Arbitration Clauses in Fee Agreements
Arbitration clauses in fee agreements have been used by many Texas lawyers. This article will discuss the state of the law regarding the validity of such agreements, and will note some of the practical issues that should be considered before including such agreements in contracts with clients.
The Law
Texas law permits use of arbitration clauses in client fee agreements. The Texas Supreme Court first compelled arbitration of a legal malpractice claim under an arbitration clause in a fee agreement in Porter Clements v. Stone, 935 S.W. 2d 217 (Tex. 1996). A significant number of subsequent cases have affirmed the legitimacy of arbitration clauses in client contracts. There is a split of authority in the Texas courts of appeal over whether legal malpractice can be exempted from arbitration as a “personal injury” claim. In Taylor v. Wilson, 180 S. W. 3rd 627 (Tex. App.-Houston (14th Dist) 2005, writ denied), the court found that a legal malpractice claim with mental anguish allegations is not a personal injury. Most other appellate courts have reached the same conclusion as the Taylor court. In the exception, the Corpus Christi court of appeals determined that a claim of legal malpractice in a medical malpractice case did qualify as a personal injury and that arbitration could not be compelled. In re Godt, 28 S.W.3d 732, 738-39 (Tex.App.-Corpus Christi 2000, no pet.) Nationally, courts and ethical opinions have on occasion invalidated arbitration clauses for a number of reasons.
A recent Texas Supreme Court opinion affirmed the validity of an arbitration clause in another legal malpractice case. In Royston v. Lopez, Nos. 13-1026 and 14-0109 (2015), the court analyzed an argument that an arbitration clause was “procedurally unconscionable” for several reasons. The court found that objections to an arbitration clause based on overall unenforceability of a contract are not proper. The court applied this rule to two alleged procedurally unconscionable clauses providing that the lawyer could withdraw from the contract at any time and that the client would be responsible for expenses regardless of outcome. The court also rejected a contention that arbitration was procedurally unconscionable because the law firm could litigate its potential claims against the client, but the client was compelled to arbitrate his claims. The court, citing previous precedent, indicated that partial arbitration in a contract does not rise to the level of procedural unconscionability.
Perhaps more significant than the unconscionability arguments based on general arbitration law was the client’s contention that the clause violated public policy. The client in the Royston case alleged that the lawyer failed to explain the advantages and disadvantages of arbitration. The client argued that the ethics rules and Texas Ethics Opinion 586 require lawyers to explain the effects of arbitration clauses to clients in accordance with Rule 1.03(b), which states that
A lawyer shall explain a matter to the extent reasonably necessary to permit the client to make informed decisions regarding the representation.
In particular, Opinion 586 suggests that a lawyer should explain cost and time savings, including possible reduction of discovery and relaxation of rules of evidence, as well as the lack of jury trial and appellate rights, in arbitration. The court also struck down an argument that the arbitration clause was arbitrary, noting that the firm could not back out of the arbitration provision unilaterally without notice.
The court noted that the ethics rules, by their own terms, do not set standards of civil liability. In the case of arbitration in client agreements, the court noted a legislatively enacted public policy encouraging arbitration as a means of dispute resolution. The court suggested that the specific nature of the preference for arbitration by statute was in contrast with a debateable, derived possible public policy with regard to the ethics rules. Justice Guzman suggested that the rule making process could, and perhaps should, address whether lawyers should affirmatively discuss arbitration and whether sophistication of clients should be a factor in judging appropriateness of arbitration. It should be noted that the court specifically reserved any judgment regarding the lawyer’s ethical obligations under the disciplinary rules in this matter.
In ABA Formal Ethics Opinion 02-425, the ABA approved of arbitration agreements with regard to malpractice claims, but only if certain disclosures are made to the client. The ABA opinion requires the lawyer to advise the client that the arbitration clause waives right to trial by jury, appeal, and broad discovery. Several state ethics opinions have placed additional restrictions use of arbitration agreements. In Alabama, for example, an arbitration clause including malpractice claims is unethical unless the client is independently represented when signing it. Alabama Ethics Opinion 2002-4 (November 2002). Since it is not unusual for Texas attorneys to work in other states, it is prudent to consider the analysis of ethics opinions in other jurisdictions in drafting arbitration clauses.
It should be noted that arbitration clauses confined to fee issues are generally treated more favorably than broader clauses including malpractice claims by courts nationwide. Many bar associations have established fee arbitration procedures on a voluntary basis. Comment 19 to Rule 1.04 of the Texas Disciplinary Rules of Professional Conduct states that
If a procedure has been established for resolution of fee disputes, such as an arbitration or mediation procedure established by a bar association, the lawyer should conscientiously consider submitting to it.
Keep in mind that malpractice claims are mandatory counterclaims in a fee dispute. Utilizing voluntary bar fee dispute facilities may avoid such counterclaims.
Practical Concerns
While arbitration has been hailed as a method for reducing the costs of litigation, in practice arbitration results are sometimes perceived as unfavorable. From a cost standpoint, the cost of the arbitrator or arbitrators can be significant. Many arbitration clauses call for a panel of three arbitrators-two appointed by the interested parties, and a third neutral arbitrator picked by the non-neutrals. Hourly fees for arbitration, which are not incurred in a court trial, can be significant. The cost of discovery often is not significantly reduced by arbitration, particularly if there are complicated disputes requiring many rulings from the panel.
Another potential problem with arbitration is the lack of appellate remedies. While this may reduce costs, when the decision is very unfavorable to a party, there is little recourse. At TLIE, we have noted in some cases what seems to be a “split the baby” effect. Some arbitrators seem less willing to grant the equivalent of summary judgments that might be granted in a judicial setting. Perhaps this is because of the near impossibility of appellate review.
One recent Texas arbitration matter has raised concerns about the use of arbitration clauses in fee agreements. In this matter, lawyers had disputes with clients in mass tort litigation over expenses. The clients invoked the arbitration clause in fee contracts to essentially create a class action. Many observers of this particular matter have argued that class action status would not have been granted in a judicial setting based on recent Texas court decisions. The arbitrators in this situation required the lawyers to return certain amount collected as expenses, and to return a portion of fees based on breach of fiduciary duty.
Should you use arbitration clauses?
Arbitration clauses may or may not be right for your practice. We suggest the following steps in deciding whether and how to use arbitration clauses.
- On a nationwide basis, arbitration clauses appear to be more likely to be upheld when dealing with sophisticated clients.
- Consider following ABA Opinion 02-425 if you choose to use an arbitration clause that includes malpractice claims, including making the arbitration clause conspicuous an warning about loss of right to trial by jury, broad discovery, and appeal
- Be specific if you intend an arbitration clause to include malpractice claims. Some courts have found failure to specify malpractice in the list of matters that can be arbitrated as a reason to deny arbitration.
- Consider including a provision advising the potential client of their right to seek counsel to review the arbitration clause.
- Check the law of states where you may ultimately try to enforce the clause. Federal arbitration law does not always apply to arbitration agreements in attorney fee agreements. Note that the Texas Supreme Court cases cited applied the Texas Arbitration Act applied, not the federal act.
- Consider the procedure to be used carefully. Don’t create a clause which might entail higher costs than you expected.
- Don’t try to make an arbitration agreement after you begin representing a client, or after a claim has been suggested, unless the client is represented by other counsel. In that case, Rule 1.08(a) may apply to the change in your pre-representation agreement.
- Don’t assume that you are better off in arbitration just because you will be in a defensive situation. While judges and juries are sometimes unkind to lawyers, there are many checks on their powers. Make sure you can live with the lack of appellate and judicial checks inherent in arbitration.
