Bar News - September 20, 2017
COMMENTARY: Escrow Agreements and Divorce: An Uneasy Marriage
By: Lawrence S. Forsley
Family law matters often involve high levels of conflict, which can lead to divorce attorneys becoming targets for professional conduct complaints. With divorce rates on the rise, attorneys who handle family law cases have likewise found themselves increasingly becoming defendants in legal malpractice lawsuits.
According to a study by the American Bar Association, while malpractice claims against real estate practitioners fell by 5.45 percent between 2012 and 2015, claims against family law attorneys trended in the other direction, rising by 1.37 percent during the same period.
Common areas of complaints against family law attorneys include those based on conflicts of interest, communication failures, client expectation management, and the misuse of client funds. Another area that has received less attention but has a high potential to cause trouble for attorneys is the inherent conflict of interest that arises when an attorney representing one of the parties also acts as escrow agent in connection with the underlying divorce litigation.
The NH Professional Conduct Committee (PCC) has addressed issues relating to attorney escrow accounts in the context of real estate transactions. In Bruzga’s Case, for example, the attorney representing the seller also acted as escrow agent by depositing $20,000 into his IOLTA trust account. After a dispute arose between the parties, the attorney withdrew the funds from his IOLTA account and deposited them into a separate “escrow account” without the consent of the parties. After receiving a request from the seller to release the escrowed funds, the attorney forwarded only a portion of the $20,000 deposit to his client, keeping the balance in his account as payment for his fees.
Although a civil case involving the escrowed funds was eventually settled by the parties, the PCC found that the attorney failed to “safeguard client property when he transferred the deposit funds to an escrow account in his name when he had no authority to do so.” The committee also found that the attorney was aware of the underlying dispute between the seller and buyer at the time he transferred the funds into the “escrow account” without their consent and also “claimed a personal interest in the remaining funds” by claiming those funds as earned legal fees. The attorney was found to have violated Rules 1.15(a)(1); 1.15(c); and 8.4(a) and was suspended from law practice for six months subject to a stay of one year upon certain conditions.
Real estate and transactional attorneys encounter such escrow arrangements and the related ethical responsibilities more frequently than family law practitioners. As a result, they may have a better understanding of the potential ethical implications of acting as both escrow agent and attorney.
Family Division Courts in New Hampshire have, on occasion, issued orders requiring one party’s attorney to hold marital assets “in escrow” in connection with divorce cases, such as in Douglas’ Case (2002). More often than not, those decisions provide little more guidance to the parties than mandating that the property at issue be held in “escrow” by one of the attorneys pending further orders or agreement of the parties.
Even in the absence of a court order, it is not uncommon for a family law attorney to voluntarily assume the role of “escrow agent” on behalf of a client, prior to or during the course of contested divorce litigation. For example, the parties to a divorce action may agree to sell jointly held marital assets but disagree on the distribution of the sale proceeds. In those cases, the attorney representing one of the spouses may volunteer to “escrow” the sale proceeds.
This somewhat casual attitude towards escrow arrangements in divorce cases isn’t limited to newly admitted attorneys. In a recent family division case involving significant financial assets, a divorcing couple received a substantial pay-off on a mortgage that secured the financing of a prior sale of jointly owned real estate. Unable to agree on the disposition of the sale proceeds, the attorney representing one spouse offered to hold the funds in “escrow” subject to a further agreement or court order. In the absence of what either party considered to be a viable alternative to this arrangement, the parties and their experienced legal counsel simply agreed to deposit the funds into the attorney’s “escrow account.”
Neither attorney considered the potential conflict of interest issues raised by this arrangement. Neither attorney insisted on the preparation and execution of a written escrow agreement that would have helped to more clearly define and describe the role of the attorney acting as escrow agent.
Understanding the Competing Interests
It is important to understand and address the competing ethical interests involved in these arrangements, as well as the potential consequences to clients.
An attorney’s first duty is generally to represent the interests of his client. However, when an attorney also acts as escrow agent, he accepts a duty to a third party. In these situations, all parties need to understand that there is a potential for a conflict to arise between the attorney’s obligations to represent his client and those that arise in his role as escrow agent. For example, the client’s interests may require the attorney to pursue a particular course of action with regard to the escrowed funds, while such actions may be contrary to the fiduciary obligations that arise by virtue of the attorney’s role as escrow agent.
Rule 1.15 of the New Hampshire Rules of Professional Conduct (Safekeeping Property) provides the framework for safely addressing this potential for competing interests. On the one hand, Rule 1.15(e) provides that:
“Upon receiving funds or other property in which a client or third person has an interest, a lawyer shall promptly notify the client or third person. Except as stated in this rule or otherwise permitted by law or by agreement with the client, a lawyer shall promptly deliver to the client or third person any funds or other property that the client or third person is entitled to receive and upon request by the client or third person, shall promptly render a full accounting regarding such property.”
This provision requires an attorney to “deliver to the client… any funds or other property that the client… is entitled to receive.” But what are the attorney’s obligations in the event of a dispute with regard to the escrowed funds? Family law attorneys know that disagreements between divorcing spouses and even their attorneys are not uncommon, and this situation should be expected. Rule 1.15(f), provides the necessary guidance:
“When in the course of representation a lawyer is in possession of property in which two or more persons (one of whom may be the lawyer) claim interests, the property shall be kept separate by the lawyer until the dispute is resolved. The lawyer shall promptly distribute all portions of the property as to which the interests are not in dispute.”
Because of the potential for a conflict of interest to arise by virtue of these conflicting roles, attorneys should use extreme caution if asked to serve as escrow agent in connection with a case in which he also represents one of the parties. Serving as both attorney and escrow agent may result in a situation where the attorney’s representation of his client would be compromised by the attorney’s responsibilities as escrow agent.
Get It in Writing
Are there circumstances in which a lawyer can act as escrow agent for parties engaged in divorce litigation while at the same time representing one of them? The answer may be yes, but there are serious risks of ethical impropriety.
Assuming the attorney “reasonably believes that [he] will be able to provide competent and diligent representation” to his client, the client must also provide written “informed consent,” according to Rule 1.7(b) in the NH Rules of Professional Conduct. This requires the attorney to provide full disclosure, in writing, to all parties informing them of the potential consequences of the attorney’s dual role as escrow agent and attorney. This disclosure also requires the attorney to provide the client with sufficient information regarding the “material risks of and reasonably available alternatives” to the proposed escrow arrangement. Finally, this disclosure should also “include advising the client as to the potential inability in certain situations to continue to serve as counsel to that client.”
In cases in which the attorney believes that he can ethically serve as both escrow agent and attorney for one of the parties and has also obtained the necessary written consent, it is highly recommended that there be a written escrow agreement that specifically sets forth the obligations of the parties, the attorneys and the escrow agent. In those cases in which the court orders that certain marital assets be held “in escrow” by one of the attorneys, a request should be made by counsel that the court’s order be subject to a consent agreement signed by all parties, as well as the execution of a written escrow agreement.
Such agreements should include a clearly defined process (interpleader, for example) by which the parties will be able to resolve disputes regarding the escrowed funds. Escrow agreements should also clearly state that the escrow agent has no discretion with regard to the manner in which the escrowed funds are disbursed. Finally, the agreement should provide that the attorney may continue to represent his client in the event of a dispute.
Without careful consideration of the ethical implications involved, escrow arrangements in divorce cases present a serious risk to the attorneys involved. For that reason, it is advisable to consider alternative arrangements prior to agreeing to act as escrow agent when the attorney’s client has an interest in the escrowed funds.
Lawrence Forsley is an attorney based in Hampton, New Hampshire. After serving as a law clerk and senior law clerk to the New Hampshire Superior Court in 1990-1992, Forsley has been in private practice with a focus on family law matters.