A recent opinion from the New York City bar’s ethics committee gives a thumbs down to litigation funding agreements of the sort that courts have routinely enforced in civil disputes between lawyers and funders.
The opinion centers on funding arrangements that are tied to specific future legal fees—either because the fees are security for the loan, or because the amount the lawyer has to repay depends on the amount of fees received. Those arrangements aren’t ethical, the city bar panel said, while acknowledging that “several New York courts” have enforced funding agreements similar to those analyzed in the July 30 opinion.
Ethics opinions are advisory in nature and don’t have the force of law, but they are sometimes cited as persuasive authority in discipline cases against lawyers. So this opinion—which addresses a fairly common method of structuring litigation funding agreements—might change the behavior of some New York attorneys.
Many of the association’s members likely rely on litigation funding, a phenomenon that emerged at the turn of the century but has seen a sharp uptick in popularity. “The number of lawyers and clients benefiting from litigation funding has increased substantially over the last several years,” the ethics panel said.
A number of bar panels have issued opinions on the ethical considerations lawyers must weigh when representing clients who obtain litigation funding. “This opinion, however, addresses litigation funding arrangements between the funder and the lawyer or law firm,” the committee said.
Although those lawyer-funder agreements can take various forms, this opinion addresses arrangements that—if case law in civil disputes is any indication—appear to be fairly typical: those in which loans are secured by a lawyer’s anticipated fees in a particular case or set of cases, and thus generally recoverable only if the lawyer receives those fees.
The opinion also analyzes a second, similar type of arrangement: those where the payment the lender receives “will depend on the amount of the lawyer’s fee—for example, where the agreement sets a payment rate on a sliding scale based on the total legal fees or total recovery in the case or portfolio of cases.”
Courts in New York and other jurisdictions have routinely enforced those types of agreements, which are sometimes the focus of litigation when funders sue borrowing attorneys who have defaulted on obligations.
But the city bar panel nevertheless concluded that these agreements violate New York’s version of ABA Model Rule 5.4(a)—which, like analogous provisions in nearly every other state’s lawyer conduct rules, generally forbids attorneys from sharing legal fees with nonlawyers.
Fee-Splitting, By Any Other Name
“Rule 5.4(a) forbids a funding arrangement in which the lawyer’s future payments to the funder are contingent on the lawyer’s receipt of legal fees or on the amount of legal fees received in one or more specific matters,” the bar panel said.
And creative draftsmanship won’t eliminate the problem, the panel said.
“[A] litigation-funding arrangement involves impermissible fee sharing where the arrangement in effect makes the lawyer’s payments contingent on the receipt or amount of fees, regardless of how the arrangement is worded,” the panel said. “For example, Rule 5.4(a) applies equally regardless of whether the lawyers’ future payments are explicitly contingent on the receipt of fees or are contingent on the client’s success which in turn will result in legal fees.”
The comments to Model Rule 5.4 say fee-splitting restrictions are designed to “protect the lawyer’s professional independence of judgment.”
“Rightly or wrongly, the rule presupposes that when nonlawyers have a stake in legal fees from particular matters, they have an incentive or ability to improperly influence the lawyer,” the committee said.
Bar Panels vs. Courts
This is the first New York ethics opinion to consider how Rule 5.4(a) applies to lawyer-funder agreements. Prior opinions have analyzed the duties lawyers have when representing clients who get outside funding, but “[c]lient-funder arrangements of this nature do not implicate Rule 5.4,” the panel said.
A handful of other bar panels have analyzed lawyer-funder agreements, and they appear to unanimously conclude that there is a Rule 5.4(a) problem when a funder’s payments are tied to a lawyer’s fees from a specifically identified matter or portfolio of cases.
The New York panel cited a Nevada opinion that said “[a]ny loan obtained for purposes of litigation funding must be a ‘recourse’ loan that counsel is obligated to pay,” and advisories from bar panels in Maine, Utah, and Virginia that reached similar conclusions.
Legal Enforceability vs. Ethical Propriety
The panel also acknowledged that “several New York courts have upheld litigation funding agreements” in civil disputes involving lawyers who have defaulted on loans and invoked ethics rules in bids to escape liability.
The committee said those decisions aren’t surprising.
“Regardless of whether the funding arrangements were forbidden by Rule 5.4, New York courts could be expected to enforce the arrangements, because lawyers who violate the Rules cannot ordinarily invoke their own transgressions to avoid contractual obligations,” the panel said.
Take it Up With Legislature, Judiciary
“There is room to argue whether the prohibition on fee sharing is overbroad,” the committee said at the end of its opinion.
“One might argue that the rule sweeps more broadly than necessary to serve its purpose of protecting lawyers’ independence,” the committee said.
“But that is a matter to be decided by the state judiciary, which periodically reviews the Rules, or by the state legislature,” the panel concluded. “Nothing in the language, history or prior interpretations of Rule 5.4(a) supports an interpretation carving out litigation funding arrangements.”
The opinion is N.Y.C. Bar Ass’n Comm. on Prof’l Ethics, Op. 2018-5, 7/30/18.