Reprinted by Permission of the Author
TRUST ACCOUNTING 101
Trial Talk (August/September 1999)
Colorado Trial Lawyers Association
Alec Rothrock
Burns, Figa & Will, P.C.
6400 South Fiddlers Green Circle, Ste. 1030
Englewood, Colorado 80011
Telephone: (303) 796-2626 Fax: (303) 796-2777
e-mail: arothrock@burnsfigawill.com
I. INTRODUCTION
On July 1, 1999, Colorado’s ethical rules governing lawyers as business people
became a lot more complicated. The main ethical Rule of Professional Conduct, Colo.
RPC 1.15, more than doubled in size. That Rule now contains some little publicized
provisions that may have a profound effect on the way lawyers run their businesses.
It is no coincidence that one of the most fertile areas for attorney discipline is the
mishandling of client funds. Disciplinary actions involving these issues can have serious
repercussions and often lead to an audit of the lawyer’s or firm’s accounts. Audits can be
lengthy, detailed, disruptive, distracting, intrusive, unpleasant, and expensive, if only in
time lost.
Even if audited lawyers are not disciplined as a result of the audit, they tend to
view the process as an inquisition for which they have been singled out. In a sense, they
are correct. Lawyers subjected to financial audits tend to work in solo practice or in small
firms. Yet no one is safe; trust account mismanagement tends to be a matter of strict
liability.
This article is not for or about lawyers bent on self-destruction in the form of
stealing client funds or indifference to their fiduciary obligations. Rather, it is for the vast
majority of lawyers who want very much to abide by the ethical rules. The article distills
the additions to Colo. RPC 1.15 and discusses them in the broader context of appropriate
financial management practices. The article also covers the gray areas where many
honest lawyers have unwittingly broken the rules.
II. DISCUSSION
A.
Required Bank Accounts
As of July 1, 1999, every attorney in private practice in this state must maintain,
in the attorney’s name or that of the attorney’s firm, at least two bank accounts in a
"financial institution doing business in Colorado": a trust account and a business, or
operating, account. Trust accounts must be maintained in the "state where the attorney’s
office is situated, or elsewhere with the consent of the client or third person." The only
exception to the requirement of a trust account is when the attorney never receives "funds
entrusted to the attorney’s care" or any unearned advance payment of fees. Although the
Colorado Lawyers Trust Account Foundation (COLTAF) advises Colorado lawyers not
to set up a COLTAF account unless they have client funds to deposit, Colo. RPC 1.15(f)
requires otherwise, at least for lawyers whose practice might involve the handling of
funds that must be entrusted. Commenting on lawyers’ creative attempts to avoid the
establishment of a trust account, one ethics committee stated, "Even a lawyer’s best laid
plans to avoid custody of funds of clients and third parties may be thwarted by the
unpredictable case."
Trust Accounts.
By definition, trust accounts are identifiable interest-bearing depository accounts,
insured by the government at a "regulated financial institution, on which withdrawals or
transfers can be made on demand, subject only to any notice period which the institution
is required to reserve by law or regulation." Trust accounts and all deposit slips and
checks drawn on them must be "prominently designated" as "trust accounts," and may
include other descriptive information such as the lawyer’s or firm’s name. Trust accounts
must be kept separate from all other accounts maintained by the lawyer, including
business accounts, personal accounts, and accounts established by the lawyer acting in a
nonattorney fiduciary capacity, such as executor, guardian, trustee or receiver.
Two types of trust accounts are recognized in this state: (1) those established
pursuant to Colo. RPC 1.15(e)(2), in which interest goes to support various legal aid
organizations through COLTAF, and (2) non-COLTAF accounts, the interest from which
is paid to the client or third person whose funds are deposited. The lawyer may never take
the interest earned on funds held in trust. Normally set up as NOW accounts, COLTAF
accounts must always be maintained at government-insured, regulated institutions. With
the consent of the client or third person whose funds the lawyer is holding, non-COLTAF
accounts need not be held in held in such institutions. Appropriate institutions are now
limited to those approved by the Attorney Regulation Counsel in an annual list published
by the Board of Trustees of the Colorado Attorneys’ Funds for Client Protection.
The United States Supreme Court recently cast doubt on the constitutionality of
IOLTA (Interest on Lawyer Trust Accounts) accounts such as COLTAF accounts. In the
1998 case of Phillips v. Washington Legal Foundation, the Court held, in a five to four
decision, that the interest income generated by funds held in IOLTA accounts is the
private property of the owner of the principal under the Takings Clause of the Fifth
Amendment. The Court remanded to the district court to determine whether the IOLTA
arrangement constitutes a "taking" of that property.
It remains to be seen whether Phillips spells the demise of IOLTA accounts. One
commentator suggests that Phillips renders invalid the IRS revenue rulings that exclude
interest earned on IOLTA funds from the client’s gross income, and that lawyers now
need to become cash managers with a fiduciary duty to find the best possible investment
for client funds. Another commentator disputes that interpretation, pointing out that
Phillips does not address the tax implications of such programs and does not imply
heightened duties to invest client funds.
Whether Phillips represents a sea change or nothing more than a "highly
academic and abstract exercise," COLTAF accounts remain authorized by the Colorado
Supreme Court under Colo. RPC 1.15. Indeed, Colorado lawyers have been disciplined
for failing to maintain a COLTAF account when appropriate. Colorado lawyers also have
been disciplined for depositing funds in an account that did not pay interest to the client
and was not registered with COLTAF.
A more concrete concern for Colorado lawyers is whether they have an
affirmative duty to advise their clients, and obtain their consent, prior to depositing their
funds in a COLTAF account. Relying on ABA Formal Opinion 348 (July 13, 1982),
COLTAF advises that lawyers have "no ethical responsibility to advise the client that the
interest earned will be used towards funding law-related public service projects." In
holding that there is no such duty, ABA Formal Opinion 348 reasons that, although the
client may own the interest, as a practical matter the client could not generate any net
interest on such funds because they are nominal.
Especially in light of Phillips v. Washington Legal Foundation, this advice, and
the ABA opinion on which it is based, is questionable. In a more recent opinion
discussing attorney billing practices, the ABA stressed the importance of obtaining client
consent for all charges and expenditures, if not individually, then in a written fee
agreement. Obtaining the client’s consent to the payment of interest on her funds to
COLTAF beneficiaries is no less compelling, whether or not the client could not
otherwise earn interest on the money. Further, Colo. RPC 1.4(b) (lawyer shall explain
matter to client to extent necessary to make informed decisions) and 1.5(b) (when lawyer
has not represented client before, rate or basis of fee shall be communicated, preferably in
writing) would seem to make such consent mandatory. COLTAF’s purposes are laudable,
and the amount of interest paid into COLTAF trifling, but forcing charity on unwitting
clients is presumptuous, to say the least. At a minimum, client consent to COLTAF
arrangements should be standard language in written fee agreements.
Of equal practical significance to Colorado practitioners is when to deposit client
or third party funds in a COLTAF account. Attorneys may deposit funds in a COLTAF
account only when the funds on deposit are "nominal in amount or are expected to be
held for a short period of time."
A lawyer should exercise good faith judgment in determining initially whether funds are
of such nominal amount or are expected to be held by the lawyer for such a short period
of time that the funds should not be placed in an interest-bearing account for the benefit
of the client or third person. The lawyer should also consider such other factors as (i) the
cost of establishing and maintaining the account, service charges, accounting fees, and
tax report procedures; (ii) the nature of the transaction(s) involved; and (iii) the likelihood
of delay in the relevant proceedings. A lawyer should review at reasonable intervals
whether changed circumstances require further action respecting the deposit of such
funds.
Citing studies, COLTAF states that when funds may generate $50 to $100, the
benefit to the client will outweigh lawyer and banking costs, thus militating in favor of
depositing the funds into a non-COLTAF trust account. Indeed, where substantial client
funds may be held for an extended period of time, it may constitute neglect in violation of
Colo. RPC 1.3 not to deposit the funds in an interest-bearing account benefiting the
client.
Business Accounts.
Lawyers or their firms must also maintain at least one business account for "all
funds received for professional services." In other words, lawyers who otherwise might
simply spend payments in cash must now run them through their business account, thus
promoting more accurate accounting and perhaps payment by barter. Like trust accounts,
business accounts and all deposit slips and checks drawn thereon must be "prominently
designated" as a "professional account" or an "office account." As with trust account
designations, it presumably is appropriate (indeed, it should be encouraged) to provide
further descriptive information on business account documents such as the lawyer’s or
firm’s name.
B.
Advance Payments
Colo. RPC 1.15(a) requires that funds of clients and third persons in a lawyer’s
possession be kept in a separate account. It is thus improper, for example, for a lawyer to
hold client or third party funds in a safe deposit box, file cabinet or desk drawer.
Determining whether funds belong to the client or the lawyer, however, is important and
sometimes difficult.
Funds advanced by the client for the payment of costs, for example, clearly
belong to the client and must be deposited into a trust account. Fees paid for services
already rendered, on the other hand, clearly belong to the lawyer and must not be
deposited in the trust account. In addition, under the original portion of Colo. RPC 1.15,
almost all fees paid in advance to the lawyer must be entrusted.
One of the most significant changes in Colo. RPC 1.15 is the requirement that, in
addition to "funds entrusted to the attorney’s care," lawyers must place in their trust
accounts "any advance payment of fees that has not been earned." Whether the added
language reflects a codification or a change of Colorado law interpreting Colo. 1.15(a) is
debatable. The added language also begs the question of what constitutes a fee that is
"earned" upon receipt and, thus, may not be deposited into the trust account.
One type of fee that is universally accepted as earned upon receipt, and thus may
not be deposited in a trust account, is the old-fashioned "general" or "classic" retainer. A
general retainer is typically described as a fixed sum paid by a client to secure the
availability of the lawyer’s services in the future, separate and apart from the fees
charged for legal services to be rendered. In contrast, a special retainer is clearly not
earned upon receipt, and thus must be deposited into a trust account. A special retainer is
a fixed amount paid in advance of an hourly fee representation for future legal services,
which is then either reduced by hourly fees charged or held by the lawyer to ensure
payment of charges billed separately to the client.
The gray area consists of so-called nonrefundable retainers and flat fees. The
Colorado Supreme Court has not outright prohibited nonrefundable retainers, but dicta
from various cases reflect its skepticism, even distaste, for them. Nonrefundable retainers
are prohibited in many other jurisdictions, principally on the basis that they restrict the
client’s absolute right to discharge her lawyer, as reflected in Colo. RPC 1.16(a)(3). In
other words, clients who stand to lose their entire retainer if they fire their attorney may
decide they cannot afford to do so. In addition, Colo. RPC 1.16(d) requires that when a
representation is terminated, a lawyer must, among other things, refund any advance
payment of fee that has not been earned. In several jurisdictions, even a reference in a fee
agreement to an advance fee payment as "nonrefundable" constitutes a violation of the
ethical rule prohibiting misrepresentation.
In contrast, flat fees are perfectly appropriate. The issue is whether they should be
deposited into the trust account or into the business account. Whether flat fees may be
deemed earned upon receipt and treated as the lawyer’s funds is unclear in Colorado. In
People v. Gilbert, the Colorado Supreme Court found that the lawyer violated Colo. RPC
1.15(a) for failing to deposit flat fees of $600 and $300 into his trust account. For a
variety of reasons, including the fact that the ethical violations were adjudicated by
default, it is doubtful that the Colorado Supreme Court intended to establish such a
precedent in that case.
Nevertheless, lawyers ignore Gilbert at their peril. In addition, earlier this year a
disciplinary hearing board found Gilbert to be controlling in respect to a flat fee of
$20,000. The hearing board also relied on the 1998 attorney disciplinary decision of Iowa
Supreme Court Board of Professional Ethics and Conduct v. Apland, in which the Iowa
Supreme Court firmly held that all flat fees must be entrusted. There is hope and
expectation that the hearing board’s decision will lead to an opinion by the Colorado
Supreme Court clarifying whether some or all flat fees must be entrusted. At least for
now, the better practice is to deposit all flat fees in a trust account until earned.
C.
Mixed Deposits
What about trust account deposits containing both earned and unearned fees?
Colo. RPC 1.15(g)(1), another new part of the rule, provides that "[a]ll trust account
receipts shall be deposited intact. . . ." This apparently means, for example, that if a
lawyer receives a client check containing both earned and unearned attorneys’ fees, the
entire amount of the check must be deposited into the trust account. Presumably, the
earned portion should be transferred promptly to the operating account, as with all
advance fees upon becoming earned.
Application of Colo. RPC 1.15(g)(1) in this circumstance is inconsistent with
Colo. RPC 1.15(a), which states in absolute terms that client funds shall be kept separate
from the attorney’s funds. However briefly, it results in a commingling of funds
belonging to the attorney with client funds in the trust account. One example of a mixed
deposit is a client check containing both a general and special retainer.
Opinion No. 96-7 (July 23, 1996) of the Philadelphia Bar Association
Professional Guidance Committee recognizes this dilemma. The Committee discussed a
Pennsylvania disciplinary case holding that a single deposit of funds belonging in part to
the attorney and in part to the client results in an automatic technical violation of Rule
1.15(a), whether deposited into the trust account or the business account. The disciplinary
board stated that the "better practice would have been for the attorney to have requested
two checks from the client to avoid the commingling." The Committee distanced itself
from that finding. It stated that obtaining separate payments from a client is "not always
achievable," and it recommended that mixed funds be deposited into the trust account
then transferred to the business account to the extent belonging to the lawyer.
The fact is that Colo. RPC 1.15 could use further revision. Its predecessor, DR 9102(A)(2) of the Colorado Code of Professional Responsibility, excepted from the
segregation requirement "[f]unds belonging in part to a client and in part presently or
potentially to the lawyer or law firm." As recognized in the Philadelphia opinion, mixed
payments would not have been problematic under DR 9-102. The Colorado Supreme
Court should consider amending Colo. RPC 1.15(a) to reincorporate this exception,
which existed without apparent mischief from 1970 to 1993, when the Colorado Code of
Professional Responsibility was in effect. Again, at least for now, the safer practice is to
deposit mixed funds into the trust account, then promptly transfer to the business account
the portion belonging to the attorney.
D.
Bank Charges
In addition, DR 9-102(A)(1) excepted from segregation "[f]unds reasonably
sufficient to pay service charges." Despite the widespread adoption of variations of the
ABA Model Rules of Professional Conduct, many states kept language from DR 9102(A) of the Code of Professional Responsibility permitting attorneys to deposit
personal funds in their trust accounts sufficient to pay or avoid service charges. In states
like Colorado that adopted ABA Model Rule 1.15 almost verbatim, however, lawyers are
at least technically prohibited from doing so. Similarly, without express language
permitting it, the ethical rules requiring segregation of funds prohibit lawyers from
maintaining a "buffer" or "cushion" of personal funds in the trust account as overdraft
protection, as well as more formal types of overdraft protection.
One commentator suggests that to avoid "even ‘benign’ co-mingling" of this
nature, lawyers should "make arrangements to pay the bank separately rather than in the
form of a charge against the account." COLTAF will pay charges or fees "associated
specifically with having a COLTAF account," but it advises that lawyers must pay for
"check printing costs and any fees not specifically related to having a COLTAF
account, such as wire transfers and check overdraft charges." If the fee agreement permits
it, however, and the charge can adequately be attributed to account activity by a particular
client, it is appropriate to bill the client separately for at least some service charges.
Using personal funds as overdraft protection exceeds what DR 9-102 permitted
and may lead to one of the very problems the anti-commingling rule was designed to
avoid: subjecting trust account funds to the claims of creditors. Nonetheless, the Colorado
Supreme Court should consider amending Colo. RPC 1.15 to permit the deposit into a
trust account of personal funds reasonably sufficient to pay bank service charges. This
exception to the anti-commingling rule was recognized under the Colorado Code of
Professional Responsibility, and the Committee Comment to Colo. RPC 1.15 does not
reflect a conscious desire to drop either of the DR 9-102(A) exceptions.
E.
Trust Account Withdrawals
Only attorneys licensed to practice in this state, or persons under their
supervision, may be authorized signatories on a trust account. Lawyers are sometimes
said to be "strictly liable" for trust account management. The absence of actual harm to
the client generally bears no relevance in determining whether the lawyer has violated
Rule 1.15. All that matters is that there is a risk of harm.
Further, ethical responsibility cannot be delegated, and ignorance of improper
trust account transactions affords no excuse. Indeed, ignorance may compound a lawyer’s
ethical problem. Colo. RPC 5.1 and 5.3 place ethical responsibility on law firm partners
and others having supervisory authority to make reasonable efforts to ensure that the
firm, as well as lawyers and nonlawyers under their supervision, conform to the Colorado
Rules of Professional Conduct. Colo. RPC 5.2 renders the "Nuremberg Defense"
unavailable to subordinate lawyers, except where the subordinate lawyer "acts in
accordance with a supervisory lawyer’s reasonable resolution of an arguable question
of professional duty." "If the question can reasonably be answered only one way, the duty
of both lawyers is clear and they are equally responsible for fulfilling it." Even when a
nonlawyer bookkeeper embezzles or otherwise mishandles trust account funds, a lawyer
may violate Rule 1.15(a) and 5.3(b). "All of the partners of a law firm may be held liable
for commingling, conversion, or other mishandling of client funds by one of the firm’s
members, or for failure to properly supervise nonlawyer members, regardless of lack of
actual knowledge."
Withdrawals from a trust account may be made in only one of two ways: (a) by
authorized bank or wire transfer or (b) by check made payable to a named payee. Trust
account withdrawals may not be made to cash.
Advance fees deposited into a trust account must be transferred to the business
account after they are earned. "The attorney must withdraw such funds at ‘the earliest
reasonable time’ after the attorney’s interest in them becomes fixed." Allowing earned
funds to accumulate in the trust account may violate Colo. RPC 1.15(a).
Unless the lawyer knows or reasonably should know that the client disputes the
attorney’s right to such fees, the lawyer need not await client approval to make the
transfer. The lawyer should notify the client of the transfer, however, in the invoice sent
at the next billing cycle. If the client subsequently disputes the withdrawal, the disputed
portion should be immediately re-deposited into the trust account.
There is some authority to the contrary, holding that lawyers may not withdraw
any trust account funds until the client has been given an opportunity to review an
accounting of costs incurred and fees earned, at least when there is no written fee
agreement. Notwithstanding this minority view, a mandatory "waiting period" seems
appropriate only if there is no written fee agreement and no prior course of dealing with
the same client that included the transfer of funds at the time of invoice.
The payment of costs to third parties from trust account funds can be
accomplished in either of two ways:
It is theoretically good practice to pay all client costs directly from the trust
account. As a practical matter it may be better for a firm to advance some smaller and
unknown costs from the general or office account and then reimburse that account
monthly from the trust account for all costs advanced during the previous month. This
system reduces the number of transactions in the trust account and channels overpayment
problems to the office account. (It is always critical to remember that if the lawyer
inadvertently spends more for a client than is in the account for that client, the lawyer
will be improperly using other clients’ monies for the one client.) This system also
enables the lawyer to report once a month to the client rather than every time a check is
written.
Unless the engagement agreement provides otherwise, there is generally no
required "waiting period" before an attorney may make appropriate disbursements from
the trust account to pay costs. Again, however, a waiting period may be appropriate for
new clients without written fee agreements. On the other hand, lawyers are subject to
discipline for failing to pay bills with reasonable promptness if they have been advanced
sufficient funds for the purpose.
There is a waiting period, however, before an attorney may disburse trust funds
against a deposit that has not cleared the account. Otherwise, either the check will not
clear or the lawyer will be drawing on funds of other clients, otherwise known as
conversion. It is likewise improper to issue a post-dated trust account check if doing so
places other clients’ funds at risk. It is appropriate to make essentially contemporaneous
deposits and disbursements from the trust account only when the trust account deposit is
made with certified or cashier’s checks or other instruments generally regarded as
reliable, or the risk of noncollectibility is otherwise minimal, as with checks for small
amounts. Even then, the lawyer bears the ethical and perhaps civil liability risk that such
instruments will be dishonored.
When the client pays fees or reimburses costs advanced by the lawyer from the
business account, such payment or reimbursement may go directly into the business
account. If the client remits a check that includes both reimbursed and anticipated future
costs or fees, however, the check should be deposited into the trust account, then the
lawyer should reimburse the business account to the extent of reimbursed costs—despite
the temporary commingling of funds in the trust account. Some lawyers and law firms
maintain a separate "client costs" account into which they place costs and expenses that
they have advanced and to which client and other reimbursements are transferred.
Although such accounts may not substitute for the trust and business accounts required
under Colo. RPC 1.15(f), they qualify for overdraft protection because they contain only
funds of the attorney.
Personal expenses may not be paid from trust account funds, even if the expenses
are paid from earned fees. The appropriate practice is to withdraw the earned fees from
the trust account and deposit them in the business account, then withdraw the funds for
deposit into the attorney’s personal account. "There is nothing unethical about paying
personal expenses from the office account instead of from the personal account, but it is
better management to pay personal expenses from a personal account. . . . Every year
lawyers throughout America commit ‘aggressive stupidity’ by using client trust accounts
to pay bar dues, bar convention registrations, and CLE enrollment fees." It is also
improper to place employees’ withheld taxes into the client trust account.
F.
Certification of Compliance and Reporting of Trust Account Misconduct
The original portion of Colo. RPC 1.15 requires Colorado lawyers to certify in
their annual registration forms that they have established one or more COLTAF accounts,
or "justifiable reason for noncompliance." The registration forms themselves require
identification of all such accounts or specification of reasons for noncompliance. Reasons
for noncompliance include the establishment of trust accounts with interest payable to
clients under Colo. RPC 1.15(e)(1), the unavailability of a financial institution in the
community that offers such an account, and certification that the lawyer does not receive,
maintain or disburse client funds in Colorado. COLTAF is required to assist the
Colorado Supreme Court in ensuring compliance, including the discretion to refer
noncomplying lawyers to the Attorney Regulation Counsel.
Now a lawyer’s friendly banker is obligated to turn the lawyer in to the Attorney
Regulation Counsel. In order to qualify for approval as a financial institution in which
Colorado lawyers are authorized to maintain trust accounts, the institution must sign a
written agreement that it will report any lawyer who presents any "properly payable trust
account instrument . . . against insufficient funds, irrespective of whether the instrument
is honored." The financial institution also must agree to cooperate with Attorney
Regulation Counsel and to produce any trust account or business account records
pursuant to subpoena issued in connection with the investigation of a lawyer-customer,
who is deemed to have consented to such reporting and production requirements.
Financial institutions enjoy broad immunity arising from their actions in reporting
overdrafts or insufficient funds, or producing documents in a disciplinary investigation,
and lawyer-customers are required to indemnity their financial institution from any such
liability.
G.
Record-Keeping
The original part of Colo. RPC 1.15 requires Colorado lawyers to keep complete
records of trust account funds and other client property for a period of seven years,
changed from six years in 1998. It also requires lawyers to render a full accounting of
such property upon request of the client or third person whose property is entrusted to the
lawyer. Colorado lawyers are routinely disciplined for failing to render accountings upon
request.
New Colo. RPC 1.15(g) greatly expands the description, if not the type, of
account records which, under Colo. RPC 1.15(c), lawyers must maintain and retain for a
seven-year period. Those records are described as follows:
(1) Appropriate receipt and disbursement records of all deposits in and
withdrawals from [all accounts used in the law practice], specifically identifying
the date, source and description of each item deposited as well as the date, payee,
and purpose of each disbursement. . . . [and]
(2) An appropriate record-keeping system identifying each separate trust
client, . . . showing the source of all funds deposited in such accounts, the names
of all persons for whom the funds are or were held, the amount of such funds, the
description and amounts of charges or withdrawals from such accounts, and the
names of all persons to whom such funds were disbursed. . . . [and]
(3) Copies of all retainer and compensation agreements with clients; and
(4) Copies of all statements to clients showing the disbursement of funds
to them or on their behalf; and
(5) Copies of all bills issued to clients; and,
(6) Copies of all records showing payments to any persons, not in their
regular employ, for services rendered or performed; and,
(7) All bank statements and prenumbered canceled checks; and,
(8) Copies of those portions of each client’s case file reasonably
necessary for a complete understanding of the financial transactions pertaining
thereto.
The "receipt" records in paragraph (1) above include a "duplicate deposit slip"
that is "sufficiently detailed to identify each item." The record-keeping system required in
paragraph (2) also requires the maintenance and reconciliation, at least quarterly, of the
individual client ledgers with the "applicable bank statements."
All financial records of the lawyer or law firm must be located at lawyer’s or law
firm’s principal Colorado office. They must be maintained in accordance with "generally
accepted accounting principles, such as the accrual method, the cash basis method and
the income tax method." The records may be kept by computer, so long as a printed copy
can be supplied upon demand. The members of a dissolving law firm must make
"appropriate arrangements" for the maintenance of these records by one of them or by a
successor firm.
As with subpoenas served on approved financial institutions, lawyers subpoenaed
for these records must furnish them in connection with a disciplinary proceeding. The
records remain confidential, except as used in the disciplinary proceeding. In addition,
the contents of the records "shall not be disclosed by anyone in such a way as to violate
the attorney-client privilege." Though it surely was not intended to do so, this last
provision can be read to circumscribe an attorney’s right, under Colo. RPC 1.6(c) and
1.9(c), to disclose privileged information to the extent reasonably necessary to defend
herself in a disciplinary proceeding. An attorney generally may not refuse to comply with
such a subpoena on the grounds that the material sought is protected by the attorneyclient privilege.
H.
Disputes Over Trust Account Funds
Disputes over trust account funds happen. All too often the lawyer’s reaction to
the dispute is more ethically problematic than the dispute itself. The touchstone for
handling trust account disputes, Colo. RPC 1.15(c), bears quoting in its entirety:
When in the course of representation a lawyer is in possession of property in
which both the lawyer and another person claim interests, the property shall be kept
separate by the lawyer until there is an accounting and severance of their interests. If a
dispute arises concerning their respective interests, the portion in dispute shall be kept
separate by the lawyer until the dispute is resolved.
Although some doubt has been expressed about whether "another person" in Rule
1.15(c) is limited to non-client third parties exclusive of clients, the better, and more
widely accepted, interpretation is that Rule 1.15(c) applies whether or not the other
person happens to be a client. A 1995 disciplinary case from the District of Columbia
Court of Appeals holds that Rule 1.15(c) requires funds to be segregated if there is
disagreement over them in fact. There is no requirement that the dispute be "genuine,"
"serious," or "bona fide," nor is it enough that the attorney was legally entitled to the
amount claimed. The lawyer in that case was ultimately suspended for thirty days
because he paid himself fees from the client’s funds in his trust account without reaching
a "clear and unequivocal" agreement with the client about whether the withdrawal was in
partial or complete satisfaction of his claim for fees. The attorney relied for his
"agreement" on a "self-serving" letter to his client, a foreign national, stating that he
would withdraw the funds unless he heard from her otherwise.
Lawyers who, without the client’s clear consent, apply trust account funds to pay
their fees, particularly funds received from sources other than the client, do so at their
own risk. In People v. Mills, the Colorado Supreme Court publicly censured a lawyer
who, over his client’s objection, applied his client’s share of estate proceeds held in trust
in partial satisfaction of attorneys’ fees allegedly due him. The Court held that, even
though the respondent lawyer properly asserted a retaining lien on the funds, his assertion
of a charging lien was improper. It is unclear whether the attorney in Mills would have
been disciplined if he had applied the proceeds without asserting a charging lien.
Many courts require advance notice to the client that trust account funds may be
applied to pay fees, stating that the attorney and client must have reached agreement on at
least three points: (1) the right of the attorney to have the client pay the fees; (2) the
amount to which the attorney is entitled; and (3) the time at which payment will be
expected. Presumably it would suffice to set forth these terms generally in the
engagement agreement. Even so, Colo. RPC 1.15(c)’s requirement that disputed funds be
held or placed in trust renders any application of funds to pay fees disputed by the client
of no more than momentary benefit to the attorney.
In some circumstances it is to the lawyer’s advantage to keep or place funds
claimed by the client in trust. The Comment to Colo. RPC 1.15 states:
Lawyers often receive funds from third parties from which the lawyer’s
fee will be paid. If there is risk that the client may divert funds without
paying the fee, lawyer is not required to remit the portion from which the
fee is to be paid. However, a lawyer may not hold funds to coerce a client
into accepting the lawyer’s contention. The disputed portion of the funds
should be kept in trust and the lawyer should suggest means for prompt
resolution of the dispute, such as arbitration. The undisputed portion of the
funds shall be promptly distributed.
This passage contains an inherent tension. On one hand the attorney may keep or
place in the trust account funds that otherwise belong to the client, when there is an actual
dispute over fees or a distinct possibility that fees due and outstanding will not be paid
except from such funds. On the other hand, the attorney may not hold trust account funds
for ransom to gain an advantage in such a dispute. Disbursing the undisputed portion of
the funds and taking the initiative to resolve the dispute over the remainder will help to
avoid second-guessing of the attorney’s motives by disciplinary authorities.
Under Colo. RPC 1.15(c), attorneys may, in effect, owe ethical obligations to
third parties. For example, in People v. Harding, the Colorado Supreme Court suspended
a lawyer for one year and one day for a variety of misconduct, including failure to
segregate and preserve fees claimed by predecessor counsel that a court ordered him to
maintain in trust. The lawyer in that case spent most of the money, in contempt of court,
on law practice expenses unrelated to the representation. In People v. McDowell, the
Court disbarred an attorney for, among other things, disbursing loan proceeds to his client
and himself, ostensibly at the direction of his client but unbeknownst to two different
lenders and contrary to the terms of a promissory note. Other states have extended Rule
1.15(c) to require a lawyer to entrust settlement proceeds claimed by predecessor counsel.
In addition, other ethical rules may require lawyers to preserve and segregate funds in
which they claim no interest at all. Colo. RPC 1.15(b) requires lawyers to place or keep
in trust client funds claimed by third parties. For example, the seller at a real estate
closing directed his attorney not to pay an agreed real estate commission, because of the
seller’s allegedly offsetting claim against the broker, and to apply such amount toward
payment of one of the seller’s closing obligations. A Connecticut ethics committee
advised the lawyer not to comply with the client’s second directive, but to notify the
client and the broker of the dispute; distribute any undisputed amount to the broker; and
hold the commission amount in trust until it could be transferred in accordance with the
stipulation of the parties or an order of court.
CBA Ethics Committee Formal Opinion 94 (November 20, 1993) discusses five
different circumstances under which lawyers may be obligated to hold funds in a trust
account for the benefit of third persons, such as medical providers. Opinion 94 holds that
if the third party does not hold an interest as a result of a statutory lien, contract or court
order, the lawyer should promptly distribute the funds to the client. If the third party
holds an "undisputed interest" as a result of a statutory lien, contract or court order,
however, the lawyer should promptly deliver the funds to the third party. If there is a
dispute about the validity of the third party’s claim, the lawyer should promptly distribute
the undisputed portions and interplead the remainder, unless the client and third party
agree to let the lawyer hold the funds until they resolve their dispute. Failure to do so may
have civil as well as ethical ramifications.
Opinion 94 also addresses the situation in which a third party has no interest in
the funds as a result of a statutory lien, contract or court order, but the third party’s
contact with the lawyer induces the third party to believe that the third party’s claim will
be paid from funds held or to be received by the lawyer. In that situation, the lawyer has
an ethical obligation to discuss the matter with her client and inform the third party of
their decision—presumably before the funds are disbursed. It is unethical for a lawyer to
induce such reliance, even by silence, then disburse the funds to the client. The acts or
omissions constituting such inducement seem fact-specific, as does the reasonableness of
the third party’s alleged reliance.
Finally, Opinion 94 addresses the difficult situation in which the third party is
unaware that the lawyer holds funds in which the third party holds an interest and the
client instructs the lawyer not to disclose that fact to the third party. When the third party
holds such an interest pursuant a statutory lien or court order, Colo. RPC 1.15(b) requires
the lawyer to distribute the funds to the third party, notwithstanding the lawyer’s
obligation to preserve client confidentiality under Colo. RPC 1.6. When the third party
holds an interest pursuant to a contract with the client, but the client disputes the validity
of the contract or claim, the lawyer should distribute the funds to the client without
informing the third party of their existence. If doing so would assist the client in a
criminal or fraudulent act or constitute an ethical violation, however, the lawyer should
interplead the funds and name the client and the third party as defendants. When the third
party has an interest pursuant to a contract with the client, and the third party is induced
by the lawyer to believe the contract will be honored but the client disputes the contract
or claim, the lawyer should interplead the funds if the client rejects the lawyer’s advice to
try to resolve the dispute directly with the third party.
I.
Funds of Missing Clients
CBA Ethics Committee Formal Opinion 95 (November 20, 1993) addresses the
ethical considerations involved when an attorney holds client funds in his trust account
and the client’s whereabouts are unknown. Not covered by this opinion, however, is the
attorney’s ethical duty to attempt to locate missing clients. Minimal efforts consistent
with the attorney’s duty to the client include the obvious steps of calling the last known
telephone number and sending a letter to the client’s last known address. Other steps
indicated by the facts may include checking with the post office for forwarding addresses,
contacting friends, neighbors, employers and relatives, and, perhaps, hiring a private
investigator.
Opinion 95 recommends including provisions in the fee agreement that dictate the
disposition of any client funds left in the trust account if the client has vanished.
Examples of such provisions include the use of a reasonable amount of trust account
funds to locate the client, but probably not including attorneys’ fees incurred in the effort.
The client might also agree that, if those efforts fail, the funds are to be donated to a
particular charity. If there is no such provision in the fee agreement and the funds are
nominal, the attorney may simply leave them in his COLTAF account. The attorney
should also consider whether the Unclaimed Property Act provides an alternative
resolution. Under that statute, the attorney would deliver the funds to the state treasurer,
from whom the client might ultimately be able to reclaim them.
These same principles apply to missing prospective clients and clients who die,
leaving no known heirs. In the latter situation, if heirs are located, the lawyer should
assure that the funds are turned over to the duly authorized representative of the deceased
lawyer’s estate. A lawyer who is unable to determine ownership of a small amount of
trust account funds should follow similar steps.
J.
Client Protection Fund
Effective January 1, 1999, Colorado joined the other forty-nine states when it
created the Colorado Attorneys’ Fund for Client Protection. The purpose of the Fund is
to "mitigat[e] losses caused by the dishonest conduct of attorneys admitted and licensed
to practice law in the courts of this state occurring in the course of attorney-client or
court-appointed fiduciary relationship between the attorney and the claimant."
The Fund is funded through registration fees and by attorneys whose dishonest
conduct results in claims on the Fund.
Attorneys whose dishonest conduct results in payment to a claimant from the
Fund are liable in restitution to the Fund. The Fund’s Board of Trustees may commence
civil actions against such attorneys to make restitution, as an assignee or subrogee of the
claimant’s claim. Attorneys representing Fund claimants must have fee arrangements
with the claimant approved in advance by the Board.
III. Conclusion
Lawyers are often poor business people. Many went to law school with liberal arts
degrees and opted for the law by default. For them, handling funds and running a
business do not come easily. They would much prefer to practice law and leave the
financial minutiae to others.
For many such lawyers, the best piece of advice is to hire a good accountant and a
good bookkeeper. Limited disclosure of confidential information to an outside agency for
the purposes of office accounting is not unethical, absent specific client instructions to the
contrary.
But it is the lawyer’s ethical responsibility to tell them what to do and make sure
they do it.
Law is still a profession, and a fine one, but it is also a business, and becoming
more so. To enjoy or at least succeed in the profession requires a basic understanding of
the business of law and the discipline to apply those principles faithfully.