PowerPoint Ethical Considerations for Defense Counsel, FINAL

ETHICAL ISSUES RELATED TO DEFENSE COUNSEL REPRESENTATION OF SURETIES AND PRINCIPALS

Prepared and presented to Chicago Surety Claims Association for educational purposes only by:

Brandon G. Hummel

[email protected]

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DEFENSE COUNSEL REPRESENTATION OF SURETIES AND PRINCIPALS• Relationships Between Sureties, Principals and Defense

Counsel

• RPC Rule 1.2(c)• RPC Rule 1.4• RPC Rule 1.6(a)• RPC Rule 1.7• RPC Rule 1.8• RPC Rule 3.1• RPC Rule 5.4(c) and 1.8(f)(2)

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Representing the Surety and Principal

Overlap of Surety and Principal Obligations and Defenses

• A Surety is “[o]ne who undertakes to pay money or to do any other act in the event that his principal fails therein.”

• Because the Principal and Surety are both liable under the same agreement, they will have many of the same defenses.

• The Surety, however, may have its own, unique defenses not available to the Principal.

• Under what circumstances should the Surety tender defense to the Principal?

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Tendering to the Principal Contains Inherent Risks

• Some common risks for the Surety include:

Financial stability of Principal; Relationship between Surety and Principal; Whether Principal appears to have valid defenses to

claims; and Whether the Principal’s chosen counsel is competent. In addition, the tender of the Surety’s defense can give rise

to a broad range of ethical issues.

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Common Reasons Why Sureties Tender Defense

Avoids risks of alienating customer in good standing Avoids risk of courts not awarding Surety’s attorneys fees

from indemnitor if Surety “unnecessarily” engages its own counsel.

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Representing the Surety and PrincipalRPC Rule 1.7 - Conflict of Interest

(a) Except as provided in paragraph (b), a lawyer shall not represent a client if the representation involves a concurrent conflict of interest. A concurrent conflict of interest exists if: (1) the representation of one client will be directly adverse to another client; or (2) there is a significant risk that the representation of one or more clients will be materially limited by the lawyer’s responsibilities to another client, a former client or a third person or by a personal interest of the lawyer.

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RPC Rule 1.7 - Conflict of Interest Cont.

(b) Notwithstanding the existence of a concurrent conflict of interest under paragraph (a), a lawyer may represent a client if: (1) the lawyer reasonably believes that the lawyer will be able to provide competent and diligent representation to each affected client; (2) the representation is not prohibited by law; (3) the representation does not involve the assertion of a claim by one client against another client represented by the lawyer in the same litigation or other proceeding before a tribunal; and (4) each affected client gives informed consent.

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Key Points from RPC Rule 1.7

▫Rule 1.7(a) requires that the attorney be able to represent each client fully and without limitation by the interests of the other client.

▫Rule 1.7(b) addresses other situations where an attorney’s duty of loyalty might be compromised by simultaneous representation.

▫Funding of the Surety’s defense by the Principal is not an ethical issue if certain safeguards are utilized.

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Concurrent Representation of Surety and Principal

In some instances, concurrent representation of Principal and Surety may not be possible due to material conflicts of interest.

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Concurrent Representation – Surety Specific Defenses

A common conflict situation arises where Surety wishes to assert a personal Surety defense to liability under the Bond that may adversely affect Principal’s position. Such defenses might include: an overpayment defense by an Obligee, especially when the

Principal claims that it was underpaid for the same work; that Surety was fraudulently induced to write bonds at issue; joint-venture defense; material alteration defense.

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Representing the Surety and PrincipalConcurrent Representation – Unfulfilled Collateral Request

▫ Another common conflict situation arises where Surety seeks collateral from Principal and Principal refuses.

“[A] lawyer cannot undertake common representation of clients where contentious litigation or negotiations between them are imminent or contemplated.” See MODEL RULES OF PROF’L. CONDUCT RULE 1.7, Cmt. 29

▫ Very little case law exists that addresses the attorney’s ethical responsibilities when the Principal refuses to provide collateral.

▫ However, there are cases that recognize the importance of depositing collateral so as to confirm that the interest of the Surety and Principal remain aligned. See Central Towers, 453 S.W. 2d 789, 800 (Tenn. Ct. App. 1970).

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Bad Faith Claims Against Surety May Also Prevent Concurrent Representation

• A tender by Surety to Principal’s counsel also may not be possible where there are bad faith allegations against the Surety or where there are penalties claimed against Surety for its failure to comply with a Bond’s requirements.

• But what about situations involving less severe conflicts?• Can ethical requirements be satisfied through disclosure of

potential conflicts to client(s) and consent from client(s)?

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Informed Consent

RPC Rule 1.0(e): “Informed consent” denotes the agreement by a person to a proposed course of conduct after the lawyer has communicated adequate information and explanation about the material risks of and reasonably available alternatives to the proposed course of conduct.

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Informed Consent Cont.

RPC Rule 1.0(e) – Comment 6: “The communication necessary to obtain such consent will vary according to the Rule involved and the circumstances giving rise to the need to obtain informed consent. The lawyer must make reasonable efforts to ensure that the client or other person possesses information reasonably adequate to make an informed decision.”

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RPC Rule 1.0(e) – Comment 6: “In some circumstances it may be appropriate for a lawyer to advise a client or other person to seek the advice of other counsel. A lawyer need not inform a client or other person of facts or implications already known to the client or other person; nevertheless, a lawyer who does not personally inform the client or other person assumes the risk that the client or other person is inadequately informed and the consent is invalid.”

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RPC Rule 1.0(e) – Comment 6: “Ordinarily, this will require communication that includes a disclosure of the facts and circumstances giving rise to the situation, any explanation reasonably necessary to inform the client or other person of the material advantages and disadvantages of the proposed course of conduct and a discussion of the client’s or other person’s options and alternatives.”

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▫ An attorney’s communication regarding potential conflicts and scope of representation should be made as soon as possible.▫ If multiple clients understand and acknowledge in writing the risks associated with concurrent representation by the same attorney, the attorney may be able to comply with his or her ethical responsibilities to both.▫ ABA Committee on Professional Ethics of the Association of the Bar of New York City Opinion 2001-2 states that a lawyer “may represent multiple clients in the same manner where the interests of the clients are generally aligned or not directly adverse, provided the clients are fully advised of the potential conflict and give informed consent….”

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▫ However, in some jurisdictions, lawyers are barred from representing multiple clients with conflicts of interest, regardless of disclosure and consent. ▫ For example, the Oregon State Bar Legal Ethics Committee concluded that it is never appropriate to represent the insurer and insured when there are conflicts of interest, even when the lawyer receives informed consent. OR. STATE BAR LEGAL ETHICS COMM., Opinion 49894 (1984).

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Representing the Surety and PrincipalFull Disclosure Usually Includes:

• Relationship of Attorney to Principal and SuretyAllstate Ins. Co. v. Carioto, 194 Ill. App. 3d 767 (1st Dist. 1990) (insurer/insured context but applicable to principal/surety situation)

• Self Interests of AttorneyIllinois Municipal League Risk Management Assoc. v. Seibert, 223 Ill. App.3d 865, 871 (4th Dist. 1992)(financial interests such as prior client relationship with surety, insurer, insured or principal)

• Nature of the Conflict and Coverage Implications under Bond or Insurance Policy

• Limitations on Representation

RPC 1.2(c) – “if the limitation is reasonable under the circumstances and the client gives informed consent”ABA Formal Op. 96-403 – requires the attorney to inform the insured thatthe attorney “intends to proceed at the direction of the insurer in accordancewith the terms of the insurance contract[,] and what this means to the insured.”

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Representing the Surety and PrincipalRPC Rule 5.4(c) and RPC 1.8(f)(2) - Source of Payment of Attorney Should Not Affect Duties to Client(s)

▫ Thus, 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.

▫ This issue often arises in the context of surety/insurer litigation guidelines and surety/insurer billing practices.

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Surety/Insurer Litigation Guidelines

• ABA Ethics Opinion 01-421 (February 2001) (A lawyer must not permit compliance with "guidelines" and other directives of an insurer relating to the lawyer's services to impair materially the lawyer's independent professional judgment in representing an insured)

• ABA Ethics Opinion 96-403 (1996) (defense counsel may accept

insurer instructions regarding settlement so long as insured acquiesces in insurer direction)

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Outside Bill Reviewers

• ABA Ethics Opinion 01-421 (A lawyer may not, however, disclose the insured's confidential information to a third-party auditor hired by the insurer without the informed consent of the insured)

• ISBA has not yet issued an opinion as to whether the release of billing information without the insured’s informed consent violates the duty of confidentiality (RPC 1.6) or impairs the attorney’s exercise of independent judgment (RPC 5.4)

• Disclosure may result in waiver of attorney-client privilege U.S. v. South Chicago Bank, 1998 WL 774001 at *3 (N.D.Ill. 1998)

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Surety/Insurer Litigation Guidelines Cont.

• Tenn. Bd. Of Prof. Resp., Formal Ethics Op. 2000-F-145, 2000 WL 1687507 (September 8, 2000)

“….an attorney may not accept employment by an insurer on behalf of an insured with conditions limiting or directing the scope and extent of his or her representation of the insured in any manner, including the decision whether or not to appeal a judgment against the insured, whether or not to demand a jury, or whether or not to participate in mediation on the insurer’s behalf, unless the client-insured has expressly agreed with any or all of the conditions limiting the nature or scope of the representation, and such agreement is confirmed in writing by the client-insured to the attorney. Counsel receiving a retention purporting to require undeviating compliance should inform the insurer that such compliance cannot be assured, but that counsel will comply to the extent permitted by counsel’s duties to the insured.”

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Representing the Surety and PrincipalEven with Informed Consent, Concurrent Representation Can Still Violate RPC Rules 3.1 and 4.1

• General contractor gives notice it is tendering its defense and Surety’s defense to same attorney. Discussions between Surety and claimant cease. Claimant files a complaint to perfect bond claim. Complaint names subcontractor, general contractor, and Surety as defendants who are jointly liable for the debt.

• Surety has an obligation to the claimant, absent valid defenses, to timely resolve bond claim. General contractor does not have any valid defenses under the law, but wants to delay the proceeding to avoid payment. Under these circumstances, may one lawyer represent both the Surety and the general contractor in defense of the claim? (2003 ETH. OP. 1, 2003 WL 24306940 (N.C. St. Bar). No. It is unethical for an attorney to assert invalid defenses or unnecessarily delay legal proceedings.

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Representing the Surety and PrincipalWhen Surety May Be Entitled to Independent Counsel

In Central Towers Apartments, Inc. v. Martin, 453 S.W. 2d 789, 800 (Tenn. Ct. App. 1970) the court laid out a 12 factor analysis to evaluate whether the surety acted in good faith in retaining its own counsel. Some of these include:

The amount of risk to which the Surety was exposed; Whether the Principal was solvent; Whether the Surety demanded collateral; Whether Principal refused to deposit collateral; Whether Principal was notified of the action and given the opportunity to defend itself

and the Surety; Whether the Principal hired the attorney for itself and the Surety; Whether the Principal notified the Surety of the hiring; The diligence displayed by the Principal and its attorney in the case; Whether there is a conflict of interest between the Principal and the Surety; The amount charged and diligence of the attorney hired by the Surety.

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When Surety May Be Entitled to Independent Counsel Cont.

▫ United Riggers v. Marathon Steel Co., 725 F.2d 87 (10th Cir. 1984) (holding that surety entitled to reimbursement of its separate attorneys’ fees where indemnitor refused to post collateral on demand and because of availability of separate surety defenses)▫ Gulf Ins. Co. v. AMSCO, Inc., 889 A.2d 1040, 1049 (N.H. 2005) (holding that surety’s claim of unique defenses from that of principal provided no viable basis for it to retain separate legal counsel).

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Representing the Surety and PrincipalDuties of Confidentiality

▫ RPC Rule 1.6(a) prohibits a lawyer during or after representation from disclosing client confidences without the client’s consent.▫ But lawyer may make disclosures under the “implied authorization” exception to Rule 1.6, such as disclosure of billing statements and periodic status reports.

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Representing the Surety and PrincipalDuties of Confidentiality Cont.

RPC Rule 1.8(b): A lawyer shall not use information relating to representation of a client to the disadvantage of the client unless the client gives informed consent, except as permitted or required by these Rules. Attorney should seek the insured’s informed consent under Rule 1.6 whenever the disclosure of information to the insurer may have an adverse effect on “a material interest” of the policyholder, such as coverage issues or implicates a conflict between the parties.

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Duties of Confidentiality Cont.

▫ Comment 31 to Rule 1.7 describes the tension of disclosure of confidential information this way:

[C]ontinued common representation will almost certainly be inadequate if one client asks the lawyer not to disclose to the other client information relevant to the common representation. This is so because the lawyer has an equal duty of loyalty to each client, and each client has the right to be informed of anything bearing on the representation that might affect that client's interests[.]

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Disqualification Motion by Principal Rejected

• Cornish v. Superior Court, 257 Cal. Rptr. 383, 387 (Cal. App. 1989), the court rejected a motion to disqualify a law firm that previously represented both the contractor and surety because the contractor could not have had a reasonable expectation that the confidences of the contractor would not be shared with the surety, the firm’s primary and long-time client.

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Duty to Communicate with Client

RPC Rule 1.4

(a) A lawyer shall:(1) promptly inform the client of any decision or circumstance with respect to which the client’s informed consent, as defined in Rule 1.0(e), is required by these Rules;(2) reasonably consult with the client about the means by which the client’s objectives are to be accomplished [see also RPC 1.2(a)];(3) keep the client reasonably informed about the status of the matter; (4) promptly comply with reasonable requests for information; and(5) consult with the client about any relevant limitation on the lawyer’s conduct when the lawyer knows that the client expects assistance not permitted by the Rules of Professional Conduct or other law.

(b) A lawyer shall explain a matter to the extent reasonably necessary to permit the client to make informed decisions regarding the representation.

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Representing the Surety and PrincipalDuty to Communicate with Client Cont.

▫The Rule requires the attorney to inform Surety of facts necessary to make informed decisions regarding its representation.

▫But Principal’s counsel may sometimes fail in this obligation.

▫Rule 1.4 is therefore sometimes in conflict with Rule 1.6, which requires an attorney to maintain a client’s confidences.

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Duty to Communicate with Client Cont.

▫ Situations where such tension between Surety and Principal may exist include:

Principal admits to its attorney that it has no defense to claims in litigation, but asks the attorney to delay resolution of the claims;

The attorney is informed, or determines based on access to confidential information, that the Principal and/or indemnitors are insolvent, which could later adversely affect the Surety’s indemnification rights;

The attorney is informed of the potential for other claims beyond those known to the Surety that could exceed the Surety’s anticipated losses; and

Where the attorney fails to inform the Surety of settlement offers.

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Representing the Surety and PrincipalRule 1.6 often creates the most tension in the attorney’s concurrent representation of the Surety and Principal. The commentary to the Rule provides:

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▫ The attorney’s obligation to keep communications confidential is often at odds with Rule 1.4’s requirement that both clients be kept informed of relevant information.

▫ The attorney may therefore breach his or her ethical duty to Surety for not disclosing facts adverse to its position, but, on the other hand, may breach that duty to Principal for communicating confidential information.

▫ Comment 30 to Rule 1.7 of the ABA Model Rules of Professional Responsibility provides:

A particularly important factor in determining the appropriateness of common representation is the effect on client-lawyer confidentiality and the attorney-client privilege. With regard to the attorney-client privilege, the prevailing rule is that, as between commonly represented clients, the privilege does not attach. Hence, it must be assumed that if litigation eventuates between the clients, the privilege will not protect any such communications, and the clients should be so advised.

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▫ However, an attorney in this predicament must inform both parties of: The information the attorney learned; The Attorney’s determination to share it; and Need to receive informed consent to continue as attorney for both parties.

▫ Otherwise, the attorney must withdraw from representation of both parties.

See MODEL RULES OF PROF’L. CONDUCT RULE 1.7, Cmt. 29 (“Ordinarily, the lawyer will be forced to withdraw from representing all of the clients if the common representation fails”)

▫ The potential for conflict arises in many situations, including settlement offers and when the attorney learns, or the Principal discloses to him or her, information it does not want to be shared with the Surety.

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Representing the Surety and Principal•The comments to Rule 1.7 cautions:

Comment 29 to Rule 1.7 of the ABA Model Rules of Professional Responsibility provides:

“Generally, if the relationship between the parties has already assumed antagonism, the possibility that the clients' interests can be adequately served by common representation is not very good.” See MODEL RULES OF PROF’L. CONDUCT RULE 1.7, Cmt. 29

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Representing the Surety and PrincipalRamifications of Principal’s Failure to Pay Attorney Representing Surety

▫ Knowledge of Principal’s inability to pay constitutes a good reason to decline or rescind tender of defense.

▫ Recall that Rule 1.4 requires the attorney to keep Surety informed of facts that affect Surety’s interests. Failure to pay attorneys’ fees is an important fact that Surety should be aware of.

▫ Although not always an ethical issue, there are legal consequences flowing from Principal’s failure to pay its attorneys that could affect the Surety’s ability to defend itself. For example: Retaining liens. An attorney's retaining lien on a client's papers and files is a

possessory lien that the attorney holds until the fee has been paid or until adequate security for payment has been posted. See Fingar v. Braun & May Realty, Inc., 807 So. 2d 202, 203 (Fla. 2d DCA 2002).

▫ This creates a very difficult situation for the Surety because any new counsel will need to review the entire file.

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Representing the Surety and PrincipalRefusal of Principal to Furnish Collateral Can Also Justify Surety’s Rescission of Tender

▫ Several courts have held that a Surety is justified in its refusal to tender its defense to the Principal when the Principal fails to deposit collateral.▫ For example, in Troporoff Engineers, P.C. v. Fireman’s Fund Ins. Co., 2006 WL 1539341, *2 (S.D.N.Y. 2006), the court held: “Although the Court was initially skeptical about the necessity of the Sureties' conducting its own independent defense, the Court finds that there is sufficient evidence indicating that the Sureties' separate defense was not completely unnecessary. Specifically, the Court pays considerable credence to the letters drafted by Sureties' counsel, in which collateral is requested by the Sureties as a requirement for tendering the defense[.]” (2006 WL 1539341 (S.D.N.Y. June 5, 2006) (emphasis added))

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Representing the Surety and PrincipalRefusal of Principal to Furnish Collateral Can Justify Surety’s Refusal to Tender Cont.

▫ This case illustrates the importance of a Surety’s demand for collateral and the effect it has on the litigation.

▫ If Principal fails to deposit the collateral an irreconcilable conflict likely exists that prohibits an attorney from representing both Surety and Principal in a matter.

▫ Sureties and Principals can, and of course, often do, disagree on how a claim should be handled and/or settled.

▫ Surety should determine whether there are good faith defenses (including Surety defenses) to a claim when considering whether to tender a defense to the principal.

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Additional Cases Addressing Collateral Requests and Tender

▫United Riggers & Erectors, Inc. v. Marathon Steel Co., 725 F.2d 87, 90 (10th Cir. 1984)(recognizing that in circumstances where the Principal is unable to post collateral, pay subcontractors, and has exposed the Surety to a large performance bond loss, surety’s engagement of separate counsel to defend itself justified)

▫ James Constructors, Inc. v. Salt Lake City Corp., 888 P.2d 665, 671 (Utah Ct. App. 1994)(affirming trial court’s finding that Surety’s own defense was necessary because of the Principal’s “stubborn refusal to post collateral or to provide other adequate and acceptable security.”)

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THANK YOUBrandon G. Hummel

Main: 312.589.6018 Fax: 312.663.1028 Email: [email protected]

Education & Certifications

John Hopkins University (B.A.) Northwestern University School of Law (J.D.)

Bar Admissions

State of Illinois U.S. District Court for the Northern District of Illinois U.S. Court of Appeals for the 7th and 9th Circuits

Memberships & Volunteering

American Bar Association Tort & Insurance Practice Section Forum on Construction Law Chicago Bar Association Chicago Building Congress The Rotary Club, Glenview, IL Boy Scout Troop 32, Assistant Scoutmaster, Glenview, IL St. David's Episcopal Church, Glenview, IL

Awards

In 2015, Brandon was selected as an Emerging Lawyer in Construction and Surety Law by Leading Lawyers Magazine, a division of the Chicago Law Bulletin. Fewer than 2 percent of registered lawyers in Illinois under the age of 40 are so recognized by the Leading Lawyers division of Law Bulletin's Publishing Company.

Documents

PowerPoint Ethical Considerations for Defense Counsel, FINAL