A recent surge in law firm insolvencies has revealed unaddressed questions in New York Partnership Law. For example, despite a surplus of decisions on New York’s application of the Unfinished Business doctrine to contingent fee matters, the parallel issue of hourly matters had not reached New York courtrooms until recently. In separate cases decided months apart applying New York law, Dev. Specialists, Inc. v. Akin Gump Strauss Hauer & Feld LLP, 477 B.R. 318 (S.D.N.Y. 2012) (“Coudert”), and Geron v. Robinson & Cole LLP, 476 B.R. 732 (S.D.N.Y. 2012) (“Thelen”), two Southern District judges rendered contrary conclusions on whether the state’s highest court would hold that the partners of a dissolved law firm maintain a property interest, subject to accounting and contribution under the unfinished business doctrine, in the hourly fee matters that one or more partners take to a different law firm and litigate to judgment or settlement. Premised on the “No Compensation Rule,” the doctrine requires the former partners of a dissolved partnership, in the absence of an agreement to the contrary, to wind up partnership business and share the benefit of that business per the partners’ respective shares, without additional remuneration quantum meruit for post-dissolution work performed. Whether a property interest is constructively implied by law is subject to the proviso that partners could agree otherwise, but a change in the law to prohibit alternative agreement is possible given the implications of treating clients or client matters as assets held in bankruptcy. The statutes underlying the proliferation of the “No Compensation Rule” have since been abrogated in some jurisdictions that adopted the Revised Uniform Partnership Act, but the No Compensation Rule remains New York law by statute. An interlocutory appeal was initiated by the courts in both actions, one sua sponte, in clear recognition of the issues’ ripeness for determination by the Second Circuit or, preferably, the New York Court of Appeals.
The Common Law
To date, intermediate appellate courts in New York have only recognized a property interest in contingent fee matters taken to other law firms. Application of the unfinished business doctrine to law partnerships was even cabined in Kirsch v. Leventhal, 181 A.D.2d 222, 586 N.Y.S.2d 330 (1992), when an appellate court recognized a distinction in value between the matter as of the date of dissolution and as of resolution, to account for the difference in value attributable to the “post-dissolution efforts” of departing partners. Kirsch cited Partnership Law §73, under which a surviving partner of a dissolved firm that saw the departure of one of its contingent fee matters would only be entitled to “the value of his interest at the date of dissolution . . . with interest, or, at his option . . . in lieu of interest, the profits attributable to the use of his right in the property of the dissolved partnership.
However, in language reminiscent of Justice Cardozo’s “punctilio of an honor the most sensitive,” the Second Circuit in Santalucia v. Sebright Transp., Inc., 232 F.3d 293, 300 (2d Cir. 2000), held that New York’s Partnership Law §73 was not the source of the duty of accounting and contribution in a contingent fee case; instead, it indicated that duty was derived from “the fiduciary relationship of trust and confidence that partners have from time immemorial shared with one another.” It reversed the trial court and applied a remedy consistent with Kirsch, subject to determinations of fact on the change in value of the matter. Because Santalucia relied on partners’ fiduciary duties to justify accounting and contribution of contingent fee matters, Judge Colleen McMahon expressly stated she felt constrained to apply the holding to hourly fee matters and contingent fee matters alike in the absence of a meaningful legal distinction between the two. Whereas contingent fee matters depend on the result of the litigation, hourly fee matters are often paid concurrently as amounts become due for services rendered. Although the payment terms of hourly fee matters appear inherently distinguishable from those of contingent fee matters because the value of the property interest pays out over time in connection with the partner’s use of his right in the property, this difference did not suffice as grounds for distinction under Santalucia to Judge McMahon.
Judge William H. Pauley III disputed Judge McMahon’s statutory presumptions and asserted his own in a contrary opinion that accorded weight to New York policy and canons of construction. In New York, client autonomy is encouraged as a matter of policy from the bench and reinforced through professional conduct rules regulating the practice of law and the attorney-client relationship. Judge Pauley thus reasoned that finding a property interest in hourly fee matters contravened New York public policy favoring client protection and resulted in absurd consequences when the finding of a property interest was applied in collateral matters including bankruptcy litigation. The subsequent repeal of California’s no compensation rule and its relevance in the context of the Jewel v. Boxer, 156 Cal. App. 3d 171 (Ct. App. 1984), was raised as a factor, as it was the first of many jurisdictions to hold law partnership matters were subject to the rule. Although New York is compelled by statute to harmonize its decisions with those of other UPA jurisdictions, Judge Pauley conveniently had a related matter before him governed by California law that was also ripe for consideration given the repeal of the statutes underlying the Jewel doctrine. Although the reviewing court may adhere to the Kirsch and Santalucia in the present cases, UPA law may see significant changes in the California court’s re-evaluation of Jewel’s validity.
On appeal, the Second Circuit has the option of certifying its questions to the New York Court of Appeals. At the heart of several issues are questions of fiduciary duties owed among partners in law partnerships. The first threshold issue is the applicability of the No Compensation Rule to law partnerships, because the rule remains validly enacted law in New York. Both questions certified by the Coudert court would be resolved if the reviewing court determined Kirsch contravened the No Compensation Rule, because the second question presumes Kirsch is good law. Indeed, the intermediate appellate courts’ holdings allocating partnership assets in a manner disproportionate to partnership share are intrinsically at odds with the No Compensation Rule and the law of other UPA jurisdictions. The Second Circuit followed the dubious authority of the appellate courts in Santalucia, which constrained Judge McMahon because of a perceived lack of meaningful legal distinction between hourly fee and contingent fee matters. It is necessary for the Court of Appeals to weigh in on the issue in the interests of judicial efficiency and the expedient resolution of controversies.
I believe that the Court of Appeals will ultimately preserve legislative intent by adhering to the No Compensation Rule, leaving any change in the law to the legislature.
Jewel is offered as persuasive authority in support of application of the No Compensation Rule in Coudert, but it does not underpin the result. That the no compensation statute underlying Jewel was repealed has limited relevance to a New York court’s determination of the facts; a jurisdiction maintaining the original UPA could be seen, in its failure to enact the Revised UPA, as adopting its course by omission. But the court sitting in diversity seeks to replicate the holdings of the highest court of the state in which it sits, even if it conflicts with lower court decisions. The Thelen court may have been correct to disregard Jewel for its precedential value, but it is nonetheless relevant because it suggests an intent imputed to the New York legislature to remain a No Compensation Rule jurisdiction.
The second threshold question of whether partners’ fiduciary duties and obligations precede all other New York public policy concerns is also a question best suited for the Court of Appeals. The attorney-client relationship is hailed as particularly sacred in New York, protected by Rules of Professional Conduct that prohibit the division of a fee between lawyers not associated in the same firm, unless a number of exceptions apply. If the No Compensation Rule was read to require post-dissolution hourly fee matters to be assets subject to the unfinished business doctrine, client fees would be split across firms operating and dissolved. A conflict in the operation of law and code regulating conduct would result. If Judge Pauley is correct to understand New York law as requiring resolution of the conflict between statute and a rule of professional conduct by reading them consistently and in any manner that represents a “‘fair construction’ that yields ‘a reasonable field of operation for both statutes,’” he has at least provided a possible explanation for its result. However, he fails to adequately fulfill his mandate to determine what the state’s highest court would have done in the circumstances. His decision merely follows non-binding rationale of the lower courts and distinguishes the case from existing Second Circuit precedent on the basis of the applicable fee arrangement. Client interests may lead the way for a policy-based decision, but the Court of Appeals need not tip-toe around the facts as Judge Pauley does.
One final argument to entertain on appeal is whether recognizing a property interest in legal fee matters is consistent with the court’s treatment of assets in bankruptcy litigation. Judge Pauley’s opinion in Thelen asserts the recognition of a property interest in hourly fee matters would call for questionable treatment of a client’s right to freely change attorneys. For example, a client that releases a law firm from its obligations would violate the automatic bankruptcy stay. Citing the Supreme Court, Butner v. United States, 440 U.S. 48, 55 (1979), Judge Pauley indicates “there is no reason why property interests should be analyzed differently simply because an interested party is involved in a bankruptcy proceeding.” This is perhaps the most convincing argument both for and against finding a property interest. On the one hand, findings of fact in one forum must be applicable in bankruptcy proceedings; on the other, if a property interest is recognized in contingent fee matters, shouldn’t the same client protections apply?