Ethical Considerations Affecting Indemnity Provisions in Settlement Agreements

By Deborah A. Wolfe
Wolfe Legal Group, PC

Today’s article is intended to provide guidance to litigation counsel concerning the payment by a lawyer of costs or expenses incurred by or on behalf of a client that relates to the attorney’s representation of the client. Rule 1.8.5 (a) of the California Rules of Professional Conduct states: “A lawyer shall not directly or indirectly pay or agree to pay, guarantee, or represent that the lawyer or the lawyer’s law firm will pay the personal or business expenses of a prospective or existing client.” While subsection (b)(1) of the rule allows plaintiff’s counsel to agree to pay expenses the client owes to third parties out of the client’s portion of any settlement amount recovered in the matter, plaintiff’s counsel shall not agree to undertake or be personally responsible for any of the client’s expenses. 

Subsection (b) is also instructive to attorneys that represent plaintiffs in that it sets forth the very limited circumstances in which litigation expenses may be advanced by an attorney, or loans made to an existing client against a hoped-for recovery by the client from the litigation. In addition to paying a client’s liens or expenses from the recovery, as set forth in section (b)(1), section (b)(2) allows a lawyer to loan money to a client only after the retention of the lawyer by the client, and based upon a written agreement by the client to repay the debt, and after the lawyer has complied with Rules 1.7(b), 1.7(c) and 1.8.1 (which require written conflict of interest disclosures and the client’s written informed consent).

Subsection (b)(3) allows attorneys to advance the costs to prosecute or defend a litigated matter, and permits a recovery by the attorney of such costs to be contingent upon the outcome of the litigation, so that if there is no recovery by the client, s/he is not obligated to repay the attorney the costs advanced. “Costs” is also broadly defined in subsection (c) to include incidental costs of litigation, not only those costs that would be taxable or recoverable in court. Subsection (b)(4) also permits attorneys to pay costs and absorb the expenses incurred in representing an indigent client, without penalty or discipline.

With statutes in place that require compliance by both sides in litigation to be responsible for outstanding medical and other liens in personal injury cases, defense attorneys may seek to insert language into a proposed settlement agreement that requires a plaintiff’s attorney to indemnify defendants, defense counsel, and defendants’ insurers against actions brought by any third parties that seek to recover a debt owed to such third parties by a plaintiff. As illustrated above, Rule 1.8.5, which relates to the payment of personal or business expenses incurred by or for a client, prohibit the attorneys for either side from agreeing to or requiring such indemnification in a settlement agreement, and Rule 8.4 (a) considers it to be “misconduct” for a lawyer to either violate or to knowingly assist another lawyer or other person to violate any of the Rules of Professional Conduct.

Finally, an indemnity clause in a settlement agreement that requires a lawyer to be responsible to a third party for the debts of a client would constitute a conflict of interest between the lawyer and client because it would interfere with and compromise a lawyer’s exercise of independent professional judgment. If a client were to insist on the lawyer’s agreement to such an indemnity clause, the lawyer would be required to withdraw from the representation, pursuant to Rule 1.16(a)(2), which mandates that an attorney withdraw from any representation that would result in violation of the Rules.

The bottom line is that whenever considering financial transactions of any kind with a client or a party to litigation, attorneys must be ever mindful of their duties as officers of the Court pursuant to the Rules of Professional Conduct, as well as the appropriate boundaries between counsel and their clients. Generally speaking, “when in doubt—DON’T”.