A recent Law 360 by Aaron West, “ABA Stresses Client Protections in New Prepaid Fees Guidance,” reports that a committee of the American Bar Association issued new guidance on the ethical obligations surrounding retainers and prepaid attorney fees, offering guardrails to protect clients from paying non-refundable fees for unearned legal work.  The opinion from the Standing Committee on Ethics and Professional Responsibility spells out how lawyers should handle advance non-contingent fees paid by clients for single-issue matters like divorce, defense of criminal charges and certain civil litigation, among others.

"[ABA Rule 1.15] requires that fees paid in advance must be held in a trust account until the services for which the fees will be paid are actually rendered, thereby allocating various risks to lawyer and client," the opinion says, referring to the flat fee rule at issue in the guidance.

According to the ABA's Formal Opinion 505, the problem it seeks to clarify stems from flat fees being classified as retainers, which are often nonrefundable. Attorneys shouldn't consider retainers as a "payment for the performance of services, but rather is compensation for the lawyer's promise of availability," according to the opinion.

"Given the rarity and unusual nature of a general retainer, and the fact that very few clients would actually need or benefit from one, the nature of the fee and lawyer's obligations and client's benefits under such an agreement must be explained clearly and in detail," the opinion states.  When it comes to handling upfront fees, the committee suggested that attorneys use "plain language."

"Instead of 'retainer' say 'advance' and explain that it is a 'deposit for fees,'" the opinion says.  "Explain that the sum deposited will be applied to the balance owed for work on the matter, and how and when this will happen."  The committee also stressed that "an advance fee paid by a client to a lawyer for legal services to be provided in the future cannot be non-refundable."

"Any unearned portion must be returned to the client," the opinion says. "Labeling a fee paid in advance for work to be done in the future as 'earned upon receipt' or 'nonrefundable' does not make it so."  The ethics committee periodically issues opinions to guide lawyers, courts and the public in interpreting and applying ABA model ethics rules to specific issues of legal practice, client-lawyer relationships and judicial behavior.

Although the ABA Model Rules provide guidance that U.S. legal jurisdictions can adopt, many states have their own rules that aren't necessarily in line with the ABA model.  In the case of ABA Rule 1.15, multiple jurisdictions have rules on the books that don't align with the new guidelines.

For instance, California and Oregon have their own model rules that clarify and outline how flat fees paid in advance of legal services should be deposited or labeled.  The ABA in its opinion acknowledges the jurisdictional discrepancy but also says that the approach "departs from the safekeeping policy of the Model Rules" and "creates unnecessary risks for the client."  While it's important to safeguard client payments from being considered non-refundable when an attorney hasn't yet earned them, too broad of an approach also risks preventing states from creating their own legal regulatory rules.

A recent Law.com by Riley Brennan, “In Fee Fight, State Appeals Court Rejects Contractual Interpretation That Would Result in ‘Windfall’ to 1 Law Firm,” reports that, in a dispute over a contingency fee following a lateral move, the Kansas Court of Appeals ruled that the only reasonable interpretation of a law firm’s operating agreement with one of its now-former owners is the one that allows the firm to recover under the doctrine of quantum meruit.

The appeals court reversed and remanded a lower court’s grant of summary judgment to plaintiff Krigel & Krigel, instead siding with defendant Shank and Heinemann’s interpretation of its operating agreement with attorney Stephen Moore.  In an April 21 opinion, Judge Patrick McAnany for the Kansas Court of Appeals, ruled that the operating agreement between the Shank firm and Moore wasn’t a waiver of the firm’s right to recover in quantum meruit.

Moore originally worked at Shank, first as an associate, then later as one of three owners of the firm, according to the opinion.  Eventually, he left Shank to join Krigel.  On his exit, Moore took one of Shank’s contingent fee cases, representing client Trudi Shouse.  Shouse hired the Shank firm on a contingent fee basis to pursue her claim in an employment dispute.

According to the court, “She acknowledged in her engagement agreement with the firm that Shank would have an attorney’s lien against any award or settlement in the matter.”   Yet, two years later, Moore left Shank, taking the Shouse litigation with him.  Days later the Shouse employment litigation was settled, but Krigel refused to honor Shank’s attorney lien, according McAnany’s opinion.

Krigel sought a declaratory judgment against Shank, looking to invalidate its attorney lien claim, in an attempt to avoid sharing the contingent fee with Shank.  The firms then filed competing motions for summary judgment, with the district court entering judgment in favor of Krigel and against Shank.  This left Krigel entitled to retain the entire contingent fee from the Shouse litigation, excluding Shank, according the opinion.

But McAnany determined the district court had erred in this ruling.  “Shank represented Shouse for the majority of her case,” McAnany said.  ”It paid $2,401.68 in expenses, provided the staff needed to assist with the case, and paid the overhead costs that come with operating a law firm.  It also compensated Moore for the time he worked at the firm.  Interpreting the operating agreement as a waiver of quantum meruit recovery in the Shouse action would result in a windfall to Krigel, which has provided no consideration for the benefit.”

According to McAnany, there was “nothing in the operating agreement that could be construed as an express waiver by Shank of its right to relief through quantum meruit upon Shouse discharging Shank and retaining Krigel in its stead.” 

“Under such an arrangement, the departing senior attorney may be compensated for capital contributions to the firm and the attorney’s share of the tangible assets of the firm but not for any intangibles such as goodwill or for work in progress or a share in unrealized recoveries in pending cases.  Such an arrangement does not signal a disregard for the value of these intangibles for which a departing attorney realizes no monetary consideration,” McAnany wrote.  “Rather, the arrangement recognizes the importance of husbanding the value of these intangibles for the cultivation and development of new attorneys who will carry on the task of maintaining and expanding clients for the future health of the firm.  We fail to see how such an arrangement could ever be viewed as an abandonment of the firm’s right to seek relief through quantum meruit from clients who choose to take their legal business elsewhere.”

The district court’s interpretation of the operating agreement was also inconsistent with Shank’s actions and the concept of principal-agent relationships, according to McAnany.  “Shank took on Shouse’s case on a contingent fee basis and spelled out in the engagement agreement its right to an attorney’s lien against any recovery by Shouse if she went to another law firm,” McAnany wrote.  “And when Shouse left and Krigel settled the case, Shank asserted its attorney lien for the work done on the case before Shouse left.  None of this is consistent with waiver, but it is entirely consistent with the right to claim quantum meruit.”

The appeals court also rejected the district court’s interpretation of the agreement’s provision that valued contingency fee cases at zero.  “The district court believed that its interpretation of the operating agreement was reasonable because allowing quantum meruit in the Shouse case would allow Moore to make a quantum meruit claim in the cases that stayed at Shank and this was ‘[t]he result that the parties presumably sought to avoid when they set the contingency case book value at zero,’” McAnany said.  “Such an interpretation ignores the fact that Moore had no quantum meruit claim in cases he worked on while at Shank.  The clients were the clients of Shank and Moore was paid for his work on the firm’s clients through his compensation agreement with the firm.”  Likewise, the appeals court said Krigel’s interpretation of that provision of the operating agreement did not hold up to scrutiny when applied to different scenarios.

“[U]nder Krigel’s theory, death of one of the owners necessarily would trigger these same provisions of the operating agreement; and because the value of contingent fee matters would not be calculated in arriving at the value of the deceased owner’s equity in the firm, a contingent fee client—or all the firm’s contingent fee clients, for that matter—would be free to pick up and move to a different firm and, in the process, insulate the proceeds of any recovery in their cases from a claim under quantum meruit by Shank for legal work performed on their behalf,” McAnany determined.  “The same could be said of the other means by which an owner of the Shank firm could depart: an owner being expelled from the firm or being disbarred.  Such an outcome based on Krigel’s interpretation of the operating agreement would be an absolute absurdity.  Moreover, we cannot rewrite the operating agreement under the guise of construction in order to accommodate Krigel’s theory of waiver.”

A recent Law 360 by Piper Hudspeth Blackburn, “Sabre Says US Airways Not Entitled to Fees For $1 Win,” reports that Sabre urged a New York federal court to reject a magistrate judge's recommendation that the airline booking giant cover attorney fees for US Airways after a decade of antitrust litigation that resulted in a $1 jury award to the airline.  Sabre claims that U.S. Judge James L. Cott made a series of errors in his April 10 report, particularly in applying the Supreme Court's decision in Farrar v. Hobby, which established the standard for deciding whether a plaintiff prevailed in a civil rights case.  According to the report, Farrar applies only to the reasonableness of fee awards in civil rights cases and not mandatory fee statutes.

However, Sabre argued that the Supreme Court ruling shows that the "reasonable attorney's fee" due when a plaintiff obtains only nominal damages is no fee at all.  Courts have continued to apply this ruling in cases that include fee awards under the Clayton Act, Sabre continued.  US Airways, now owned by American Airlines, has insisted that the small amount of damages it received shouldn't affect its ability to recover costs and attorney fees.  Sabre also asked the court to reject Judge Cott's finding "that the meaning of 'reasonable attorney's fee' in the civil rights fee statute differs from the meaning of identical language in the Clayton Act."

In his report, Judge Cott pointed toward a Second Circuit decision on United States Football League v. National Football League because it contained issues nearly "identical" to this one.  In that case, the court had to determine whether a plaintiff is entitled to reasonable attorney fees "after decade-long antitrust litigation resulting in a $1 jury verdict only on Sherman Act Section 2 grounds."  Not only did the court decide that the plaintiff could recover attorney fees, it "further explained that civil rights cases are inapposite as they concern discretionary awards of fees, while Section 4 mandates them," the report continued.

However, Sabre said that the USFL decision is actually in line with its position, claiming that it bolsters the argument that Congress intended that the amount of fees awarded under "the civil rights statute 'be governed by the same standards which prevail in other types of equally complex Federal litigation, such as antitrust cases.'"

A recent Law 360 article by Joshua Wurtzel, “A Lawyer’s Guide To Collecting Fees From Nonpaying Clients,” reports on collecting unpaid fees.  This article was posted with permission.  The article reads:

You've done the work and sent the bill, but haven't been paid. What do you do?  This is unfortunately a question that lawyers, from solo practitioners to BigLaw partners, confront all too often.  But most lawyers struggle with the answer.  And even worse, many end up doing nothing — leaving significant receivables on the table from clients who have the ability to pay.  Struggle no longer.  Here, I offer some recommendations on how to deal with a nonpaying client. The article focuses on the law on account stated in New York.  These principles and advice are generally applicable in most U.S. jurisdictions, though you should of course consult the specific law in your jurisdiction.

Make Sure Your Retainer Agreement Gives You Adequate Protection

Good collection starts with a good retainer agreement.  There are several important clauses any retainer agreement should have.

Thirty Days to Object

Your retainer agreement should include a clause stating that if a client has an objection to an invoice, the client must make a specific objection in writing within 30 days.  Courts have upheld these types of clauses, and have further held that a client that fails to make a specific, timely objection in accordance with this clause waives objections to the invoice.

Fee Shifting

Many lawyers avoid suing clients for unpaid fees because the time spent doing so can be better spent on other, billable tasks.  But if you include a fee-shifting clause in your retainer agreement, a nonpaying client could end up being responsible for fees you incur in bringing the suit.  Make sure, however, that the fee-shifting clauses run in favor of the client as well if he or she is the prevailing party, or else it will be unenforceable.

Choice of Forum and Acceptance of Service of Process

Your retainer agreement should also include a forum selection clause in the state in which you practice so you don't have to go out of state to sue a nonpaying client.  And it should also include a clause stating that the client agrees to accept service of process by mail or email, in case you have trouble serving the client personally.

Rely on the Retaining Lien and Charging Lien

New York law strongly favors attorneys who are stiffed by their clients.  So there are some tools you can use to try to collect without having to bring a lawsuit.

Retaining Lien

When a client has an outstanding balance with his or her former lawyer, the lawyer can assert a retaining lien over the client's file. This allows the lawyer to refuse to turn over the file to the client or his or her new counsel until the outstanding balance is paid or otherwise secured.  To lift the retaining lien, the former client must either pay the amount owed to the lawyer or post a bond for that amount.

Charging Lien

Under Section 475 of the New York Judiciary Law, "from the commencement of an action," the lawyer who "appears for a party has a lien upon his or her client's cause of action," which attaches to a verdict, settlement, judgment or final order in his or her client's favor.

This section gives the lawyer a lien on the proceeds of the former client's case to the extent of the amount owed to the lawyer, with the result that no proceeds can be distributed to the former client or his or her new counsel until the former lawyer is paid.

In 1995, the New York Court of Appeals in LMWT Realty Corp. v. Davis Agency Inc. held that this lien "does not merely give an attorney an enforceable right against the property of another," but instead "gives the attorney an equitable ownership interest in the client's cause of action."

Sue for Account Stated

If all else fails and you need to sue a nonpaying client, the account stated cause of action will be your best friend.  Indeed, in New York, this cause of action allows a professional services provider to sue a client for nonpayment of an invoice if the client has retained the invoice for at least a few months and has failed to make timely, specific, written objections.  This cause of action thus provides lawyers with a substantial tool to pursue a nonpaying client.

Invoice Requirement

To state a claim for account stated, you must show only that you sent the invoices to the client and the client retained them — usually for at least a few months — without making specific, written objections.  It is thus important to maintain a record of when invoices are sent and to whom — ideally by email to an email address the client gave to receive invoices.

Oral Objections

Generally, a client must make specific, written objections to an invoice; general or oral objections will not be enough to defeat a claim for account stated. Nor will general claims by a client that he or she is dissatisfied with a particular outcome suffice.

Reasonableness of Fees

Many nonpaying clients will defend against a nonpayment suit by claiming that they were overbilled or that the quality of the work was not to their liking.  But if these objections are not made in a timely way, with specificity and in writing, courts generally hold that they are waived.

This is significant for a lawyer pursuing a nonpaying client, as most clients will defend by claiming that there was something wrong with the work done by the lawyer.  And so if an account is stated by virtue of the client's retention of the invoices, the reasonableness of the fees and the quality of the work has no bearing on the merit of the account stated claim.

Underlying Agreement to Pay

While account stated is a powerful cause of action, it works only if there is an underlying agreement to pay for the services rendered.  So a person who randomly sends out invoices without having an underlying agreement with the recipients of the invoices can obviously not rely on account stated.

But if you have a retainer agreement that properly covers the scope of the work you will be doing, you shouldn't have a problem.  Nor is there a requirement that the client has agreed to pay for the specific invoices at issue, as long as the client has agreed to pay for your services generally.

The Dreaded Malpractice Claim

Most nonpaying clients faced with a lawsuit by their former lawyer will assert counterclaims for malpractice — even if the malpractice claim has no merit.  While the lawyer must, of course, still deal with the malpractice claim, courts generally go out of their way to sever a lawyer's account stated claim from a nonpaying client's malpractice counterclaim.  This is especially so if the alleged malpractice relates to different work from what is at issue on the unpaid invoices.

Further, as a strategic matter, unless the malpractice counterclaim has merit, most nonpaying clients will drop it after the lawyer obtains a quick judgment on summary judgment at the outset of the case.

Conclusion

Suing a former client is never pleasant, and is a last resort after the attorney-client relationship has broken down. But using efficient, streamlined ways to collect from nonpaying clients can allow a law firm to provide greater value to the rest of its clients.

Joshua Wurtzel is a partner at Schlam Stone & Dolan LLP in New York.

A recent Law 360 story by Nick Muscavage, “McCarter & English Keeps Win in $860K Fee Suit,” reports that a New Jersey state appeals court upheld an $860,000 judgment for McCarter & English in its suit seeking unpaid fees from former client Moerae Matrix, finding that the biotech company couldn't show how the fees were unreasonable.  Moerae Matrix, a Morristown-based biopharmaceutical company that develops treatments for fibrotic and inflammatory diseases, retained McCarter & English in August 2017 to provide legal services for intellectual property and patent matters, according to court documents.

By signing the engagement letter with the Newark-based firm, Moerae Matrix agreed to its terms, "including McCarter & English's hourly rates, according to court documents.  McCarter & English "regularly" emailed its invoices to Moerae Matrix for legal fees and expenses incurred throughout the course of its representation.  The invoices detailed the work performed by the firm, the attorneys involved, how much time was spent on the tasks, the date of the tasks and the cost of the services.

Although Moerae Matrix made "certain payments" to McCarter & English, it was not current on its fees.  In September 2018, Moerae Matrix proposed converting the full amount of the outstanding balance to a promissory note, "but the parties could not agree on terms," according to court documents.  Three months later, the biotech company notified McCarter & English by email that it decided to terminate the firm's representation and to transfer its legal needs to Cooley LLP.  The email sent to the firm said, "We truly valued all your support over the years and are committed to seeing that [McCarter & English] is paid in full for past services and costs," according to court documents.

In the record presented to the appellate court, Moerae Matrix did not provide the invoices from McCarter & English, according to court documents.  Instead, the biotech company provided only a detailed statement of account, which shows the amounts billed, payments made and the balance McCarter & English claimed was owed.  "As a result, we are unable to independently assess the invoices either to confirm their contents or to render an independent determination concerning the reasonableness or fairness of [McCarter & English's] fees," the appellate court wrote in its Tuesday opinion.

Beverly Lubit, a partner at McCarter & English, served as the originating, billing and handling attorney responsible for the day-to-day representation of Moerae Matrix.  In seeking a summary judgment of $860,593, McCarter & English submitted certifications to the trial court from Lubit and Daniel P. D'Alessandro, another attorney with the firm. Lubit certified that the legal services provided, and the expenses incurred as a result, "were reasonable and necessary," according to court documents.

In an effort to escape the unpaid legal fees, Moerae Matrix relied on certifications from Moerae Matrix's founder, chairman and chief executive officer, Dr. Cynthia Lander, who asserted that Cooley was handling the very same tasks that were handled by McCarter & English "for less than half of the cost."  She argued that McCarter & English "charged too much in fees for the work that it performed" and "that [McCarter & English] filed many more patent applications and filings than necessary to protect the intellectual property interests of [Moerae Matrix]."

Moerae Matrix relied on an additional certification, one from Texas patent attorney Frank Grassler, who claimed to be an expert in patent law.  "In short, Grassler opined [McCarter & English] did a great deal of work, which was simply not necessary," the three-judge appellate panel wrote in its opinion.  However, Moerae Matrix did not disclose Grassler as an expert in its responses to McCarter & English's interrogatories prior to the conclusion of discovery, as required by state court rules, nor did the biotech company move to amend its responses to identify Grassler as an expert or supply an expert report from him.

Instead, Moerae Matrix submitted Grassler's certification in opposition to McCarter & English's summary judgment motion "well after the conclusion of discovery and unaccompanied by a certification setting forth the reason [Moerae Matrix] failed to identify Grassler as an expert in its answers to [McCarter & English's] interrogatories," the appellate panel noted.

For these reasons, the appellate panel agreed with the trial court's decision to exclude Grassler's certification.  The appellate panel also found that Moerae Matrix could not point to "competent evidence it claims establishes [McCarter & English's] fees are unreasonable or unfair," according to court documents.  There is no basis to conclude that the trial court erred by awarding McCarter & English the unpaid legal fees, the appellate panel wrote in affirming the lower court's $837,524 judgment, plus interest and costs of suit.