State Bar of Arizona Ethics Opinions

98-09: Conflicts of Interest; Referral Fees; Financial Planning (Partially overruled by Opinion 05-01)
11/1998

A lawyer ethically cannot accept a fee from an investment adviser for referring clients of the lawyer to the adviser. Such a referral arrangement would present a conflict of interest for the lawyer, in violation of ER 1.7(b). [ER 1.6, 1.7, 1.8]

FACTS[1]

 

An investment adviser firm desires to pay a referral or solicitor’s fee to attorneys in Arizona for referring clients to the investment adviser firm.  The referral fee paid to the attorney would be a percentage of the fee paid by the client to the investment adviser firm for its services.

 

An attorney’s involvement would be limited to the following:  1) providing materials on the investment adviser firm to his or her client; 2) introducing his or her client to the investment adviser firm’s registered personnel; 3) attending meetings at which the investment adviser personnel would explain the investment and referral program and would assist the client in choosing the investment services best suited to the client’s investment advisory needs; and
4) receiving copies of periodic investment advisory statements so that the attorney may monitor his or her client’s involvement in the investment advisory program.

 

For the purpose of this opinion, the Committee assumes that the investment advisory firm and participating attorneys would be in compliance with any applicable registration requirements or exemptions under the Investment Adviser Act of 1940 and the Arizona Securities Act.

 

Question Presented

 

Do the Arizona Rules of Professional Conduct preclude an attorney from receiving a referral or solicitor’s fee for referring clients to an investment adviser firm under a program as described in the above paragraphs?

 

Applicable Ethical Rules

 

ER 1.6             Confidentiality of Information

 

(a)  A lawyer shall not reveal information relating to representation of a client unless the client consents after consultation, except for disclosures that are impliedly authorized in order to carry out the representation, and except as stated in paragraphs (b), (c) and (d) or ER 3.3(a)(2).

 

(b)  A lawyer shall reveal such information to the extent the lawyer reasonably believes necessary to prevent the client from committing a criminal act that the lawyer believes is likely to result in death or substantial bodily harm.

 

(c)  A lawyer may reveal the intention of his client to commit a crime and the information necessary to prevent the crime.

 

(d)  A lawyer may reveal such information to the extent that lawyer reasonably believes necessary to establish a claim or defense on behalf of the lawyer in a controversy between the lawyer and the client, to establish a defense to a criminal charge or civil claim against the lawyer based upon conduct in which the client was involved, or to respond to allegations in any proceedings concerning the lawyer’s representation.

 

ER 1.7             Conflict of Interest:  General Rule

 

(a) A lawyer shall not represent a client if the representation of that client will be directly adverse to another client, unless:

 

(1)  the lawyer reasonably believes the representation will not adversely affect the relationship with the other client; and

 

(2)  each client consents after consultation.

 

(b)  A lawyer shall not represent a client if the representation of that client may be materially limited by the lawyer’s responsibilities to another client or to a third person, or by the lawyer’s own interests, unless:

 

(1)  the lawyer reasonably believes the representation will not be adversely affected; and

 

(2)  the client consents after consultation.  When representation of multiple clients in a single matter is undertaken, the consultation shall include explanation of the implications of the common representation and the advantages and risks involved.

 

ER 1.8             Conflict of Interest:  Prohibited Transactions

 

(a)  A lawyer shall not enter into a business transaction with a client or knowingly acquire an ownership, possessory, security or other pecuniary interest adverse to a client unless:

 

(1)  the transaction and terms on which the lawyer acquires the interest are fair and reasonable to the client and are fully disclosed and transmitted in writing to the client in a manner which can be reasonably understood by the client;

 

(2)  the client is given a reasonable opportunity to seek the advice of independent counsel in the transaction; and

 

(3)  the client consents in writing thereto.

 

* * * * *

 

ER 5.4             Professional Independence of a Lawyer

 

(a)  A lawyer or law firm shall not share legal fees with a nonlawyer, except that:

 

(1) an agreement by a lawyer with the lawyer’s firm, partner or associate may provide for the payment of money, over a reasonable period of time after the lawyer’s death, to the lawyer’s estate or to one or more specified persons;

 

(2)  a lawyer who undertakes to complete unfinished legal business of a deceased lawyer may pay to the estate of the deceased lawyer that proportion of the total compensation which fairly represents the services rendered by the deceased lawyer; and

 

(3)  a lawyer or law firm may include nonlawyer employees in a compensation or retirement plan, even though the plan is based in whole or in part on a profit-sharing arrangement.

 

(b)  A lawyer shall not form a partnership with a nonlawyer if any of the activities of the partnership consist of the practice of law.

 

(c)  A lawyer shall not permit a person who recommends, employs, or pays the lawyer to render legal services for another to direct or regulate the lawyer’s professional judgment in rendering such legal services.

 

(d)  A lawyer shall not practice with or in the form of a professional corporation or association authorized to practice law for a profit, if:

 

(1)  a nonlawyer owns any interest therein, except that a fiduciary representative of the estate of a lawyer may hold the stock or interest of the lawyer for a reaonsable time during administration;

 

(2)  a nonlawyer is a corporate director or officer thereof; or

 

(3)  a nonlawyer has the right to direct or control the professional judgment of a lawyer.

 

Opinion

 

Primary among the ethical rules governing attorneys are those slated to prevent a conflict of interest from arising between an attorney and a client.  As pointed out in prior opinions, the underlying principle of Ethical Rules 1.7, 1.8 and 5.4 is the duty of loyalty that an attorney owes to a client. See Opinion Nos. 96-05 and 95-10.  In all but a few exceptions, the attorney must avoid a conflict of interest with the client to uphold that duty.  See ER 1.7, Comment.

 

The principal ethical rule implicated here is ER 1.7(b), which applies when an attorney’s own interests may affect those of his or her client.[2]  It provides:

 

A lawyer shall not represent a client if the representation of that client may

be materially limited by . . . the lawyer’s own interests, unless:

 

(1)  the lawyer reasonably believes the representation will not be adversely affected; and

 

(2) the client consents after consultation...

 

As noted in the Comment to ER 1.7(b), “[l]oyalty is an essential element in the lawyer’s relationship to a client” and that loyalty is “impaired when a lawyer cannot consider, recommend or carry out an appropriate course of action for the client because of the lawyer’s other responsibilities or interests.”  The Comment also provides guidance for determining the likelihood of an actual conflict:

 

A possible conflict does not itself preclude the representation.  The critical

questions are the likelihood that a conflict will eventuate and, if it does,

whether it will materially interfere with the lawyer’s independent professional

judgment in considering alternatives or foreclose courses of action that

reasonably should be pursued on behalf of the client.

 

The Comment also states that “[c]onsideration should be given to whether the client wishes to accommodate the other interest involved,” suggesting that in some cases the ethical problems associated with a potential conflict of interest can be overcome if the attorney obtains client consent.  However, as this Committee has noted in Opinion No. 95-10, certain circumstances exist in which the lawyer may not properly seek the client’s consent in the fact of a conflict.  See also, In re Breen, 171 Ariz. 250, 254, 830 P.2d 462, 466 (1992) (“[w]hen a lawyer receives a personal benefit apart from the client’s fee from a transaction . . . the lawyer’s ethical obligation is not always fulfilled by merely disclosing the existence of the personal stake, explaining the potential consequences, and obtaining the client’s consent”).

 

A similar referral program was considered in Opinion No. 95-10, which dealt with the propriety of an attorney receiving a referral fee from a marketing and consulting service that represented medical practitioners.  The service would have provided referring attorneys with a list of its clients and made suggestions as to which medical practitioner was appropriate based on location and expertise.  After analyzing ER 1.7(b), the Committee concluded that the ethical rules prohibited a lawyer from accepting a fee for the referral of a client to a medical practitioner.  Although the facts presented here differ in some respects, the fundamental character of the transaction remains substantially unaltered, i.e. a direct financial interest through receipt of a referral fee by an attorney.

 

Based on the Comment to ER 1.7 and our prior opinion, it appears that the referral program described above would create a conflict of interest prohibited by ER 1.7(b).

 

First, the lawyer’s disclosure of the attorney-client relationship to a third-party for fee may reduce the confidence, belief or trust the client places in the attorney.  The client may feel that the attorney is not providing unbiased advice or counsel based on the monetary interest the referral represents.

 

Second, the attorney’s professional judgment may be affected, perhaps unconsciously, by the knowledge that with each referral, he or she will receive a percentage of the fee the client pays to the investment adviser firm.  With this monetary incentive, it is possible that the attorney may refer a client to the investment adviser firm, despite the fact that the client's financial interests would be better served through other means.  Moreover, if the client received deficient or otherwise inappropriate advice from the investment adviser firm, the attorney may be placed in the ethically impermissible position of attempting to mediate, litigate or remedy the situation for the client.

 

Third, the client may be reticent to be candid with the attorney because of the fear that information about the client will be imparted to the investment adviser.  Thus, the provisions of ER 1.6 may apply to this situation and the duty of confidentiality may be affected by the presence of a third party, such as the investment adviser.  Among other things, the client may fear that the referral relationship may result in an advertent disclosure of confidential information by the attorney when dealing with the investment adviser firm.

 

Finally, the Committee notes that in the converse situation an attorney would not be permitted to pay a referral fee to the investment adviser firm or another third party for referring clients to the attorney under ER 7.1(j).

 

Thus, the Committee concludes that an attorney’s participation in the referral arrangement described above would violate ER 1.7(b).



[1] Formal Opinions of the Committee on the Rules of Professional Conduct are advisory in nature only and are not binding in any disciplinary or other legal proceedings.  © State Bar of Arizona 1998

[2] The present facts do not implicate the conflict of interest provisions found in ER 1.7(a) or ER 5.4.  ER 1.7(a) concerns the simultaneous representation of two directly adverse clients, which is not at issue here.  ER 5.4 concerns the independence of a lawyer and specifically prohibits:  1) the sharing of “legal fees” with a nonlawyer; 2) the forming of a partnership with a nonlawyer where the partnership activities include the practice of law; 3) the payment or directing of legal services by a third party; and 4) the forming or practicing of a professional corporation or association with a nonlawyer.  None of those provisions is implicated by the proposed referral program.  This issue does not involve the formation of a partnership or corporation with the nonlawyer investment adviser firm, the payment or directing of legal fees by the third-party investment adviser or the sharing of legal fees earned by the attorney in the representation of the client.

 

Similarly, ER 1.8 is not applicable because the facts do not involve the attorney acquiring an interest adverse to the client, or entering into a business transaction with the client (aside from the provision of legal services).