Can a lawyer take stock or another ownership interest in a client company in exchange for, or alongside, legal fees?

Plain-English summary

The committee considered a practice common in technology and venture financing: a lawyer takes stock in a client, either as the fee or as an investment opportunity offered because of the legal services. The committee held that "a lawyer who acquires stock in her client corporation in lieu of or in addition to a cash fee for her services enters into a business transaction with a client, such that the requirements of Model Rule 1.8(a) must be satisfied." That meant the transaction had to be fair and reasonable to the client, fully disclosed in writing in terms the client could understand, with a reasonable opportunity to seek independent counsel and the client's written consent. The same requirements applied whether the lawyer took the interest directly or through a lawyer-controlled investment partnership, but not to ordinary open-market purchases.

On reasonableness, the committee tied Rule 1.8(a)'s "fair and reasonable" test to the Rule 1.5(a) fee factors and stressed timing: fairness is judged on what was reasonably ascertainable when the agreement was made, not on how the venture later turned out. The opinion observed that "the risk of failure and the stock's nonmarketability are important factors that the lawyer must consider, along with all other information bearing on value that is reasonably ascertainable at the time when the agreement is made," and that "the value of the stock received by the lawyer will, like a contingent fee permitted under Rule 1.5(c), depend upon the success of the undertaking." Where share value was not reasonably ascertainable, an agreed percentage of stock could be reasonable.

On ongoing conflicts, the committee concluded that "a lawyer's representation of a corporation in which she owns stock creates no inherent conflict of interest under Rule 1.7," because the lawyer's duty of loyalty runs to the corporation and management's role is to enhance stockholder value. But conflicts could arise, for example when rendering an opinion in a financing where the lawyer's stake could color objectivity; the lawyer then had to subordinate her economic interest and obtain consent if the representation might be materially limited. Where the stake was severe enough (the client stock being the lawyer's major asset), the opinion held she could be disqualified under Rule 1.7(b) even with consent. The committee added that "even though a lawyer owns stock in a corporation, she, of course, has no right to continue to represent it as a lawyer if the corporate client discharges her."

Currency note

This opinion was issued in 2000, before the American Bar Association's adoption of the 2002 (Ethics 2000) revisions to the Model Rules of Professional Conduct, which restructured Rule 1.8(a). Subsequent rule amendments or later opinions may have changed the analysis. Treat this page as historical context, not current guidance. Verify against current rules before relying on any specific rule, deadline, or requirement mentioned here.

Common questions

Q: Could a lawyer take equity in a start-up client instead of cash fees?

A: Yes, under this opinion, but the committee treated it as a business transaction with a client subject to Rule 1.8(a): fair and reasonable terms, full written disclosure, a reasonable chance to consult independent counsel, and the client's written consent.

Q: How did the opinion say the stock should be valued?

A: At the time of the transaction, on information then reasonably ascertainable, accounting for the risk of failure and nonmarketability. The committee compared the eventual value to a contingent fee, dependent on the venture's success, and accepted an agreed percentage where share value was not ascertainable.

Q: Did owning client stock create a conflict in representing the company?

A: Not inherently, the committee said, because the lawyer's loyalty runs to the corporation. But conflicts could arise in specific matters, requiring consent, and a sufficiently large stake could disqualify the lawyer under Rule 1.7(b) even with consent.

Background and rules framework

The opinion applied Rule 1.8(a) (business transactions with a client), Rule 1.5 (reasonable fees, including the Rule 1.5(c) contingent-fee comparison), Rule 1.7(b) (conflicts arising from the lawyer's own interests), Rule 1.8(j) (acquiring a proprietary interest in litigation, with the contingent-fee exception), and Rule 2.1 (independent professional judgment). Because the ABA interprets the Model Rules directly, there is no state-rule analogue; the opinion traced the predecessor Model Code provision DR 5-104(A).

Citations and references

Rules of Professional Conduct:

• MR 1.5 (reasonable fees; 1.5(c) contingent fees)
• MR 1.7(b) (conflicts from the lawyer's own interest)
• MR 1.8(a) (business transactions with a client); MR 1.8(j) (proprietary interest in litigation)
• MR 2.1 (independent professional judgment)

Other opinions cited:

• ABA Formal Op. 94-389 (1994): contingent fees judged on the effort expected at the outset
• ABA Formal Op. 98-410 (1998): lawyer serving as director of a client corporation
• D.C. Bar Op. 179 (1987): a small noncontrolling equity interest as a reasonable contingent fee

Cases:

• Passanate v. McWilliams, 53 Cal. App. 4th 1240 (Cal. Ct. App. 1997), stock recovery denied for failure to advise board to seek independent counsel
• Iowa Supreme Court Bd. v. Humphreys, 524 N.W.2d 396 (Iowa 1994), discipline for undisclosed stock-acquisition conflict

See also

• ABA Formal Op. 02-427: Security interest obtained to secure a fee
• ABA Formal Op. 00-416: Purchase of accounts receivable from a client

Source

• Landing page: ABA Formal Ethics Opinions index
• Original PDF: 00-418.pdf