Ethics Opinion 264

Refunds of Special Retainers; Commingling of Such Funds with the General Funds of the Law Firm Upon Receipt

* [NOTE: See how Opinion 264 has been substantively affected by the amendments to the D.C. Rules of Professional Conduct that became effective on February 1, 2007]

A retainer that is tied directly to provision of legal services, rather than designed solely to ensure availability, constitutes a special retainer which is earned upon provision of the contemplated services rather than upon receipt. A law firm must refund unused portions of such a retainer. Under the District of Columbia Rules of Professional Conduct, a special retainer or fee advance becomes the property of the law firm upon receipt; may be commingled with the law firm’s own funds; and must not be commingled with client funds in a client trust account. Such an arrangement must not prevent an accounting to the client or a refund if required.

Applicable Rules

• Rule 1.15 (Fee Advances)
• Rule 1.16 (Client Right to Discharge Counsel)

Inquiry

The Inquirer is a law firm that wishes to place into effect a legal services plan in the government contract field for small business concerns. As explained by the Inquirer, “companies desiring to enroll in the [Plan] would pay a fixed fee of $4,500 for up to 40 hours of government contract legal services during the ensuing year. (There is also a one-time 20 hour, six-month trial plan for $2,500.) Except where conflicts arise subsequent to enrollment and no waiver is received, the enrollment fee would not be refundable.” The Inquirer states that the hourly fee under the plan (assuming full utilization of the contemplated hours) is substantially lower than its normal hourly rates. Enrollment in the plan would be contractual, pursuant to a written agreement containing the following terms:

For a one-year period of enrollment, [Inquirer] will provide up to 40 hours of legal services to the Company on any federal government contract matter(s). For the six-month trial period of enrollment, [Inquirer] will provide up to 20 hours of legal services, to the Company on any federal government contract matter(s). These hours of legal services may include any combination of legal consultation (by telephone or in [Inquirer’s] Washington, D.C. office), legal research, or drafting and filing of documents. . . .

If the Company requires services beyond the number of hours covered by the Plan, such services will be performed by [Inquirer] only with the advance written consent of the Company, and will be billed to the Company at [Inquirer’s] regular hourly rates, plus all out-of-pocket expenses.

Because the enrollment fee for the Plan is a retainer to ensure the availability of [Inquirer’s] government contracts legal services, the fee is not refundable in whole or in part if the Company requests fewer than the applicable hours of legal services during the enrollment period (40 hours for one year of enrollment, 20 hours for a six-month trial period).

The Inquirer has asked for advice on two aspects of this plan:

1. Can the enrollment fee be nonrefundable?
2. If such a fee must be refundable, must it be segregated and treated as funds of the client?

Discussion

A. Refundability

The refundability issue turns on whether the contemplated arrangement constitutes a special retainer, which is a species of fee advance, or a general retainer. A general (or “true”) retainer is a “fee[] paid solely for availability and therefore do[es] not involve an advance fee but a fee that is fully earned when paid.”¹ In many jurisdictions, a general retainer is deemed earned when paid and therefore is not refundable.² The traditional justification for a general retainer is that the fee secures the lawyer’s availability to perform legal services during a specified period, a commitment that normally requires the lawyer to forego other representations and commit exclusively to the cause of the retaining client.³ A general retainer is paid solely for availability and a promise of exclusivity, and is not related to time expended on a particular matter. By contrast, a “special” retainer is an advance fee payment that is consumed by the performance of legal services.⁴ Such a retainer is not “earned” upon receipt but rather is tied to the performance of services. Any part of the retainer that the lawyer has not earned by her services must be refundable to the client, in line with the general rule that a lawyer’s normal remedy for unpaid fees lies in quantum meruit.⁵

Refusal to refund unused portions of a special retainer or fee advance traditionally has been thought to burden a client’s right to discharge the lawyer. Our Rules allow a client broad rights to discharge counsel without financial penalty. Rule 1.16(d) thus states that “in connection with any termination of representation, a lawyer shall take timely steps to the extent reasonably practicable to protect a client’s interests, such as . . . refunding any advance payment of fee that has not been earned.” Comment [4] to Rule 1.16 explains that “[a] client has a right to discharge a lawyer at any time, with or without cause, subject to liability for payment for the lawyer’s services” (emphasis added). Comment [4] to Rule 1.5 underscores the proposition that “[a] lawyer may require advance payment of a fee, but is obliged to return any unearned portion.” If the liability of the discharging client is only for payment for the services actually rendered by the lawyer, the client is not liable for the full amount of a special retainer designed to encompass services that have not yet been rendered.

Courts in other states have concluded that nonrefundable special retainers violate public policy by burdening a client’s right to discharge counsel. In In re Cooperman, 611 N.Y.S.2d 465 (Ct. App. 1994), for example, the New York Court of Appeals concluded that a nonrefundable special retainer burdens the client’s right to discharge her attorney because the client will be less likely to terminate the lawyer if the retainer is nonrefundable. The court therefore held that nonrefundable special retainers are against public policy:

We hold that the use of a special nonrefundable retainer fee agreement clashes with public policy because it inappropriately compromises the right to sever the fiduciary services relationship with the lawyer. . . . If special nonrefundable retainers are allowed to flourish, clients would be relegated to hostage status in an unwanted fiduciary relationship—an utter anomaly. Such circumstance would impose a penalty on a client for daring to invoke a hollow right to discharge.

Another problem arising from nonrefundable special retainers arises under D.C. Rule of Professional Conduct Rule 1.5, which commands that “[a] lawyer’s fee shall be reasonable,” and enumerates a number of factors to be considered in determining the reasonableness of a fee, including, inter alia, the time and labor required. In the case of a nonrefundable special retainer, the fee may be unreasonable, and thus void, if it does not correspond to the actual services provided by the lawyer. For example, if a lawyer is discharged by his client shortly after receiving a nonrefundable special retainer, having performed very little legal work for the client, the retainer may constitute an unreasonable fee because it would bear little relation to the work performed. In the instant situation, for example, a dissatisfied client might end up paying an hourly fee of $4,500 if the Inquirer performs only one hour of legal work prior to discharge. Our ethical rules therefore preclude a lawyer from retaining all of a special retainer when the attorney-client relationship is quickly and unexpectedly severed.⁶

These principles compel the conclusion that special retainers or fee advances in this jurisdiction must be refundable. Moreover, we conclude that the retainer in question in this case is a special retainer which cannot be nonrefundable. The classic element of a nonrefundable general retainer is missing from the plan; the need to ensure the availability of a particular lawyer or law firm during a given period of time. There is no exclusivity inherent in Inquirer’s proposed plan; instead, the plan makes the Inquirer’s services available to a virtually unlimited universe of clients who seek representation. It is difficult to understand how a client, under this plan, could preclude a rival or competitor from also retaining the Inquirer for government contract representation during the relevant period, in the absence of a conflict of interest under our rules. The proposed plan does not require that the Inquirer commit its time and resources exclusively to a particular client, or forego any opportunities for further representation during the period in question.

Although not in itself determinative, we find it significant that the arrangement contemplates that a specific amount of time will be reserved, and a specific amount of legal work will be performed in exchange for the retainer: $4,500 for “40 hours of assistance on any federal government contracts matter(s),” meaning payment for such legal services as “legal consultation . . . , review of documents, legal research, or drafting and filing of documents.” The advance fee thus is not remitted “solely to ensure the availability” of the firm and its lawyers. Indeed, the draft brochure describing the legal plan states that “[t]he basic Plan fee of $4,500 represents a significant discount from [Inquirer’s] regular rates for government contract legal services,” indicating that the fee is actually targeted to compensate for services performed.⁷ This conclusion is reinforced by the plan’s provision allowing a potential client to enroll in a “trial plan” for twenty hours of services at a reduced fee, which provides further evidence that the payment is tied directly to time expended.

The Inquirer suggests that D.C. Bar Opinion 155 demonstrates that the fee in this case can properly be made nonrefundable. Opinion 155 concerned a prepaid legal services plan providing corporate, tax and general business law services on a reduced hourly fee basis to a non-profit organization’s tax-exempt member organizations. The members paid a set monthly amount to reserve up to ten hours of legal services per month. A member requiring more than ten hours per month was charged an hourly rate based upon the member’s yearly income. The members could accrue unused hours from month to month, but no refunds would be made for unused guaranteed hours.

Opinion 155 does not address the issue of refundability, and thus provides little guidance in the instant case. Instead, the Committee in Opinion 155 was concerned about the risk that under the plan clients might be charged an excessive fee, because the monthly amount was paid whether or not the member actually used the hours for which it had paid. The Committee found this risk mitigated by the small maximum hour limitation (ten hours) and because members could accrue unused hours and retain them. On this basis, plainly not applicable here, the Committee upheld the validity of the fee arrangement.⁸

Our conclusion is not inconsistent with freedom of contract, nor do we intend to inhibit lawyers from negotiating alternative fee arrangements that are meant in whole or in part to compensate for availability, exclusivity or concomitant lost opportunities. Although “‘[s]ophisticated lawyers and clients ought to be able to use… a reasonable nonrefundable fee’ as an alternative billing method . . . ,”⁹ authority in other jurisdictions establishes that when an attorney is employed under a contract stipulating a specific fee for specific services, the attorney is entitled to recover only in quantum meruit for services performed prior to discharge.¹⁰ This conclusion harmonizes “the right of an attorney to recover for services he provided with the policy of instilling public confidence in the members of an honorable profession whose relationship to clients is personal and confidential.”¹¹

Although we conclude that a special retainer must be nonrefundable when the lawyer’s services are terminated before completion of the professional engagement, this does not mean that the refund must be a proportionate amount of the advance fee paid. In the inquiry before us, if a client who had contracted for 40 hours of legal services for $4,500 (i.e., $112.50 per hour) terminated the engagement after 20 hours of service, or half the engagement period, Rule 1.16(d) would not necessarily require a refund of one-half the retainer. Under these circumstances, it would not be unreasonable for the law firm to deny the client the benefit of the original “volume discount,” and charge the client for 20 hours at its usual hourly rate. Other factors listed in Rule 1.5(a) could also be relied on in determining the fee in the event the contract is not completed. Of course, both the fee to be charged if the contract is not terminated and the fee chargeable on early termination must be reasonable under Rule 1.5(a). In addition, the basis of both fees must be communicated in writing to the client in advance under Rule 1.5(b). Reasonableness and the requirement of an advance writing may apply to general retainers as well. We do not address ethics limitations applicable to general retainers in this opinion, as the issue is not presented by this inquiry.

Finally, merely stating in a contract that the retainer fee is a general retainer or nonrefundable does not necessarily make it so.¹² In order to be considered a true general retainer, and hence nonrefundable, there must be a clear indication that the retainer fee in fact is being paid to secure the exclusive availability of the lawyer or firm and is not intended to pay for specific services to be rendered.

Segregation of Funds

In Opinion 113, the Legal Ethics Committee rejected the view that fee advances are “funds of a client” under DR 9-103, and therefore concluded that such advances do not need to be placed in a separate account. The Committee reasoned that the “funds” referred to in DR 9-103 did not include any fees paid to the lawyer, because that provision did not include any reference to “fees” despite the widespread usage of that term throughout the Code. The Committee added: “Any escrow or trust requirement over the fee advance would defeat the objective of the fee advance: to take the attorney away from the financial mercies of the client.” Finally, the Committee noted that policy considerations, including the lack of discontent over the placing of advance fees in the law firm’s general account, supported continuing the policy of allowing commingling of advance fees.

Rule 1.15 makes this practice more explicit. Rule 1.15(d) states: Advances of legal fees and costs become the property of the lawyer upon receipt. Any unearned amount of prepaid fees must be returned to the client at the termination of the lawyer’s services in accordance with Rule 1.16(d).

It is clear from Rule 1.15(d) that any advance payment, regardless of whether it is denominated as a general retainer, or a special retainer or advance fee, becomes the property of the lawyer upon receipt and does not have to be placed in an account separate from the firm’s general account. This conclusion in no way qualifies the duty to refund fees where appropriate, as Rule 1.15(d) itself states.

For this reason, in this jurisdiction fee advances and general retainers should not be commingled with client funds contained in a client trust account. Indeed, our Rule 1.15(a) specifically prohibits commingling. We would caution, however, that other jurisdictions may take the opposite approach and require that fee advances be placed in a trust account until earned. Therefore, where several jurisdictions are involved in the representation, prudent lawyers may wish to adopt a conservative approach and segregate fee advances from both the law firm’s assets and from assets of other clients which may be contained in a client trust account.

Possibly conflicting approaches to this question highlight the need for a lawyer to decide which ethical rules apply to the situation. Our Rule 8.5 embodies the notion that traditional choice of law principles may apply to the determination of what ethical rules apply to a given situation. Where the lawyer is licensed to practice only in this jurisdiction, performs work only in this jurisdiction for clients in this jurisdiction, and both receives and maintains bank accounts within this jurisdiction, it is clear that the District of Columbia Rules of Professional Conduct apply and fee advances may be considered the lawyer’s property upon receipt. As the situation diverges from this exclusively District of Columbia paradigm, however, members of our Bar should take care to ensure that they are in compliance with the rules of any other jurisdiction which may control the situation.

 Inquiry No. 95-5-14
Adopted: February 14, 1996

1. Lester Brickman & Lawrence A. Cunningham, Nonrefundable Retainers Revisited, 72 N.C. L. Rev. 1, 5 (1993). See also Alexander K. McKinnon, Analytical Approaches to the Nonrefundable Retainer, 9 Geo. J. Legal Ethics 583 (1996); 1 S. Speiser, ATTORNEY’S FEES §§ 1.4, 1:8 (1973) (“A true retainer is payment given to a lawyer to compensate for the client’s right to the lawyer’s services. The retainer is earned when received because the lawyer gives up the right to work for others and the client has received this promise of exclusivity.”); State Bar of Texas Professional Ethics Comm. Op. 431 (June 1986) (“[A] retainer is that non-refundable fee paid by a client to secure an attorney’s availability over a given period of time . . .” (citing Wash. State Bar Ass’n Op. 173 (Oct. 1980)); 7A C.J.S. Attorney and Client § 282 (1980) (“A true retainer is not a payment for services. It is an advance fee to secure a lawyer’s services, and remunerate him for loss of the opportunity to accept other employment.”); Brickman & Cunningham, supra, at 6 (“[A]n attorney must promptly refund any part of an advance fee that has not been earned except if the fee is identified as a true retainer, defined as a fee paid, solely for the purpose of ensuring the availability of the lawyer for a matter or for a given period of time.”) (emphasis added) (citing Calif. Rules of Professional Conduct Rules 3-700(D)(2), 4-100(b) (1989)).
2. See, e.g., State Bar of Tex. Professional Ethics Comm. Op. 431 (June 1986); Alaska Bar Ass’n Ethics Op. 87-1 (Sept. 1987); N.J. Advisory Comm. On Professional Ethics Op. 644 (1990).
3. See note 2, supra. “Availability is the essence of a general retainer.,” Restatement of the Law, The Law Governing Lawyers 46, cmt. e, at 213 (Tent. Draft No. 4, 1991), cited in Brickman & Cunningham, supra note 2, at 23. “Indeed, a primary justification for ‘retainers’ in any situation is the assurance that the lawyer’s time will be available to the client if and when needed, an arrangement which may “preclude other employment by the lawyer.” D.C. Bar Legal Ethics Comm. Op. 155 (1985) (citing DR 2-106(B)(2) [Rule 1.5(a)(1)]).
4. Brickman & Cunningham, supra note 1, at 5-6. Special retainers may take many forms, including an advance to be applied against hourly rates or a flat fee designed to cover provision of specified legal services.
5. See generally Kin Cheung Wong v. Kennedy, 853 F. Supp. 73, 79 (E.D.N.Y. 1994) (citing In re Cooperman, 1994 WL 84413 (N.Y.) at *3 (Mar. 17, 1994)).
6. See N.C. State Bar Ass’n Ethics Comm. Op. 106 (Apr. 11, 1991) (ruling that lawyer had to return any amount in excess of reasonable fee when state voluntarily dismissed charges against his client). See also McKinnon, supra note 1, at 588 (noting that prohibition on lawyer acquiring proprietary interest in a cause of action also may be implicated by certain nonrefundable retainers.)
7. In In re Hathaway Ranch Partnership, 116 Bankr. 208, 216 (Bankr. C.D. Cal. 1990), the court stated that:
[a] true earned upon receipt retainer is one paid to a lawyer for which the only consideration exchanged is the promise to represent the client and no other party in the particular matter. The consideration cannot include logically the provision of future services if the retainer is truly earned upon receipt (citing In re C&P Auto Transport, Inc., 94 Bankr. 682, 687 (Bankr. E.D. Cal. 1988)).
8. D.C. Op. 155 also is distinct from this case in that the lawyer-client relationship was with an organization to which individual members belonged, rather than directly between the law firm and an individual client. Such arrangements commonly arise in pre-paid legal services plans maintained by labor unions, under which the union pays a specific fee to ensure the availability of its law firm to represent union members on certain matters. We are not confronted by that situation in this case, and do not address it. Inquirer also relies on D.C. Op. 113, which deals with the safekeeping of fee advances and not with refundability. We do not view D.C. Op. 113 as pertinent to the issue placed before us on this occasion.
9. Edward A. Adams, Fallout From Fee Decision: Some Arrangements Doomed, N.Y.L.J., Mar. 21, 1994, at 1 (quoting Stephen Gillers).
10. Cohen v. Radio-Electronics Offices Union, 645 A.2d 1248 (N.J. Super. 1994); Jacobson v. Sassower, 474 N.Y.S.2d 107 (1983).
11. Cohen, 645 A.2d at 1259.