|
Opinion 300
Acceptance
of Ownership Interest in Lieu of Legal Fees
It is not unethical for
a lawyer to receive an ownership interest in a corporate client as compensation
for legal services, so long as the fee arrangement is a reasonable
one,
is objectively fair to the client, and has been agreed to by the
client after being informed of its implications and given an opportunity
to
seek
independent counsel on the fee arrangement. A lawyer’s current
or expected ownership interest in a client may create a conflict
of interest that may prevent the lawyer from undertaking the representation
unless
informed client consent is received.
Applicable Rules
-
Rule
1.5(a) (Fees)
-
Rule
1.7(b), (c) (Conflict of Interest: General Rule)
-
Rule
1.8(a) (Conflict
of Interest: Prohibited Transactions)
Inquiry
Inquirer is a lawyer
who has represented a limited liability company in a traditional
fee-for-service
relationship. The client has asked the inquirer to serve, on a
part-time basis, as the client’s general counsel. In lieu of
fees for this work, the client has proposed to give inquirer an approximately
20 percent
ownership interest in the limited liability company and a percentage
of the company’s profits, if any. If the inquirer accepted
this position, he would continue his private practice representing
other clients.
Inquirer
asks about the ethics of this fee arrangement.
Discussion
1. Reasonableness of the Fee Arrangement
This inquiry is one of
only a few in which this
Committee has opined on the ethics of particular fee agreements
between lawyers and clients. The ethical principles derive
primarily from
the six-word first sentence of District of Columbia Rule of
Professional Conduct 1.5(a): “A
lawyer’s fee shall be reasonable.” Rule 1.5(a)
then continues with a list of factors to be considered in determining
the “reasonableness” of
a fee, including the time involved, the amount involved in
the representation, and the lawyer’s experience. Relevant
to this particular inquiry is Comment 4 to Rule 1.5, which
states
that:
A lawyer may accept
property in payment for services, such as an ownership interest
in an enterprise.
However, a fee paid in property instead of money may be subject
to special scrutiny because it involves questions concerning
both the
value of the
services and the lawyer’s special knowledge of the
value of the property.
As reflected in Comment [4], there
is nothing
in the “reasonableness” standard
of Rule 1.5(a) that would prohibit a lawyer’s receipt
of an ownership interest in the lawyer’s client (e.g.,
shares of stock in a corporation) as a fee. 1 Thus,
the pertinent question
is
not whether such a fee arrangement
is
ethical
in principle;
it
clearly is. Rather, the question is whether a particular
ownership-in-lieu-of-fees arrangement is “reasonable,” which
calls for an analysis of reasonableness factors similar to
that we have
described in
prior opinions.
See, e.g., D.C. Bar Op. 42 (Nov. 1977) (decided under Code
of Professional Responsibility). Such an analysis would be
the means of determining
whether a specific fee arrangement was reasonable under the
circumstances of
the particular representation. Not to be ignored in evaluating
the reasonableness of the fee is factor (8) under Rule 1.5(a)
(“whether
the fee is fixed or contingent”), since there is a
risk that stock of a non-public start-up company received
as a fee
may be
worthless if the client’s
business does not succeed.
Also relevant to the reasonableness
analysis would be the disclosures and explanations made by
the lawyer to the
client concerning the proposed stock-for-fees arrangement.
The listing of reasonableness
factors in Rule 1.5(a) does not mention such conduct, but
that list is not exhaustive, and we have no doubt that reasonableness
would
be measured,
at least in part, by the extent to which the client’s
acceptance of the fee arrangement was informed by its understanding
of its
financial implications. Managers and owners of start-up companies
may be unsophisticated
consumers of legal services, or may not appreciate the financial
implications of paying for legal services in stock instead
of cash. It may be necessary
under such circumstances for the lawyer to explain how the
use of stock to pay for legal fees may provide significant
near-term
benefits
to the
client, but may result in a cost
for
legal services
greatly
in excess of what would have been paid under more traditional
means. 2
We have been given no information about the
magnitude or difficulty
of the
legal work that will be expected of the inquirer under the
proposed compensation arrangement, or about the value of
the 20 percent
interest in the client
and the profit distributions. 3 Even if we had such information,
we would be judging it under the standard of “reasonableness,” an
amorphous concept under which, in the context of our ex parte
proceedings in which
we make no searching factual inquiries, we could likely condone
or reject only those arrangements falling well inside or
outside its
indistinct
boundaries. The “reasonableness” factors listed
in Rule 1.5(a) should assist inquirer in applying the law
to the details
of his proposed
fee arrangement. 4
2. Stock in Lieu of Fees as Conduct Under Rule
1.8(a)
We agree with the commentators who have written on
the subject
( see Hazard & Hodes,
Law of Lawyering (2d ed. 1998) at §1.8:202 et seq.;
C. Wolfram, Modern Legal Ethics (1986), §8.11.2) that
a stock-as-fees arrangement is subject to Rule of Professional
Conduct 1.8(a), which governs certain transactions with
or related to clients.
The Rule provides as follows:
(a) A lawyer shall not enter
into a
business transaction with a client or knowingly acquire
an ownership, possessory,
security, or other pecuniary interest adverse to a
client unless:
(1) The transaction and terms on which the lawyer
acquires
the interest are
fair
and reasonable to the client and are fully disclosed
and
transmitted in writing to the client in a manner
which can be reasonably
understood by
the client;
(2) The client is give n a reasonable
opportunity to seek the advice of independent counsel in the
transaction;
and
(3) The client
consents
in writing thereto.
In many respects, Rule 1.8(a)
codifies the well-established common law principle that a lawyer
occupies a
fiduciary position
vis-à-vis
his client, which means that all transactions between
lawyer and client are suspect and must be fair to
the client. See
Connelly
v. Swick & Shapiro,
749 A. 2d 1264 (D.C. 2000); Curtis v. Fabianich,
200 A. 2d 382 (D.C. 1964).
There is some overlap
of the
ethical requirements
of Rules
1.8(a) and 1.5(a).
Adequate disclosure of the terms and implications
of the fee arrangement,
and the reasonableness of the arrangement, are common.
But Rule 1.8(a) adds to the lawyer’s ethical
obligations to his client the requirements that the
fee arrangement be “fair” to
the client, that the fee arrangement and the disclosure
be in writing, that the client be
given
an opportunity to seek the advice of independent
counsel concerning the proposed
fee
arrangement,
and that the client’s consent to it be in writing. 5
3. Conflict
of Interest
A conflict of interest question is also presented
when
a lawyer
receives an ownership interest in a client or the client’s
business venture as compensation, in full or in part,
for legal services to be
provided to the client. The relevant ethics principle
is found in Rule 1.7(b)(4),
which prohibits a lawyer from
represent[ing] a client
with respect to a matter if . . . the lawyer’s
professional judgment on behalf of the client will
be or reasonably
may be adversely affected
by the
lawyer’s
. . . own financial, business, property, or personal
interests.6
Depending on
a number of factors, including
the
extent and value of the
ownership interest acquired by the lawyer, its
relationship to the total fees to be earned from
the engagement,
its relationship to
the lawyer’s
total income and total assets, and the type of
legal services being provided, an ownership-in-lieu-of-fees
arrangement
might affect
a lawyer’s
exercise of professional judgment on behalf of
the lawyer’s
client. For example, in a situation in which a
lawyer is offering advice concerning
the legality of a proposed transaction which, if
consummated, will have a significant positive effect
on the client’s
business and the value of its shares, under some
circumstances the lawyer’s
judgment in the matter could (wittingly or unwittingly)
be influenced by his ownership
of the shares.
Opinions from this and other jurisdictions
have long identified the conflict of interest implications
of the
relationship between a lawyer’s
personal financial interests and the interests
of the lawyer’s
clients. For example, our Opinion 144 commented
on the ethical conflict created
when a lawyer was assigned a Criminal Justice Act
representation before a judge who had a practice
of inadequately compensating
appointed counsel.
We wrote as follows concerning the application
of DR 5-101(A) (the predecessor to Rule 1.7(b)(4)):
This
provision clearly
prevents
an attorney from
accepting employment, without the client’s
consent, where the attorney’s
financial interests will impair, or “reasonably” may
impair, his professional judgment. Thus, before
he accepts a CJA case, inquirer
must determine whether the assignment of Judge
X, a circumstance that “reasonably” might
occur, would affect his judgment. (Emphasis in
original.)
While we can readily identify the theoretical
potential
conflict of interest in an
ownership-in lieu-of-fees arrangement, determining
when it exists and rises to the level
of an ethical bar to a representation is difficult.
The ethical prohibition
is invoked only when the lawyer’s professional
judgment “will
be or reasonably may be adversely affected” by
the lawyer’s
personal financial interests. Unlike the bright
lines created in Rules 1.7(a) and 1.7(b)(1) (prohibiting
adversities
with a lawyer’s
own client), the prohibition of Rule 1.7(b)(4)
(like the simultaneous representation
prohibitions of Rules 1.7(b)(2) and (b)(3)), is
one which is highly dependent on the circumstances
of
the representation
and the lawyer’s
own circumstances. In this Opinion, we can do no
more than identify the conflict
of interest
considerations, and leave it to the inquirer to
determine whether the particular circumstances
of his representation
of his client
are such
that his judgment “will
be or reasonably may be adversely affected” by
the fee arrangement. The test to be applied is
an objective one, that
is, whether a
lawyer’s
judgment “will be or reasonably may be adversely
affected” by
certain circumstances is determined by the position
of a reasonable lawyer under the circumstances.
See note 6.
The
conflict is
waivable by the
client, based on full disclosure by the lawyer.
Id.7
Inquiry No. 00-2-2
Approved:
July 25, 2000
- The Committee has once before addressed the ethics of stock-in-lieu-of-fees.
In D.C. Bar Op. 179 (Mar. 1987), decided under the former Code of Professional
Responsibility, we were asked to opine on an arrangement wherein a
lawyer was to be compensated with stock of a client for representing
it in a Federal Communications Commission license proceeding. The client’s
only potential asset was the hoped-for license, such that the stock
received by the lawyer would have value only if the license were granted
to the client.
The Committee examined this arrangement under DR 5-103(A),
which prohibited a lawyer from acquiring “a proprietary interest
in the cause of action or subject matter of litigation he is conducting
for a client,” except for a reasonable contingent fee in a civil
case. The Committee concluded that, while receiving stock under the
circumstances of the inquiry was the acquisition of an interest in
the subject matter of the litigation, it was tantamount to a contingent
fee and so was excepted from the general prohibition of the rule. The
Committee’s opinion noted that compensating lawyers with the
stock of cash-poor start-up companies was a way of providing access
to legal services for clients that might otherwise be unable to afford
a lawyer.
- D.C. Bar Op. 115 (1982) adverted to this concern in connection with
a proposed fee arrangement in which a lawyer would receive a portion
of revenue to be earned by athletes, artists and performers just beginning
in their professions in return for current legal services to them.
It urged explanation of the fee arrangement because “a person
just embarking on his or her career, because of youthfulness or other
factors, may be quite naïve about contingent fee matters.”
- Where the stock received by the lawyer is not publicly traded, its
value at the time it is transferred to the lawyer may be difficult
to determine—a factor that may further complicate the Rule 1.5(a)
analysis.
- We are not aware that our Committee has ever opined whether a specific
fee arrangement was reasonable or, under Code of Professional Responsibility
DR 2-106, “clearly excessive.”
- Rule 1.8(a) and the commentary thereto are silent on how fairness
is to be determined, and whether it is to be determined only by reference
to facts and circumstances existing at the time the arrangement is
accepted by the parties, or by reference to subsequent developments
(for example, a huge appreciation in the value of the shares received
as fees such that the lawyer is effectively compensated at 100-fold
the reasonable value of his services). For ethics purposes (and not
for purposes of assessing common law fiduciary duties), we believe
that the “fairness” of the fee arrangement should be judged
at the time of the engagement. In other words, if the fee arrangement
is “fair and reasonable to the client” at the time of
the engagement, no ethical violation could occur if subsequent events,
beyond the control of the lawyer, caused the fee to appear unfair or
unreasonable. See Restatement of the Law Governing Lawyers (Preliminary
Final Draft No. 1, 1996) §207, comment e (“Fairness is determined
based on facts that reasonably could be known at the time of the transaction,
not as the facts later develop.”).
- This prohibition is waivable by the affected client following disclosure
by the lawyer of the circumstances of the conflict. See Rule 1.7(c).
As reflected in Comment [7] to Rule 1.7 and as we have previously noted
(see, e.g., D.C. Bar Op. 257 (Sept. 20, 1995)), if an objective observer
would find any reason to question the lawyer’s ability to provide
competent and zealous representation, uninfluenced by the lawyer’s
financial, business or property interests, the lawyer should seek and
obtain the client’s informed consent to the representation.
- The conclusions reached in this Opinion are similar to those reached
in other jurisdictions and by the ABA on the subjects addressed. See,
e.g., Assoc. of the Bar of the City of New York Formal Op. 2000-3 (2000),
Utah Ethics Op. 98-13 (1998) and ABA Formal Op. 00-418 (2000).
|
