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Malpractice Minefield

By James Podgers

December 2, 2008, 4:40 am CST

Note: Register for this month’s CLE, “Top Tips for Avoiding Malpractice Claims,” from 1-2 p.m. ET on Wednesday, Dec. 17.

As if the real estate market hasn’t produced enough bad news already, here is something else for lawyers who practice in the field to worry about: According to a recent ABA report, real estate practice is the fastest-growing source of malpractice claims against lawyers over the past four years and could soon supplant plaintiffs personal injury work in the top spot.

From 2004 to 2007, plaintiffs personal injury and real estate between them accounted for nearly 42 percent of the malpractice claims against lawyers reported to the ABA Standing Committee on Lawyers’ Professional Liability.

Data collected from many major legal malpractice insurers in the United States is the basis for the Profile of Legal Malpractice Claims published by the committee in September.

The profile, published every four years since 1985, shows that claims involving real estate rose more than 3.5 percent from the previous period—more than in any other practice area.

It’s too early to pin down reasons for the dramatic rise in real estate malpractice claims, says Edith R. Matthai, who chairs the Lawyers’ Professional Liability Committee.

“This is only an assumption—there are more screwy real estate deals than there used to be,” says Matthai, a member of Robie & Matthai in Los Angeles. “We don’t know yet if it’s directly because of the subprime mortgage crisis, so these numbers still may be ahead of a bigger wave from the crisis.”

These are two other key findings in the committee’s latest report:

• More than three in four claims are closed with no indemnity payment to claimants. About 15 percent of the reported claims resulted in indemnity payments of $50,000 or less. About 6.5 percent resulted in payments of more than $50,000.

• As in previous reports issued by the committee, about seven of every 10 claims involve solos or lawyers in firms of five or fewer members. The claims drop off with the size of the firm.

“There’s a lot of speculation about that,” Matthai says. One key factor is the ability to spot potential problem clients and resist taking them. These days, it’s critical to know when to take a pass on such a case, she says. “If you’ve got a long-lasting relationship, the client is less likely to run to the courthouse and the lawyer is more willing to work things out,” she says. “That won’t happen when it’s ‘just business.’ ”

The toxic case isn’t the only matter to watch out for. In the articles that follow, experts in the field identify five top malpractice traps and how best to avoid them.

REAL ESTATE: Don’t be afraid to slow things down

BY LISA L. SHREWSBURY

In normal times, the telephone call would seem harmless enough. Another lawyer in town—someone who has referred cases to you before—asks you at the last minute to fill in at the closing for a client who is buying a house. There have been no problems with referrals from this colleague in the past, and all the issues in this transaction seem to have been resolved, so you agree. You’ll meet the client at the closing, review a few documents, check the title work and be done in a couple of hours. What could go wrong?

When it comes to real estate transactions, these are not normal times, and there is plenty that can go wrong.

The scenario outlined above sets the perfect stage for another of the “home-saver” claims that have flooded the courts since the beginning of the subprime mortgage crisis.

In this type of claim, a couple facing foreclosure is contacted by an entity promising to save the home by paying off the existing mortgage and refinancing under more favorable terms. The transaction is rushed, the attorney does not have time to review all of the pertinent documentation, and frequently the homeowners find themselves in worse financial condition than ever—perhaps even becoming renters in their own home.

The homeowners may end up bringing a malpractice claim against the attorney who represented them at closing on grounds that he or she failed to understand the fraudulent nature of the transaction, and failed to warn them about how they might lose their house because of the disadvantageous terms in the new loan agreement.

Another twist on this scenario occurs when the client appears at the closing acting on behalf of someone else under a power of attorney. Attorneys frequently proceed without concern in these circumstances because they believe their duty extends only to the holder of the power of attorney. But case law is inconsistent in this regard. In New York, for instance, courts have held that an attorney may have a duty to the grantor of the power of attorney, if the grantor is, in actuality, the seller of the property.

As the subprime mortgage crisis grinds on, courts have become reluctant to afford real estate attorneys any leeway in malpractice claims against them. Even defenses that were once rock solid, such as privity and lack of causation, are being overlooked by courts trying to give subprime borrowers every opportunity to keep their homes (or regain ownership).

Therefore, an attorney handling real estate matters today must be extremely diligent in representing clients. The attorney must be careful to get to know the client and the details of the transaction.

Best practices call for an attorney to review all documents being signed by the clients. The attorney also should discuss the documents with the clients to confirm their understanding and to make sure the documents comport with their objectives. Anything out of the ordinary should be addressed by the attorney and acknowledged by the clients in writing. Most of all, the attorney must resist rushing to the closing table on the client’s assurance that all the issues in the transaction have been taken care of.

If the clients (or other parties) are in a hurry and resist the attorney’s efforts to complete his review and properly advise the clients, then consideration must be given to whether the attorney should be involved in the matter at all. Later on, a court hearing the malpractice claim may decide that the attorney should have known better.

COMMUNICATIONS: Letters are still best

BY EDWARD S. CHENG

Two of a law firm’s clients decide to enter into a joint venture partnership to acquire and develop a piece of real estate. They engage the firm to draft the partnership agreement. The firm agrees to do so as attorneys for the joint venture, but not as counsel to either of the clients individually. Later, the deal fails and one of the clients sues the firm, alleging that it failed to protect the client’s interests in the negotiation and drafting of the agreement, and had not advised the client that the firm was only representing the joint venture. What could the firm have done to avoid the lawsuit?

There is a straightforward answer to that question: An engagement letter specifying exactly what party the firm was representing and the scope of that representation would have avoided the ambiguity about the firm’s role that led to the lawsuit.

Clear communication is the hallmark of a good attorney-client relationship, and the most effective way to communicate to a client is through a carefully drafted letter.

Telephone conversations can be misinterpreted or forgotten and, because they are extemporaneous, can lead to unreflective advice. E-mails, while providing a written record, often are so casually written that they are little better than random comments. But a clearly written letter, sent to the client with a copy in the file, will protect against misunderstandings while giving client and attorney a record of the communication.

While this advice may seem platitudinous, its importance to the attorney-client relationship should not be underestimated. Many lawyers hesitate to write formally because they view letters as hindering the development of close relationships. From the client’s perspective, however, being informed in writing of such key information as limits on the scope of the engagement or the lawyer’s reasons for advising against a business deal goes further to cement a relationship than any good-natured friendliness. Clients appreciate candor and clarity in the advice they receive from counsel. A carefully drafted letter, even if conveying bad news, gives clients a sound basis for making important decisions.

The importance of written communications extends from the initiation of an engagement to the end of the representation. An attorney should, as a matter of practice and ethics, keep the cli­ent informed of major developments and engage the client in making key decisions—see, for instance, Rule 1.4 of the ABA Model Rules of Professional Conduct.

Attorneys should remember that when a deal or project fails, or litigation takes a wrong turn, a client may instinctively look for someone to blame. Any ambiguity about an attorney’s role in the underlying matter enables the client to try to avoid the loss by blaming his attorney. When enough money is at stake, clients can convince themselves that key conversations with their counsel never occurred. A clearly written letter will help them remember what really happened.

CONFLICTS OF INTEREST: Representing competitors can lead to trouble

BY PAMELA A. BRESNAHAN

Over the years, you’ve cultivated a handful of longtime clients in a particular practice area. Then comes the possibility of taking on a new client in the same field. There does not appear to be any direct conflict between the new client and the existing clients. But in an abundance of caution, you add a waiver to the retainer agreement: While you will devote all necessary resources to representing that client, you will not be prevented by this new engagement from taking other employment of similar character. In other words, you make clear that you are not working exclusively for the new client. The client agrees.

Later on, one of the longtime clients asks you to assist in reorganizing their business. But after you’ve started this work, you learn that the reorganized business will seek to compete directly with your new client and attempt to take away some of its customers. You are not directly involved with the attempt to convert customers; after all, your retainer with the new client specifically states that you would be taking legal work of similar character. Nonetheless, is there a conflict of interest?

The answer to that question may be yes, even with all the precautions described in the fact pattern.

A similar fact pattern gave rise to a claim against a New York law firm alleging, among other things, breach of fiduciary duty. The trial-level New York Supreme Court granted summary judgment to the client on its breach-of-fiduciary-duty claim and ordered the law firm to forfeit fees. The court held that the firm’s actions “fostered the business interests and advanced the competitive position of certain clients over a client the attorney was still representing.” Finding that the firm “egregious[ly]” breached its fiduciary duties, the court explained that, while attorneys may represent competitors, they do not have the right to prefer one client over another when the clients’ interests diverge.

On appeal, the claim was ultimately dismissed for lack of damages. Nonetheless, the appellate court confirmed that the attorneys likely advanced conflicting interests and, therefore, breached their fiduciary duties. “Attorneys historically have been strictly forbidden from placing themselves in a position where they must advance, or even appear to advance, conflicting interests,” stated the court.

Both courts rejected the law firm’s argument that the language in its retainer agreement with one client permitted it to represent the competing client. The retainer fell “far short of the full and complete disclosure of a conflict of interest which should have been necessary to support a finding of informed consent,” the trial court stated.

Attorneys often limit their conflicts analysis to the parties directly participating in a given matter. If representation of one client has an indirect but adverse effect on another client, however, duties of loyalty may be at risk. These duties may not be waivable through contractual disclosures, and compromising them may give rise to claims for legal malpractice or breach of fiduciary duty.

Thus, before accepting any engagement, a lawyer should consider the potential impact on other clients. Effective risk management not only involves limiting present risks, but also gauging future risks.

RISK MANAGEMENT: Beware of the inadvertent smoking gun

BY DIANE L. KARPMAN

Law Firm is asked by its client, Corporation, to help it obtain a security interest in another company. But when the other company files for bankruptcy, Law Firm begins representing Corporation as a credi­tor in those proceedings. Corporation is wondering why that is necessary if Law Firm had filed the security interest. Represen­t­a­tives of Corporation mention this, and the word malpractice is mumbled. That results in a flurry of e-mails among Firm lawyers working on this matter. When things start to look bad, Firm consults by e-mail with its risk man­agement committee. A couple of months later, Corporation summarily terminates Firm. In the ensuing malpractice litigation, Corpo­ra­tion seeks to discover all the internal e-mails at Firm regarding the matter. Will Corporation’s new lawyers get to see those incriminating communications?

Mistakes are part of life—and law practice. No matter how hard we try to prevent errors, lawyers occasionally commit them, and they often result in malpractice claims by clients.

At some point, the error may have a permanent impact on the client’s case. When that happens, the client must be informed. Before that, however, lawyers will naturally try to fix the error without the client ever knowing what happened.

So let’s say the lawyers working on a case realize that maybe they missed a beat. They have just entered the “repair period”—the time after the error is discovered but before it’s set in concrete. The lawyers generate e-mails and memos discussing the problem, and they may consult with other lawyers in the firm. But during the repair period, these communications aren’t shared with the client, who probably doesn’t even know there is a problem.

Lawyers who sit on risk management or quality assurance committees at law firms, or serve as general counsel or ethics counsel, generally believe their internal communications about problems with cases are confidential, or at least privileged, and not subject to discovery.

But that might be turning into wishful thinking. A number of courts around the country have concluded that if the advice given within a firm on how to correct an error occurred while the client was still “current,” then the firm’s right to protect internal communications from discovery in subsequent litigation is trumped by the firm’s overarching duties owed to the client.

Under this analysis, lawyers who know they committed malpractice in an ongoing case have a duty to inform the client and obtain the client’s consent before proceeding with repair efforts.

This so-called fiduciary exception to the firm’s right to claim attorney-client or work product privilege applies only while the firm still is representing the client. This is paradoxical, since we want to encourage risk management specialists to ensure compliance, perform audits, investigate and be pro­active during the repair period, when their advice is most effective.

But the emerging case law signals the importance of remembering that those communications may be discovered, seriously impairing a firm’s ability to defend itself. Therefore, before you circle the wagons with reams of paper and strings of e-mails, consider whether the relationship with the client can be salvaged or if you’re better off letting it end so you can do what you can to defend yourself.

CONFLICTS OF INTEREST: First responses matter

BY NANCY J. GEENEN

Steve T. is a partner at the law firm where you are managing partner. He’s been a stalwart and has more than 30 years of practice under his belt, with a historically strong book of business and top-tier compensation. But lately Steve has been spending less time in the office, neglecting his client relationships and working fewer hours. It doesn’t help that he’s a control freak who won’t permit work product to leave the office unless he specifically reviewed and approved it. Over the past three months, Steve has missed a few “soft” deadlines for things like case management conference statements, time entries and invoices to clients. And he’s been unreachable when away from the office. A key client has stated the intent to move its work to a competing firm unless one of your junior partners is given full responsibility and authority for its files. The junior partner, Mary N., who works exclusively for Steve, reluctantly brought these issues to your attention.

This fact pattern presents multiple risk management issues for the managing partner, including malpractice, lost revenues, succession planning, business and career development of junior partners, and retirement or involuntary separation for the colleague in question.

When a situation like this starts to unfold, there are often more questions than answers. Therefore, it is crucial to focus on three fact-driven conversations that take place immediately and on parallel tracks. Delay practically guarantees a “reportable event” down the line.

First, continue the conversation with Mary to understand the scope of her concerns and challenges. Is her reluctance to “tattle” on her mentor driven by fear of retribution or concern for a valued colleague? Are there additional missed deadlines that might trigger a malpractice claim? What about upcoming deadlines? Conduct an audit/review of Steve’s files to discern whether such a time bomb exists. What strategies does Mary have in place to protect the clients? To protect the firm?

Second, notify the firm’s general counsel about any potential claims and identify performance issues related to Steve’s recent conduct. Involve the practice group leader and/or department chair in these early conversations. Usually, several leaders in the firm are aware of the poor performance and practice risk issues, but they have not “gone public” in the hope that the issues will resolve themselves without further intervention.

Third, talk to Steve in his office. If you can’t find him there, set up a lunch meeting. Ask open-ended questions that will elicit the reasons Steve is absent and losing interest in his work and his client relationships. Is he willing to acknowledge there are issues concerning his poor performance? Is he willing to discuss recent events? What trends has he noticed about his hours? His work quality? His client contacts? How is Mary helping out? Use concrete examples that illustrate the observed changes in his performance and behavior. Be sensitive to his language and speech patterns.

Steve still is a valued member of your firm. Give him your respect and best effort to assist him through a difficult time. Ask him to provide some strategies and objectives that will address the concerns about his performance. But also offer some complementary strategies that have the approval and support of your general counsel and other firm leaders.

With the right support, Steve may pull himself out of his funk, but he may be sliding further away from his former self. In either case, be prepared to work through the issue over time.

ABA Connection offers four easy ways to get low cost/no cost CLE credit

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Coming in January: “The Legal Fallout from the Financial Crisis.”

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Lisa L. Shrewsberry is a partner at Traub Lieberman Straus & Shrewsberry in Hawthorne, N.Y. Her practice areas include professional liability, employment practices liability, and directors and officers liability.

Edward S. Cheng is a partner in the litigation department at Sherin and Lodgen in Boston. He co-chairs the firm’s professional liability practice group and is a member of the ABA Standing Committee on Lawyers’ Professional Liability.

Pamela A. Bresnahan is a partner at Vorys, Sater, Seymour and Pease and heads the litigation practice group at the firm’s office in Washington, D.C. She is a past chair of the ABA Standing Committee on Law­yers’ Professional Liability. She co-chairs the Pro­fessional Liability Litigation Committee in the ABA Section of Litigation, and she is a member of the edi­torial board for the ABA/BNA Lawyers’ Manual on Professional Conduct

Diane L. Karpman is principal at Karpman & Associates in Beverly Hills, Calif., which represents lawyers in professional conduct matters. She is a member of the ABA Standing Committee on Professionalism.

Nancy J. Geenen is the managing partner for the San Francisco and Palo Alto offices of Foley & Lardner.