Vol. 78, No. 5, May 2005

Clarifying the Trust Account Rule

by Dean R. Dietrich & Mary Hoeft Smith

Several questions have been asked about the obligation of a lawyer to distribute to another person or entity funds or property held in trust for a client. This circumstance most often arises when a lawyer receives settlement proceeds on behalf of a client, and another party or entity claims the right to receive a portion of those proceeds. Changes have been made to SCR 20:1.15, the Trust Account Rule, which provide clarification and guidance to Wisconsin lawyers when faced with this situation.

Receiving and Disbursing Funds

SCR 20:1.15 has been modified in a number of ways, including the creation of SCR 20:1.15(d), which reads as follows:

(d) Prompt notice and delivery of property

(1) Notice and disbursement. Upon receiving funds or other property in which a client has an interest, or in which the lawyer has received notice that a 3rd party has an interest identified by a lien, court order, judgment or contract, the lawyer shall promptly notify the client or 3rd party in writing. Except as stated in this rule or otherwise permitted by law or by agreement with the client, the lawyer shall promptly deliver to the client or 3rd party any funds or other property that the client or 3rd party is entitled to receive.

(2) Accounting. Upon final distribution of any trust property or upon request by the client or a 3rd party having an ownership interest in the property, the lawyer shall promptly render a full written accounting regarding such property.

(3) Disputes regarding trust property. When the lawyer and another person or the client and another person claim ownership interest in trust property identified by a lien, court order, judgment or contract, the lawyer shall hold that property in trust until there is an accounting and severance of their interests. If a dispute arises regarding the division of the property, the lawyer shall hold the disputed portion in trust until the dispute is resolved. Disputes between the lawyer and a client are subject to the provisions of sub. (g)(2).

Identifying Third-party Interest

A significant change from the old language is the reference to how an interest in the funds or other property is identified. Under the new rule, several conditions must be met before a lawyer is obligated to honor the claim of a third party to a portion of the funds or other property held in trust by the lawyer. The following must occur:

• The interest must be identified by a lien, court order, judgment, or contract.
• The lawyer must receive notice that the third party has such an interest identified by one of the above circumstances.

Often, an issue arises as to whether a third party has a proper interest in the property held in trust by the lawyer. As stated by the California Court of Appeals in Farmers Insurance Exch. v. Zerin¹:

"However, as a general matter, an attorney receiving payment of a judgment or settlement on behalf of his or her client has no obligation to satisfy the client's debts out of that fund. The attorney is not obligated to pay, for example, the client's dry cleaning bill or credit card debts even if on notice thereof. It is only when the creditor has some property interest in the fund or a trust relationship exists that such an obligation might arise."

Guidelines for Wisconsin Lawyers

The following are guidelines to Wisconsin lawyers in considering whether a third party has a valid interest in funds or other property held by the lawyer in trust on behalf of a client.

• The obligation of the lawyer to notify the third party on receiving funds or other property does not apply to instances or claims for which the lawyer does not receive notice that a third party has an interest in the property held in trust. In other words, the lawyer does not have to speculate as to whether another person has an interest in the property held in trust. The obligation rests with the third party to give actual notice to the lawyer that the third party has an interest in the property.
• If the lawyer receives notice that a third party has an interest in the trust property, the lawyer is obligated to keep the property or amount of funds necessary to satisfy the claimed interest in trust until a decision is made by the parties or a third party (that is, a court) as to whether the interest is properly identified by a lien, court order, judgment, or contract.
• If there is no dispute that a third party does not have an interest in the property held in trust, the lawyer must distribute the funds to the client under the obligations of the lawyer to the client.
• If the lawyer receives notice of a lien held by the third party, the lawyer is obligated to retain funds or property sufficient to cover the amount of the lien. A lien in this circumstance is a statutory lien authorized by the Wisconsin Statutes.
• If the lawyer receives notice that a third party has an interest in property pursuant to or as a result of a court order that relates to the specific funds held by the lawyer, the lawyer is obligated to distribute those funds to the third party unless the client challenges the distribution after having received the lawyer's notice of intent to distribute to the third party.
• The court order must relate to the specific funds or property held by the lawyer in trust.
• If the lawyer receives notice of a judgment relating to the funds or property held in trust by the lawyer, the lawyer is obligated to distribute such funds or property pursuant to the judgment. Such a judgment would likely involve an attachment or garnishment arising out of a money judgment that is applicable to the funds held by the lawyer in trust for the client.
• If a lawyer has received notice of a contract between the client and a third party that relates to the funds or property held in trust, the lawyer is obligated to use such funds or property to meet the obligation of the contract after notifying the client of the intent to meet the contractual obligation. A contract can be either an oral or written contract that usually is made by a client to pay a valid obligation out of the proceeds held by the lawyer.
• The lawyer may draft a contract on behalf of the client to obligate the client to pay monies from the settlement proceeds. Before making such a binding commitment on behalf of the client, however, the lawyer is obligated to obtain the client's consent and agreement to enter into either an oral or written contract to use proceeds from a settlement.
• A lawyer is not obligated to honor a perceived or suggested contract with a third party if the lawyer has no formal knowledge of such a contract or has no confirmation that the client has entered into a contract to pay an obligation out of the settlement proceeds. However, the lawyer may not allow his or her services to be used to commit a crime or fraud upon a third party.

If there is a controversy regarding the funds or property held in trust by the lawyer, the lawyer must hold the property in trust until there is an accounting and severance of the various interests. A recent Wisconsin Court of Appeals decision outlined the clear obligations of a lawyer when holding money for a client that is subject to a claim by another. In Riegleman v. Krieg,² the court of appeals ruled that the lawyer must take steps to resolve any dispute over the challenged interest in the property. The court held:

"If an attorney and client have signed an assignment in favor of a medical provider and a dispute arises over whether the amount owing is reasonable and necessary, and if the attorney does not want to hold funds indefinitely, he or she should bring an action for declaratory judgment pursuant to Wis. Stat. § 806.04 and seek guidance from the court as to who is entitled to the disputed funds."³

The court added the following caveat, as well: "An attorney should not assume that he or she can ignore an assignment that he or she has agreed to honor simply because a client changes his or her mind about the assignment - to make such an assumption is contrary to rules of professional conduct, which require that disputed funds be held in trust `until the dispute is resolved.'"⁴

In a recent unpublished decision, Yorgan v. Durkin,⁵ the Wisconsin Court of Appeals clarified the ruling in Riegleman by holding that an assignment is not effective unless signed by the attorney authorized to make the payment, if that requirement is part of the assignment terms. The court of appeals held that "the assignment is ineffective because [the attorney's] agreement to honor his client's assignment is missing. To be effective, an assignment must be accepted by the assignee."

While Yorgan provides guidance on a lawyer's civil liability under such circumstances, it does not address a lawyer's obligations under SCR 20:1.15(d)(1). Under this rule, which became effective after the underlying events in Yorgan, if a lawyer has "received notice" of the client's contractual obligations to a third party, the lawyer is required to protect the third party's interests in trust funds. The Office of Lawyer Regulation will take the position that a lawyer is required to protect those interests as a consequence of receiving notice of the interests, regardless of whether the lawyer signs a document agreeing to do so.

Finally, if it is determined that final distribution of the property held in trust may be made, the lawyer must promptly render a full accounting regarding the property held in trust to both the client and any third party who has an ownership interest in the property.

Conclusion

In summary, under the new Trust Account Rule, a lawyer must protect certain funds or property held in trust by the lawyer for a third party if the lawyer has proper notice that the third party is entitled to the property and such entitlement is substantiated by a lien, court order, judgment, or contract. In each situation, the lawyer must promptly notify the client and third party in writing when the funds or property is received and explain the existence and possession of the funds or property that the lawyer holds in trust.

The interest claimed by a third party must be a legitimate interest substantiated by one of the requirements identified in the rule. A lawyer is not obligated to retain funds or withhold distribution of funds to a client on the basis of a supposition or unsubstantiated claim; but at the same time, the lawyer must ensure that his or her services are not used to perpetuate a fraud against another person. A lawyer should exercise caution when considering whether a third party has an interest in property or funds the lawyer holds in trust for a client, yet a lawyer must not withhold the distribution of funds to a client if there is no substantiated or legal basis for a third party's claim to the funds or property.

Endnotes

¹53 Cal. App. 4th 445, 61 Cal. Rptr. 2d 707 (1997).

²2004 WI App 85, 271 Wis. 2d 798, 679 N.W.2d 857.

³Id. ¶ 36.

⁴Id. ¶ 37.

⁵Yorgan v. Durkin, Appeal No. 04-1359 (Wis. Ct. App November 17, 2004).

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