When a Lawyer Acts as Escrow Holder
By Robert L. Kehr
Robert L. Kehr is a principal in Kehr, Schiff & Crane, LLP, in Los Angeles. He was a member of the Commission for the Revision of the Rules of Professional Conduct, a former Chair of the State Bar Standing Committee on Professional Responsibility and Conduct and of the Los Angeles County Bar Association’s Professional Responsibility and Ethics Committee. He is an adjunct professor at Loyal Law School. The opinions expressed are his own.
There are many instances in which there is a need—or at least a perceived need—for a temporary escrow. In business and other transactions, and in the settlement of litigation, a party might have an obligation to deliver money or things but not want the recipient to have immediate possession. It could take some time to locate a professional escrow agent willing to act, and when one is located there will be delay and expense in drafting mutually agreeable escrow instructions and compensating the escrow agent. Why not just ask one party’s lawyer to step in?
A party’s lawyer already knows the situation, so there will be confusion or delay on that score, and a party’s lawyer as a courtesy might be willing to serve as the escrow holder without additional compensation. The arrangement could be set up in the blink of an eye. What could go wrong? The answer is that lots could go wrong for the lawyer. Any lawyer who feels constrained to act as an escrow holder should do so only with deliberate caution.
The opinion in Virtanen v. O'Connell illustrates some of the potential problems. Virtanen sold certain corporate shares to Buyer, with the sale price largely to be paid in future installments. Virtanen's lawyer delivered the executed original transaction documents, including the original share certificates and stock assignment powers, to the Buyer’s lawyer (O'Connell). The delivery was conditioned on O'Connell holding the original documents until: 1) he held Buyer’s executed closing documents with authority to deliver them to Virtanen's counsel; 2) Virtanen had confirmed receipt of the agreed down payment; and 3) the stock certificates and stock assignments had been delivered to a named third-party that would serve as a long-term escrow holder until the Buyer made the remaining purchase payments.
Virtanen then sent a rescission letter to the Buyer demanding that it return the share certificates and other documents. O'Connell responded, insisting that the deal was closed although none of Virtanen's three conditions had been satisfied. O’Connell then released the escrowed documents and instruments and sought to have the shares reregistered in Buyer’s name. Virtanen filed suit against Buyer, O'Connell and others, settled with the other defendants, and went to trial against O'Connell on claims for negligence, breach of fiduciary duty as an escrow holder, and conversion. Following a jury trial, Virtanen obtained a net judgment of $1.985 million against O'Connell.
On appeal, O'Connell did not challenge the jury's finding that he held Virtanen's shares in escrow but made a number of other arguments. Most important for current purposes, O’Connell made two arguments intended as a basis for claiming a primary duty to his client and only a secondary duty to Virtanen. He first contended that his duty of undivided loyalty to his client, the Buyer, obligated him, in the face of conflicting demand, to satisfy those he owed to his client over any owed to Virtanen. The court easily rejected this argument and made the following finding based on well-established authority: “An escrow holder is the agent of all the parties to the escrow at all times prior to performance of the conditions of the escrow; bears a fiduciary relationship to each of them; and owes an obligation to each measured by an application of the ordinary principles of agency.”
O’Connell next claimed that having a duty to Virtanen would prevent him from providing legal advice to his client. The court also rejected this argument, explaining that O’Connell’s conduct was wrong, not because he provided legal advice to his client, but because he violated strict neutrality in his handling of the entrusted materials. In other words, O’Connell’s duty as escrow holder did not conflict with his duty to provide legal advice to his client.
When faced with conflicting demands from the two parties to the escrow, O’Connell could not favor his client because doing so violated his fiduciary duty to Virtanen. O’Connell could have filed an interpleader action, he could have followed a contractual dispute resolution method if there had been one,  or he could have continued to act as the neutral escrow holder until the parties resolved their dispute by other means. The one thing he could not do was to serve as a judge by determining that his client was right, and then act on his own determination. O'Connell's duties to his client did not excuse his duty to Virtanen.
Virtanen shows that a lawyer can have civil liability to a non-client based on conduct as an escrow holder, even if a client is one party to the escrow. This is consistent with the general principle that a lawyer acting in another capacity, such as trustee, executor, escrow agent or broker, “is subject to liabilities that applicable law assigns to the capacity.” However, lawyers acting as escrow holders also have been subject to professional discipline in disparate factual settings.These include Guzzetta v. State Bar (commingling, failing to account, and withdrawing funds without approval); Matter of Respondent P (distributing in violation of fiduciary duty); and Matter of Hertz (misleading opposing counsel and court through use of trust account).
The Virtanen opinion summarized its lesson in this way:
[W]e do not intend to discourage attorneys from acting as escrow holders. Indeed, it is both useful and commonplace for attorneys to act as escrow holders with respect to closing documents, settlement agreements, releases, funds and other items. However, we caution that an attorney should be aware of the duties of an escrow holder before agreeing to act as one. When an attorney faces conflicting demands from his or her own client and another party to the escrow, the attorney cannot favor his or her own client and completely disregard the rights of the other party, to whom he or she owes a duty as an escrow holder….However, the attorney cannot convert the escrowed property to his or her client's own use.
There is a special warning in the court’s decision. In addition to affirming the judgment against O’Connell, the court reversed on the issue of punitive damages and returned to case to the trial court for a partial retrial on the punitive damage claim against O’Connell. This result underscores the potential risks for a lawyer who considers acting as an escrow holder.
140 Cal. App.4th 688 (2006). Although space limits don’t permit a full discussion, any lawyer considering serving as an escrow holder for a client should keep two things in mind. First, a lawyer can obtain effective consent only by providing the client all the information and explanation needed by the client to make an informed decision. Second, and related to the first point, a lawyer’s duty of competence requires advice to the client about the reasonably foreseeable adverse consequences of the arrangement, and of reasonably available alternatives. See Considine Co. v. Shadle, Hunt & Hagar, 187 Cal. App.3d 760, 765 (1986) and L.A. County Bar Formal Op. 520 (2007).
 Id. at 694-95.
 Id. at 695-96.
 Id. at 705.
 Id. at 701-02.
 Id. at 702-03 (internal quotes and cites omitted). This s accepted as a well-settled doctrine. See, e.g., Gulf Insurance Co. v. First Bank, 2008 U.S. Dist. LEXIS 53563, at *10 (E.D. Cal. June 4, 2008); Guzzetta v. State Bar, 43 Cal.3d 962, 979 (1987); and Fla. Bar v. Toothaker, 477 So. 2d 551, 552 (Fla. 1985).
 40 Cal. App.4th at
 Id. at 693, 701-02.
 Id. at 697.
 See New York State Bar Assoc. Formal Op. 710 (1998).
 40 Cal. App.4th at 701.
 Restatement (Third) of the Law Governing Lawyers, § 48, Comment d.
 43 Cal.3d 962, 979 (1987).
 2 Cal. State Bar Ct.Rptr. 622 (Rev. Dept. 1993), 1993 Calif. Op. LEXIS 53.
 1 Cal. State Bar Ct. Rptr. 456, 469-70 (Rev. Dept. 1991), 1991 Calif. Op. LEXIS 131.
 40 Cal. App.4th at 706.
 Id. at 694.