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How to deal with third-party lienholders in property damage cases

Assistant Bar Ethics Counsel Columns

EthicsWith hurricane season upon us again, many lawyers may soon find themselves representing homeowners in property damage claims against insurance companies. If the property is subject to a mortgage, often the mortgage will contain covenants purporting to create claims against the casualty insurance proceeds, and these lawyers will find themselves dealing with a third-party lienholder such as a mortgage servicing company. In the event a recovery is obtained for the client, lawyers can encounter unexpected ethical pitfalls in dealing with the third-party lienholders.

Lawyers usually take property damage matters on contingent and statutory fee agreements. On settlement, an insurer who is aware of a third-party lienholder will sometimes issue one check in the names of all the interested parties — the insured, the insured’s lawyer, and the lienholder — and let the parties sort out their interests among themselves. In attempting to negotiate the check, what happens when the lienholder tries to put demands on the lawyer? What if the lienholder refuses to endorse and return the check and instead asks the lawyer to endorse the check over to the lienholder and seek attorneys’ fees directly from the homeowner instead of from the recovery? Lawyers have encountered these issues when dealing with mortgage servicing companies that have pointed to provisions in the mortgage that they allege allows them to hold the funds for home repair in escrow.

Complying with the lienholder’s demands raises some ethical concerns. Subsection (f)(5) of Rule 4-1.5, Rules Regulating The Florida Bar, which governs contingent fees, states in relevant part:

In the event there is a recovery, upon the conclusion of the representation, the lawyer shall prepare a closing statement reflecting an itemization of all costs and expenses, together with the amount of fee received by each participating lawyer or law firm.  A copy of the closing statement shall be executed by all participating lawyers, as well as the client, and each shall receive a copy.  Each participating lawyer shall retain a copy of the written fee contract and closing statement for 6 years after execution of the closing statement.  Any contingent fee contract and closing statement shall be available for inspection at reasonable times by the client, by any other person upon judicial order, or by the appropriate disciplinary agency.

Based on this provision, a lawyer may not disburse funds from a contingent fee case to anyone, including the lawyer, without a closing statement signed by the client. Absent a signed closing statement, the lawyer may not disburse funds without obtaining a court order. See also, Afrazeh v. Miami Elevator Company of America, 769 So.2d 399 (Fla. 3d DCA 2000). Giving into the lienholder’s demands and endorsing the check to the lienholder would be in effect disbursing funds, so the lawyer would not be allowed to do so without a closing statement. Therefore, unless the client agrees to the disbursement and signs a closing statement, the lawyer should seek guidance from the court regarding the settlement check.

What about the lienholder’s demands that a lawyer attempt to seek fees directly from the client rather than from the recovery? It is probably not in the client’s best interests for the lawyer to forego the contingent fee and instead seek a fee directly from the client. Beyond the ethical concerns, the lawyer should consider whether that would be a breach of the fee agreement. The lawyer may instead, with the client’s consent and the client’s execution of a closing statement, ask the insurer to issue a check to the lawyer and a separate check to the client and lienholder. If the client agrees to sign a closing statement, the lawyer may disburse the legal fees. Of course, this issue would be more complicated if there were multiple lienholders.

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