When a note sets attorney's fees at a percentage of the debt, can the lawyer pay the client lender the part of the collected fee that exceeds the lawyer's actual hourly charges?

Plain-English summary

A lender retained a lawyer (also the deed-of-trust trustee) to collect on a defaulted note that set attorney's fees at 25% of the principal balance plus other collection costs. The lender had paid the lawyer's interim bills at his hourly rate. At foreclosure or a pre-foreclosure sale, the lawyer expected to collect the full 25% fee and the lender to ask him to remit everything collected, including the portion of the fee exceeding what was needed to reimburse the lender's interim payments. The committee was asked whether the lawyer may pay the lender that excess.

The controlling rule is Rule 5.4(a), which bars a lawyer from sharing legal fees with a nonlawyer subject to enumerated exceptions, none applicable. The committee acknowledges older opinions reading the rule literally to forbid distributing such fees to clients (LEOs 534, 835, 1025), but explains that its more recent opinions look to the rule's purpose rather than its literal text. Comment 1 states the rule's purpose is to protect the lawyer's independent professional judgment from nonlawyer interference. In LEO 1563 (court-awarded civil-rights fees), LEO 1598 (a gross-receipts tax on fees), LEO 1744 (court-awarded fees paid to a nonprofit), and LEO 1751 (a bar referral service funded by a fee percentage), the committee declined to find improper fee-splitting where that independence concern was not triggered.

Applying the same purpose-based analysis, the committee treats the 25% term as a contractual measure providing commercial certainty, not a consensual fee-split. A lawyer charging only a reasonable fee may in good faith remit the excess to the client; setting the appropriate fee with the client is governed by the parties' agreement and by Rule 1.5's reasonableness requirement, and the lender's ordinary client influence (within Rule 1.2's scope of representation) is not the nonlawyer interference Rule 5.4 guards against. The committee opines the distribution does not violate Rule 5.4(a) and overrules LEOs 534, 835, and 1025 to the extent inconsistent.

Currency note

This opinion was issued in 2003. Virginia's fee rules and later opinions may have refined the analysis. Verify against current rules before relying on any specific requirement mentioned here.

In practice

The opinion holds that paying a client lender the surplus of a percentage fee award over the lawyer's actual charges is permissible: Rule 5.4(a) targets arrangements that threaten a lawyer's independent judgment, and returning surplus to the client who already directs the collection matter is not such an arrangement. The lawyer must still ensure the fee he ultimately keeps is reasonable under Rule 1.5, and the adjustment is a matter of agreement between lawyer and client.

Common questions

Q: Can a lawyer give the client lender the part of a percentage fee that exceeds the lawyer's hourly charges?

A: Yes. The committee concludes this is not the fee-sharing with a nonlawyer that Rule 5.4(a) prohibits, because the rule's purpose, protecting the lawyer's independent judgment, is not implicated.

Q: Doesn't Rule 5.4(a) literally bar sharing legal fees with a nonlawyer?

A: The committee reads the rule by its purpose, not its literal words, citing LEOs 1563, 1598, 1744, and 1751; where there is no risk of nonlawyer interference with the lawyer's judgment, the distribution does not violate the rule.

Q: Are there limits on returning the excess to the client?

A: Yes. The fee the lawyer actually keeps must be reasonable under Rule 1.5, and the adjustment of the surplus is a matter for agreement between the lawyer and the client.

Background and rules framework

The opinion interprets Rule 5.4(a) (Model Rule 5.4; sharing legal fees with a nonlawyer, and its predecessor DR 3-102(A)) in light of Comment 1's statement that the rule protects the lawyer's independent judgment, and Rule 1.5 (Model Rule 1.5; reasonable fees). It references Rule 1.2 on the scope of representation.

Citations and references

Rules of Professional Conduct:

• Model Rule 5.4 / Virginia Rule 5.4(a) and Comment 1 (sharing fees with a nonlawyer; predecessor DR 3-102(A))
• Model Rule 1.5 / Virginia Rule 1.5 (reasonable fees)
• Model Rule 1.2 / Virginia Rule 1.2 (scope of representation)

Other opinions cited:

• Virginia LEOs 534, 835, 1025 (overruled to the extent inconsistent); LEOs 1563, 1598, 1744, 1751 (purpose-based reading of the fee-sharing bar)

See also

• VA LEO 1797: Trust-Account Bank Freeze and Bouncing Checks
• ABA Formal Op. 464: Fee Division With a Lawyer Who Shares Fees With Nonlawyers
• VA LEO 1792: Training Nonlawyers and the Unauthorized Practice of Law

Source

• Landing page: https://vsb.org/Site/about/rules-regulations/leo-opinions.aspx
• Original PDF: https://www.vsb.org/common/Uploaded%20files/LEOs/1783.pdf

Original opinion text

Reproduced from the official source for research purposes. The linked source is authoritative.

Committee Opinion
December 22, 2003
LEGAL ETHICS OPINION 1783

IN CONTEXT OF (A) FORECLOSURE
SALE OR (B) A COMMERCIAL
CLOSING, MAY ATTORNEY DISBURSE
TO LENDER COLLECTED ATTORNEYS
FEES
IN
EXCESS
OF
THOSE
NECESSARY TO REIMBURSE LENDER
FOR PAYMENT MADE TO LENDER AT
ATTORNEY’S HOURLY RATE?

You have presented a hypothetical situation in which Lender retained an attorney to
assist it with the collection of a promissory note from Borrower to Lender, secured by a
deed of trust. The note provides that, upon default, the Borrower shall pay attorney’s fees
equal to 25% of the principal balance due on the Note as well as all of Lender’s other
collection expenses, whether or not there is a lawsuit and including without limitation
legal expenses for bankruptcy proceedings. Borrower has defaulted. On behalf of
Lender, the attorney (also the trustee under the deed of trust) is about to initiate
foreclosure proceedings. Borrower is attempting to sell the property subject to the deed
of trust prior to foreclosure, for an amount in excess of that owed under the note.
At either the foreclosure or the commercial sale, the attorney expects to collect all
amounts owed under the note, including the 25% attorney’s fees provided for under the
note. The attorney expects that Lender, who has paid the attorney’s periodic interim
bills, based on the attorney’s hourly rate, will then request that the attorney pay Lender
all amounts collected for principal, interest, and attorney’s fees – including the portion of
the attorney’s fees that exceeds the amount necessary to reimburse Lender for the interim
payments it has made to the attorney. You have asked the committee to opine whether
under the facts of this inquiry this attorney may disburse to Lender that portion of the
collected attorney’s fees in excess of the amount necessary to reimburse Lender for the
actual cost of the legal services.
The appropriate and controlling disciplinary rule relative to your inquiry is Rule 5.4(a),
which directs that “a lawyer or law firm shall not share legal fees with a nonlawyer,”
unless one of three exceptions apply 1, none of which are at all applicable in the present
1

Those exceptions are as follows:
(1)
an agreement by a lawyer with the lawyer’s firm, partner, or associate may provide for
the payment of money, over a reasonable period of time after the lawyer’s death, to the
lawyer’s estate or to one or more specified persons;
(2)
a lawyer who undertakes to complete unfinished legal business of a deceased, disabled,
or disappeared lawyer may pay to the estate or other representative of that lawyer that
portion of the total compensation that fairly represents the services rendered by the
deceased, disabled or disappeared lawyer;
(3)
a lawyer or law firm may include nonlawyer employees in a compensation or retirement
plan, even though the plan is based in whole or in part on a profit-sharing arrangement;
and
(4)
a lawyer may accept discounted payment of his fee from a credit card company on behalf
of a client. (This exception is a recent addition to the Rules, to be effective January 1,
2004.)

Committee Opinion
December 22, 2003
situation. While many of the prior Legal Ethics Opinions (LEOs) of this committee that
address fee-splitting with a nonattorney involve prior DR 3-102(A), those opinions
remain pertinent, as that rule is substantially similar to the present Rule 5.4(a). In
reviewing prior LEOs, the committtee notes that there are several early opinions
suggestive that an attorney may not distribute fees such as those in this hypothetical to
clients. See LEO 534 (attorney may only distribute fees awarded to clients in collecting
delinquent taxes where such fees do not exceed the actual cost of the legal services), LEO
835 (attorney doing collections work on installment contracts for his employer may not
provide to employer any collected fees in excess of actual cost of legal services), and
LEO 1025 (attorney collecting on notes that include percentage attorneys fees award
must not distribute to client greater than actual cost of attorney’s services).
Despite the conclusions drawn in those prior opinions, in more recent opinions
substantial analysis suggests that application of Rule 5.4(a) must move beyond a literal
application of language of the provision to include also consideration of the foundational
purpose for that provision. For example, in LEO 1563, the committee reviewed
attorney’s fees awards in litigation under federal civil rights legislation. The opinion
concludes that a court award of attorney fees in federal civil rights legislation does not
constitute legal fees for purposes of this prohibition and, therefore, their distribution to
the nonattorney client is not prohibited. Similarly, in LEO 1598, the committee reviewed
a local license fee that was calculated as a percentage of the attorney’s fees. In
concluding that the receipt by the locality of a portion of attorney’s fees did not involve
an improper fee-split with a nonlawyer, the committee noted that:
The thrust of the proscription in DR 3-102(A) is that a lawyer and a nonlawyer
enter into a consensual arrangement whereby fees received from one or more
clients are divided between them. Payment of a gross receipts tax, in common
understanding, is not a consensual arrangement.
Also, in LEO 1744, the committee reviewed an attorney’s plan to distribute awarded
attorneys fees to the non-profit corporation that brings legal actions on behalf of clients.
The opinion notes that:
The primary purpose of Rule 5.4 is to prohibit nonlawyer interference with a
lawyer’s professional judgment and ensure lawyer independence.
In that opinion, the committee found reassurance that as a court awards the fees, there is
no risk of improper interference; accordingly, the opinion finds that the attorneys
providing the fee awards to the nonprofit organization does not violate Rule 5.4(a)’s
prohibition against fee-splitting with a nonattorney. Most recently, in LEO 1751, the
committee reviewed a referral service run by a local bar organization that planned to fund
the service by charging participating attorneys a percentage of their fees. That opinion
identifies that the purpose of Rule 5.4(a), as stated in Comment 1 to that rule, is “to
protect the lawyer’s independent judgment.” The opinion continues:

Committee Opinion
December 22, 2003
The concern in Comment One to Rule 5.4(a) is not triggered by the referral
service in this inquiry; nothing about a lawyer referral program of the local bar
association suggests that the participating attorney’s independent judgment would
be in jeopardy.
The opinion permits the referral service payment plan despite that it involves attorneys
providing a portion of their legal fees to the service as, regardless of the literal language
of the Rule 5.4(a), the spirit or purpose of the rule was not violated.
This committee repeatedly looked to the purpose of the prohibition against Rule 5.4(a)
to avoid overly literal, overly broad applications of that provision. The committee opines
that the same analysis is appropriate for the scenario raised in the present hypothetical.
The present scenario involves a note calling for attorneys fees in excess of the actual fee
calculated by attorney. The calculation method, i.e., 25% of any unpaid portion of the
principal for which collections activities were required, is in the nature of an agreed upon
contract term. Such a provision seeks to provide commercial certainty for all parties. For
efficiency and ease, Lender and Borrower choose not to require an itemization from the
Lender of the actual cost of legal services necessary for collection. If the attorney, in an
effort to charge only a reasonable fee, determines that his actual fee is less than the
agreed upon amount, that attorney may in good faith remit the excess to his client. Such
adjustment of funds related to an attorney’s fee are a matter to be determined by
agreement between the attorney and the client, so long as the resulting fee actually
received is reasonable, as required under Rule 1.5. The setting of an appropriate fee for
particular work by an attorney with his client is not the sort of improper sharing of
attorney’s fees with a nonattorney addressed in Rule 5.4. The general purpose of the
provision, to protect the independent judgment of an attorney from improper nonlawyer
interference, is not at risk here. Lender already has the primary interest in the collections
matter and already has the usual amount of influence that any client has with an attorney;
such interest and influence are in the very nature of the attorney/client relationship. The
parameters of that influence are governed by Rule 1.2, regarding the scope of the
representation. Allowing this attorney to provide the client with the “extra” portion of
this agreed upon attorney’s fee provision seems an appropriate method for the attorney to
ensure he receive nothing more than a reasonable fee for his work.
This committee opines that for this attorney to distribute to his client the excess of the
fee paid by the Borrower over the actual cost of those services does not compromise the
purpose of Rule 5.4(a); therefore, this committee opines that the contemplated fee
distribution does not violate the rule.
To that extent that prior Legal Ethics Opinions 534, 835, and 1025 are inconsistent with
this conclusion, those opinions are hereby overruled.
This opinion is advisory only, based only on the facts you presented and not binding on
any court or tribunal.