2022). One scenario of the application of this exception could be where the surety prosecutes a defunct principal’s claim against the obligee and recovers a fund to which other subs and suppliers could share in. In that case, a surety should be entitled to recover its fees in creating the fund.
One distinction to note with respect to all of the exceptions to the American Rule is that the recognized exceptions typically do not apply to or include recovery of attorney’s fees in the action against the party from whom the fees are sought. See Southern National Bank of Houston v. Crateo, Inc., 458 F.2d 688, 696 (5th Cir. 1972). For example, the Court in H. Molsen & Co., Inc. v. Flowers, 62 F.R.D. 14, 16 (W.D. Tenn. 1973) noted that the exceptions do “not deal with the cost of litigation with the defendant himself.” See Ranger Const. Co. v. Prince William County School Bd., 605 F.2d 1298, 1301 -1302 (4th Cir. 1979); Nova Research, Inc. v. Penske Truck Leasing Co., 405 Md. 435, 446-447, 952 A.2d 275, 282 (Md. 2008).
With the foundation of the American Rule, we are ready to move on to our next blog posts on attorney’s fees, so be sure to check back. If you have questions regarding the issues discussed in this post, please do not hesitate to contact Michael A. Stover, Esq. (410-659-1321/mstover@wcslaw.com) or any member of the Surety and Fidelity Practice Group.