June 2013 | Earn one hour of MCLE Credit in Legal Ethics
Ethical rules for selling a law practice
Egger
Many years of work go into building a successful law practice. There may come a time, however, when an attorney seeks to sell it. A law practice may be sold like other professional practices. Sometimes the sale of a law practice is a planned event, perhaps following an attorney’s decision to retire or change careers. In other circumstances, such as death or disability, the sale is unplanned. Whether planned or unplanned, however, the sale must comply with the Rules of Professional Conduct. This article discusses the sale of a law practice and the impact of the California Rules of Professional Conduct (“CRPC”) Rule 2-300.[1]
Sale of a Law Practice Covered by CRPC Rule 2-300
CRPC Rule 2-300 provides the ethical requirements for the sale of “all or substantially all of a law practice,” whether the attorney is living or deceased. (See CRPC Rule 2-300.) The sale may include the sale of goodwill associated with the practice. (Ibid.) This authorization to sell goodwill is a departure from the prior rules of professional conduct. (Howard v. Babcock (1993) 6 Cal.4th 409, 423.) Before CPRC Rule 2-300 was adopted in 1988, courts rejected the sale of goodwill as part of a law practice. (Howard v. Babcock, supra, 6 Cal.4th at 423.) Under the prior rules, an attorney could sell the physical assets attached to his practice. The sale of goodwill, however, was considered unethical and against public policy. (Id.) The thought was that goodwill amounts to an expectation of future business, but the attorney-client relationship is unique and clients may terminate the relationship at will. In addition, courts and commentators believed that the sale of client files could put client confidences at risk and violate the ban on solicitation of clients. (See Fraser v. Bogucki (1988) 203 Cal.App.3d, 604, 609-610 (discussing cases from other jurisdictions concerning the sale of law practices) superseded by statute as stated in Howard v. Babcock (1993) 6 Cal.4th 405; Bus. & Prof. Code § 6068(e) (requiring attorneys to keep client confidences; CRPC Rule 1-400 (regulating solicitation and communications by attorneys.)) The ban on selling goodwill created a practical difficulty for solo practitioners, who could not realize the true value of their practices, unlike members of law firms who could ethically receive retirement payments from a firm for their share of the firm’s goodwill. (Vapnek, Tuft, Peck & Weiner, Cal. Practice Guide: Professional Responsibility (The Rutter Group 2012) ¶ 1:412, p.1-90 to 1-91 [hereinafter “Vapnek & Tuft”].) (See CRPC Rule 1-500(A)(2) (authorizing payment to members of a firm upon retirement.)) The adoption of Rule 2-300 provided standards to guide lawyers in the orderly sale of their practices, and had the effect of leveling the playing field for solo practitioners. (See Vapnek & Tuft, ¶ 1:413, p.1-91 (citing Request of State Bar Board of Governors for Approval of Amendments to CRPC (Dec. 1987), p. 27.)
CRPC Rule 2-300 governs sales of “all or substantially all of a law practice.” It does not authorize the piecemeal sale of portions of a practice. The official discussion following the rule states that a member “may retain one or two clients who have such a longstanding personal and professional relationship with the member that transfer of those clients’ files is not feasible.” (CRPC Rule 2-300, Official Discussion.) Presumably, if the selling attorney is going to continue to practice law, and the purchaser cannot represent a client for conflict reasons, the selling attorney may continue to represent the conflicted client. Under Rule 2-300, however, the purchaser cannot pick and choose the clients she wishes to purchase from the selling attorney. (See CRPC Rule 2-300, Official Discussion.)
CRPC Rule 2-300 does not affect admission to or from a law firm, retirement plans or similar arrangements. (CRPC Rule 2-300(F).) Likewise, the rule does not cover a simple sale of assets associated with a law practice, such as furniture. (CRPC Rule 2-300(F).)
No Increase in Fees
One of the important restrictions of CRPC Rule 2-300 is that the fees charged to clients may not be increased solely “by reason of such sale.” (CRPC Rule 2-300(A).) This restriction prevents the buyer from financing the purchase of the practice on the backs of the selling attorney’s clients. The official discussion following the rule explains that subsection (A) of the rule is intended to prohibit a purchaser from charging a fee to seller’s former clients which is higher than the purchaser charges her existing clients for similar work. (CRPC Rule 2-300, Official Discussion.) On its face, however, the rule does not prohibit a purchaser from charging the transferred client the same fees as those charged by the purchasing attorney to the purchasing attorney’s existing clients. The purchasing attorney could require the new clients to pay the purchasing attorney’s regular fees for the same type of service. A client of course, may refuse to employ the new attorney and obtain new counsel. Depending on the circumstances, however, the selling attorney may be required to continue to represent that client until suitable new counsel may be arranged. (See CRPC Rule 3-700 (prohibiting withdrawal unless an attorney takes reasonable steps to avoid reasonably foreseeable prejudice to client.))
Providing Notice to Clients
Another important requirement of CRPC Rule 2-300 concerns providing written notice to clients about the sale of the law practice. If the sale “contemplates the transfer of responsibility for work not yet completed or responsibility for client files or information protected by Business & Professions Code section 6068(e),” then either the seller or purchaser must provide certain notices to the transferred clients, depending on the factual circumstances, as discussed below. (CRPC Rule 2-300(B).) Business & Professions Code section 6068(e) requires an attorney to keep client confidences and preserve clients’ secrets. Thus, if a sale contemplates the transfer of any confidential client information to the new attorney then notice must be given. Because almost all sales of a law practice will include client files and information as well as ongoing work, the written notice will almost always be required.
If the seller is deceased, or the seller has a conservator or other person acting on their behalf, but no attorney has been appointed to act for the seller pursuant to Business & Professions Code section 6180.5, then the purchaser must provide the required notice. (CRPC Rule 2-300 (B)(1)(a).) Business & Professional Code section 6180.5 allows a court in certain circumstances to appoint an attorney to take control of another attorney’s practice, for example when an attorney dies or is disabled. (See Bus. & Prof. Code §§ 6180.5 and 6180.) When this occurs, the appointed attorney representative has the obligation to notify the clients of the attorney’s death or disability and to take steps to protect the interest of clients, while transferring them to new attorneys. (See Bus. & Prof. Code § 6180.5.)
If a seller is deceased, then the seller’s estate has additional notice obligations under Business & Professions Code sections 6180 and 6180.1, in addition to the potential CRPC Rule 2-300 notice obligations. Section 6180 describes when notice obligations arise, including upon a members’ death or resignation from the bar. (See Bus. & Prof. Code § 6180.) Section 6180.1 requires that notice be sent to clients, opposing counsel, the decedent’s malpractice insurance carrier, and any other person or entity “having reason to be informed of the death…”. (See Bus. & Prof. Code § 6180.1.) These notice requirements are independent of and separate from the written notice required by CRPC Rule 2-300.
If the seller is alive, or an attorney has been appointed under Business & Professional Code section 6180.5, then the seller or the appointed attorney representative must give the notice to clients. (CRPC Rule 2-300(B)(2).)
Contents of CRPC Rule 2-300 Notice to Clients
Whether the selling attorney or the purchasing attorney gives the written notice, it must contain all of the following information:
Obtaining Client Consent to Sale and Substitution of Attorney
Written client consent to the transfer of attorneys encompassed by the sale must be obtained by either the seller or the purchaser, depending on who has notice obligations. If the seller provides the written notice of the sale, then the seller has the responsibility to get the written consent. (CRPC Rule 2-300(B)(2)(b).) When the purchaser provides the notice, the purchaser is responsible for getting the clients’ written consent to the transfer. (See CRPC Rule 2-300(B)(1)(b).)
A client’s consent to the transfer may be presumed in two circumstances: (1) if the client does not respond within 90 days of the written notice, or (2) if the purchaser has given notice and the client’s rights would be prejudiced by the purchaser’s failure to act during the 90 day period. (CRPC Rule 2-300(B) (1)(b) & (2)(b).) For example, if a complaint needed to be filed in order to avoid the expiration of a statute of limitations, depending on the surrounding facts, the purchaser might presume consent to represent the client. In either circumstance, however, the presumed consent lasts only until the client otherwise notifies the purchaser that the client objects to the transfer. (Ibid.)
CRPC Rule 2-300 also requires that if substitution is required by the rules of a tribunal in which a matter is pending, then all steps necessary for the substitution must occur. (CRPC Rule 2-300(C).) In practice, this substitution will likely require the client’s signature. Therefore, if the client has not yet consented in writing, the purchaser may not be able to act for the client before the tribunal notwithstanding facts which would otherwise support presumed consent. In such circumstances, the seller must take action to protect the client’s rights. (CRPC Rule 3-700(A)). If the seller is not available to take action, then the purchaser may contemplate requesting extraordinary relief from the tribunal to allow the purchaser to substitute into the case.
Notice Must Comply With Advertising and Fee Agreement Rules
Not only must the written notice contain all of the information described above, it must also comply with restrictions on advertising and fee agreements. (See CRPC Rule 2-300 (B)(1)(a) and (B)(2)(a).) CRPC Rule 2-300 states specifically that the written notice must comply with CRPC Rule 1-400(D). CRPC Rule 1-400(D) lists the types of false or misleading statements which may not be included in a communication or solicitation (as defined in that rule) from an attorney. (See CRPC Rule 1-400(D).)
Rule 2-300 written notice must also comply with provisions relating to client fee arrangements, such as Business & Professions Code section 6147 which governs contingency fee agreements, and Business & Professions Code section 6148 which covers written fee contracts generally.
Selling Attorney Must Comply with Withdrawal Obligations
In selling her practice, the selling attorney shall comply with her ethical obligations under CRPC Rule 3-700(D). (See Rule 2-300(B)(1)(a) & (B)(2)(a).) CRPC Rule 3-700 governs termination of employment. Rule 3-700(D) (1) requires an attorney to promptly release to the client, at the request of the client, all the client papers and property – the client file. (CRPC Rule 3-700(D)(1); see also State Bar Formal Opinion No. 2007-174 (quoting Rule 3-700(D) and discussing meaning of “client papers and property”).) CRPC Rule 3-700(D)(2) requires the prompt refund of any fee paid in advance that has not been earned. (CRPC Rule 3-700(D)(2).) Thus, if clients react to the written notice by requesting return of their file, then the selling attorney must comply, and likewise with any unearned fee deposits.
Protecting Confidential Information
One of the most important distinctions between selling a law practice, and selling a different type of business, is the need to maintain client information as confidential before, during, and after the sale. (See Bus. & Prof. Code § 6068(e) (requiring attorneys to keep client confidences).) This duty is addressed by two subsections of CRPC Rule 2-300. CRPC Rule 2-300(E) states that confidential information “shall not be disclosed to a non-member [of the Bar] in connection with a sale under this rule.” (CRPC Rule 2-300(E).) For example, an accountant assisting the purchaser in evaluating the value of a law practice may not be given confidential client information to make her review.
Client confidences are also implicated by CRPC Rule 2-300(D), which states that “all activity” of the purchaser or potential purchaser, “is subject to compliance with rules 3-300 and 3-310 where applicable.” (CRPC Rule 2-300 (D).) CRPC Rule 3-300 prohibits an attorney from entering into a business transaction with a client unless the attorney first meets strict written disclosure requirements to the client. (See CRPC Rule 3-300.) CRPC Rule 3-310 prohibits attorneys from taking on or continuing representations of clients without informed written consent, when the attorney represents a client whose interest in the matter is adverse to the potential new client. (CRPC Rule 3-310 (B), (D) & (E).) CRPC Rule 3-310 also requires written disclosure to clients of certain relationships which do not rise to the level of a direct conflict of interest between clients, such as when the attorney has a personal relationship with a witness in the same matter. (See CRPC 3-310(B)(1).) The applicability of these rules to a transfer of a law practice means that the purchaser must carefully check conflicts before the final date of the transfer or risk being disqualified from representing both the new and existing clients.
Transactions Not Covered by CRPC Rule 2-300
There are several transactions which may bear some of the attributes of a sale of a law practice, but nonetheless are not covered by CRPC Rule 2-300. CRPC Rule 2-300 does not apply to admission to or retirement from a law firm, retirement plans and similar arrangements, or to the sale of assets related to a law firm. (CRPC Rule 2-300(F).) Finally, CRPC Rule 2-300 does not apply to the transfer of individual client matters. The transfer of individual client matters is governed by CRPC Rules 2-200 and Rule 3-700.
Conclusion
The sale of any law practice is a process governed by Rule 2-300, which requires notice to and consent from clients, as well as specific compliance with various other Rules of Professional Conduct and Business & Professions Code provisions. The old prohibition on the sale of goodwill by an attorney no longer exists, and the solo practitioner is no longer disadvantaged. The seller, and purchaser, attorneys must carefully plan, supervise and execute the process according to CRPC Rule 2-300 in order to comply with all ethical obligations and to properly protect the clients’ interests.
Richard Egger is the managing partner of the Ontario office of Best, Best & Krieger LLP and the firm’s general counsel. His practice focuses on real estate and business litigation. He is a member of the State Bar of California’s Standing Committee on Professional Responsibility and Conduct. 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 opinions expressed herein are his own.
[1] All references to rules herein are to the California Rules of Professional Conduct unless otherwise noted.