August 2014 | Earn one hour of MCLE Credit in Legal Ethics
Accurate classification of a retainer fee is critical for ethical case handling
A standard attorney-client relationship commences with an agreement between an attorney and a client for the attorney to take on the legal representation of the client’s matter, under an agreed upon fee arrangement. In a typical non-contingent fee engagement, an attorney is retained through a retainer agreement under which the client agrees upfront to pay the attorney what is commonly referred to as a retainer fee. The reality is that the term “retain” has different meanings, and the terms “retainer fee” can likewise have different meanings, potentially causing significant mischief for an attorney if she does not accurately understand the ethical rules surrounding them.
Under California law, a rule abides – an attorney may not keep an unearned fee. California Rule of Professional Conduct Rule 3-700(D)(2) states:
“A member whose employment has terminated shall… (2) Promptly refund any part of a fee paid in advance that has not been earned. This provision is not applicable to a true retainer fee which is paid solely for the purpose of ensuring the availability of the member for this matter.”
Thus, the question of when a “fee” is earned generates the distinction between the different forms of “retainer fees” as referenced in modern practice. That distinction is critical, as different rules apply to each type of fee.
The first form – the “classic”, “general” or “true” retainer, is the only “true” retainer fee (hereinafter “’true’ retainer”). In a “true” retainer fee arrangement, in exchange for the client’s payment of an agreed-upon amount, the attorneys commit themselves to take on future legal work for the hiring client, regardless of inconvenience, other client relations, or workload constraints. See Banning Ranch Conservancy v. Sup. Ct. (2011) 193 Cal. App. 4th 903, 916-917. In other words, a “true” retainer is a sum of money paid by a client to secure an attorney’s availability over a specified period of time. See Baranowski v. State Bar (1979) 24 Cal.3d 153, 164 fn. 4. The lawyers who agree to take on this type of arrangement do two things at the time of execution of the fee agreement: they reallocate their time so they can stand ready to serve the general retaining client to the exclusion of others, and they give up their right to be hired by persons with interests that conflict with the general retainer client. Banning Ranch, supra.,193 Cal. App. 4th at 917-917 (citing Brickman & Cunningham, Nonrefundable Retainers Revisited (1993) 72 N.C. L.Rev. 1, 9.) Such an agreement is, in essence, an “option agreement.” Id. at 917.
By contrast, an advance deposit (aka advance fee) payment is where a client pays all or a portion of a fee prior to the performance of legal services, to be credited against services performed, as those tasks are completed. See In re Matter of Lais (1998) 3 Cal. State Bar Ct. Rptr. 987; 1998 WL 391171. An attorney must account to the client for fees advanced and for fees charged against that advance, including an explanation of the charges. See In Re Matter of Fonte (Rev. Dept. 1994) 2 Cal. State Bar Ct. Rptr. 572, 758. An advance deposit can be invoked for hourly arrangements or for fixed fee arrangements. An advance deposit may also be replenishing or non-replenishing, depending on the language of the fee agreement. In a non-replenishing deposit, upon exhaustion of the deposit, the client thereafter pays the bills according to the terms established in the agreement (i.e. every 30 days). In a replenishing deposit, the client may agree to replenish the deposit to an agreed-upon fixed amount when it is exhausted to a certain level, as set by the fee agreement (for example, when an initial $10,000 deposit is exhausted to $5,000, the client agrees to deposit whatever amount necessary to bring the deposit back up to $10,000; or, by another example, a client may agree to deposit periodically whatever amount necessary to keep the deposit at a specified level.) All of these types of payments may be referred to by attorneys as “retainers,” even though each form of advance payment is quite different and requires different handling by attorneys and law firms.
Correct identification critical for fee handling purposes
Since the “true” retainer compensates the attorney for her agreement to be available and for her agreement to forego the opportunity to represent other clients, it is earned on receipt regardless of whether or not she actually performs further legal services for the client. See Baranowski v. State Bar (1979) 24 Cal.3d 153, 164, fn4. Accordingly, it is not subject to refund upon termination of the attorney client relationship. California Rules of Professional Conduct Rule 3-700(D) (2).
A payment made as an advance deposit must be earned before an attorney is entitled to claim those funds as payment. It is certainly earned when an equivalent amount of legal services is actually performed against it. A leading treatise opines that “no single criterion exists for determining when a fee is earned,” citing California Rules of Professional Conduct Rule 4-200(B) (dealing with reasonable or unreasonable fees). A fee can also be earned depending on factors such as 1) the amount of fees in proportion to services to be rendered; 2) the novelty and difficulty of questions involved and skill required to perform the services; 3) the amount involved and the results obtained; and 4) the nature and length of professional relationship with the client. Vapnek, Tuft & Peck, California Practice Guide: Professional Responsibility (the Rutter Guide, ed. 2013) at 5:283.
Some fee agreements provide for a “minimum” or a “nonrefundable” fee. A fee is minimum or nonrefundable only if it is a “true” retainer, as discussed above. In the absence of such an arrangement, a prepayment for actual services to be rendered in the future is, in fact, an advance deposit or a prepaid fee. Entitling such fee as a “true” retainer, “minimum” or “nonrefundable” will not control – the actual purpose of the payment and how it is treated controls. Matthew v. State Bar (1989) 49 Cal.3d 784, 791 (discipline imposed for failing to return unearned “nonrefundable” retainers). Unless the fee is actually a “true” or “classic” retainer, any unearned portion of that fee must be returned to the client at the end of the representation. California Rules of Professional Conduct rule 3-700(D)(2); In re Matter of Lais (1998) 3 Cal. State Bar Ct. Rptr. 987; 1998 WL 391171.
Case law demonstrates the dangers of misclassification, and thus, mishandling of these fees. An incorrect interpretation can lead to serious disciplinary consequences, and potential civil liability. (Another important issue is knowing when such funds are required to be deposited into a client trust account. That is a complex issue that has been subject to some debate (and recent attempted legislative amendment) and accordingly will not be addressed in this article. Attorneys should be aware of the issue and determine what rules apply to a particular advance payment.)
In Matthew, the State Bar sought discipline against an attorney for his handling of three matters. In one, the attorney required a nonrefundable retainer to ensure that the client would “work with him on the case.” The fee agreement provided for a retainer of $5,000, to be billed at $70/hour, and a $10,000 “ceiling.” By the end of the matter, the client had paid the attorney approximately $6,000 for services (plus some costs), but had no time records. The two other matters in the case involved “nonrefundable” retainers. In each case, the attorney had failed to refund any unearned fees to the clients. Despite the fact that these payments had been designated as a “retainer” or “nonrefundable” fee, the Supreme Court found that the attorney should have refunded unearned fees and disciplined the attorney. Matthew, supra., 49 Cal.3d at 972-973.
Lais involved a fee agreement that said: “Client agrees to pay Attorney for his services a fixed, nonrefundable retainer fee of $2,750 and a sum equal to $275 per hour after the first 10 hours of work. This fixed nonrefundable retainer is paid to Attorney for the purposes of assuring his availability in this matter.” The State Bar Review Court found the $2,750 was meant to cover the initial 10 hours of attorney’s work, corroborated by the client’s testimony that she understood it to be such, and the attorney’s bills, which showed the $2,750 as a credit for services to be rendered. Because the fee agreement did not specify a period of time for which attorney was to be available to client, nor did the evidence show attorney actually set aside a specific period of time, its “availability” language did not modify the advance deposit fee into a “true“ retainer fee. Lais, supra., 3 Cal. State Bar Ct. Rptr. 987; 1998 WL 391171.
The fee agreement in T & R Foods said “On employment, we request a $25,000 retainer. Fees will be charged against the retainer. The retainer is to be replenished monthly to maintain a $25,000 credit towards fees.” This was found to be a replenishing advance deposit. See T & R Foods, Inc. v. Rose (1996) 47 Cal. App. 4th Supp. 1, 7 (analyzing claim of failure to segregate client funds in professional liability case).
Correct identification critical for conflicts purposes
A correct identification of the type of retainer has ethical implications beyond whether you can keep the fee, and invokes conflicts rules as well. California Rule of Professional Conduct Rule 3-310(C) states:
(C) A member shall not, without the informed written consent of each client:
(1) Accept representation of more than one client in a matter in which the interests of the clients potentially conflict; or
(2) Accept or continue representation of more than one client in a matter in which the interests of the clients actually conflict; or
(3) Represent a client in a matter and at the same time in a separate matter accept as a client a person or entity whose interest in the first matter is adverse to the client in the first matter.
A conflict involving a former client is a disqualifying conflict only if there is a substantial relationship between the subjects of the current and the prior representation. See City and County of San Francisco v. Cobra Solutions Inc. (2006) 38 Cal.4th 839, 847. Where a substantial relationship exists, the attorney’s access to privileged and confidential information in the former representation is presumed and disqualification in the current matter is mandatory in order to preserve the former client’s confidences. See Fremont Indemnity Co. v. Fremont General Corp. (2006) 143 Cal. App. 4th 50, 67.
By contrast, in cases of concurrent representation, the disqualification rule is absolute. Disqualification is mandatory when an attorney simultaneously represents two current clients with conflicting interests, even if the two matters have nothing in common. Flatt v. Sup. Crt. (1994) 9 Cal.4th 275, 284. This rule is rooted in the traditional notion that no one can serve two masters. Until representation comes to an end, a client rightly relies on the undivided loyalty of their attorneys. Id. at 287. The automatic nature of the rule is designed to preclude attorneys from being placed in a position of having to choose between conflicting duties or having to reconcile conflicting interests. Id.
An attorney hired under a “true” retainer has an ongoing current client – the client paying the retainer, reserving the attorney’s services, for the amount of time specified in the fee agreement. That client must be correctly categorized as a current client for conflicts purposes.
In Banning Ranch, a law firm had executed two fee agreements with a municipal client (“the “city”), signed in 2005, providing the firm would provide legal services to the city on an “as requested” basis, in connection with “public trust matters of concern.” Each agreement conditioned such representation on the firm’s confirmation of its ability to take on a matter. The city’s disqualification motion, filed five years later to block the firm’s representation of a party in CEQA litigation against the city, declared that the 2005 agreements had never been terminated. The firm’s opposition noted that the firm had performed 1.2 hours of work for the City, and the final invoice had been sent in July 2005; other minor work for the city concluded approximately six months later. The city never requested the firm undertake any other work under the 2005 agreements, and the firm had no subsequent communications with the city on a legal matter. By contrast, the city had hired 10 other firms in the intervening four years for CEQA matters. After determining that the prior work for the city had no substantial relationship with the current CEQA matter, the firm undertook the CEQA representation.
In its motion, relying on the language of the 2005 agreement, the city argued it was a current client, entitled to automatic disqualification, citing California Rule of Professional Conduct Rule 3-310 and Flatt v. Sup. Crt. (1994) 9 Cal.4th 275, 284. The trial court granted the motion. Reversing the trial court on a writ proceeding, the Court of Appeal found that none of the language in the 2005 agreements was “reasonably susceptible” to the interpretation that the city was a current client of the firm. The “as requested” and “to be confirmed” language rendered the agreements “framework” retainer agreements – agreements that merely facilitate and provide a structure for establishing future attorney client relationships as requested, and subject to acceptance, depending on considerations such as conflicts checks, caseloads, and workflow. Id. at 913. The mere fact that the firm had not formally terminated the 2005 agreements did not change the result. Quoting Worthington v. Rusconi (1994) 29 Cal. App. 4th 1488, 1498, the court noted that termination does not depend on formal withdrawal or a client’s subjective beliefs – but rather “on evidence of an ongoing mutual relationship and of activities in furtherance of the relationship.”
Casual usage of terms relating to retainer fees in fee agreements can cause confusion for both attorney and client. A misunderstanding of the nature of the “retainer fee” received at the outset of representation can cause serious ethical and civil consequences. Attorneys should take care when drafting their fee agreements so that both the attorney and client accurately understand the nature of the arrangement.
Wendy Wen Yun Chang is a partner in the Los Angeles Office of Hinshaw & Culbertson LLP. She is the current chairwoman of the State Bar of California’s Standing Committee on Professional Responsibility and Conduct (COPRAC), and is a certified specialist in legal malpractice law by the State Bar of California’s Board of Legal Specialization. This article appears in the California Bar Journal as part of COPRAC’s outreach and educational efforts. For more information on COPRAC go to calbar.ca.gov/ethics. The views expressed herein are her own.