Who Do You Trust…with Client Trust Funds?
Because attorneys have a nondelegable, personal fiduciary responsibility to account for monies held in trust for a client, bank failures raise the specter of legal malpractice suits, fee disputes, disciplinary actions, and even personal monetary liability. The problem is not a new one. For years, the State Bar of California has advised attorneys to keep client trust accounts in financially stable banks: “This isn’t a rule; it’s common sense. As your clients’ fiduciary, if the bank you’ve put their money in goes under, you’re in for some trouble.” California State Bar, Handbook on Client Trust Accounting for California Attorneys 9 (2006). With the stunning collapses of IndyMac, Lehman Brothers, and AIG, and rumors of more bank failures to come, however, common sense might not be enough.
Here are a few things to keep in mind:
Even with the protection offered by FDIC insurance, substantial headaches could arise if a bank goes under. The FDIC is obligated to pay insured depositors “as soon as possible” after a bank collapses (12 U.S.C. §1821(f)(1)), but there is no upper limit to how long the process can take. According to the FDIC, the agency historically has paid insurance “within a few days after a bank closing,” but the process often takes longer with IOLTA accounts because the agency must review records to establish each client’s interest in the account. By the time the FDIC pays a client, the client may have lost a substantial business opportunity.
The best way to avoid these headaches, of course, is to do everything possible to ensure that client money is kept in financially stable banks. Attorneys should periodically research the financial soundness of banks holding their clients’ money. A good resource is Veribanc, a bank rating company that rates the safety and soundness of every financial institution in the country. Anyone can order individual bank reports or summaries of every bank in a particular state through the Veribanc Web site at www.veribanc.com.
Proper research also helps insulate attorneys against claims that they acted negligently in placing their clients’ money in financially unsafe banks. An attorney’s ability to foresee a bank’s demise was the crux of the only case to address this issue to date: Bazinet v. Kluge, 14 A.D.3d 324 (2005). The New York Appellate Division in Bazinet held that an attorney was not liable for legal malpractice when, while acting as an escrow agent in a real estate transaction, he placed $2.73 million of escrowed funds in a bank that went under. The court dismissed the suit because there was no legal requirement that the escrow funds be placed in an account fully insured by the FDIC, and the complaint contained no allegations that the lawyer knew of the bank’s financial instability. Id. at 325.
That’s a shakier proposition these days, with rumors of cascading bank failures rumbling through Wall Street. The fact that further bank failures are all but certain makes it imperative that attorneys properly research their bank’s financial soundness and take precautions to ensure that all their clients’ funds are covered by FDIC insurance.