Guidance from the Law Society's rules and ethics committee &150; issued in February 2005

1 The Law Society's rules and ethics committee has been asked to issue guidance as to whether and, if so, in what circumstances a solicitors' practice (whether a partnership, company or limited liability partnership) might grant, as security to a lender, a charge over the practice's book debts. The central issue is whether, in such an arrangement, a solicitor's duty at law and in conduct to protect a client's confidential information is inevitably breached or put at significant risk; or whether solicitors can take steps to avoid or minimise the risk of breach so as to render the arrangement acceptable.




2 There does not appear to be any risk to clients' confidential information upon the creation of a charge over book debts, but care should be taken to avoid disclosing confidential information to a lender (for example, to justify the underlying loan). Difficulties, however, do arise should the lender need to enforce the security. Enforcement would normally involve a third party, who is not part of the solicitors' practice, having access to confidential (and possibly privileged) information contained in the clients' files, including the bills of costs.




3 The position regarding the voluntary creation of a charge differs from the involuntary situation where the partners in a practice become bankrupt or a practice goes into administration or liquidation, and a statutory scheme is put in place for the conduct of the insolvency. In the case of bankruptcy/liquidation, the solicitor principals cannot be said to have consented to their clients' confidential information being disclosed to a third party in order for the debts to be realised.




4 The committee recognises the need for practices to have access to finance in order to provide a well-resourced and efficient service to clients. It is not, however, possible to argue that the public interest in there being available well-resourced practices outweighs the public interest in protecting clients' privileged information. It is ultimately a matter for practitioners to decide whether any financing arrangement might put their clients' interests at risk and, as a consequence, leave the practitioner open to a civil claim and/or a complaint of misconduct.






Possible solutions


5 The most effective method of protecting a practitioner against any claim that a client's confidential information had been wrongly disclosed in the enforcement of a charge, would be to seek the prior informed consent of all clients who would be affected (this would be likely to be all current and future clients). The committee, however, recognises that this procedure may be unattractive to practitioners and impractical, since the effect of any waiver would have to be fully explained to the client; and, because the firm would be giving advice on a matter in which it had a financial interest, the client would need to be advised to seek independent advice before signing any waiver.




6 Another method of ensuring that there is no voluntary agreement to disclose confidential client information, whilst avoiding the need to obtain the informed consent of all clients affected, would be for the practitioner to grant a lender a charge over book debts but without any power to appoint a receiver in the event of default. The book debts would still be secured in priority to the lender over ordinary creditors, even though the lender would not have direct control over the collection of those debts (this would be carried out by an administrator or a liquidator appointed under the insolvency legislation, and the lender would be able to present a petition for an administration order or a winding-up order and the appointment of the administrator/liquidator). This sort of arrangement may not, however, be attractive to lenders who may prefer the speed and degree of control which a receiver appointed by virtue of the charge document would provide.




7 If the options described in paragraphs 5 and 6 are not available, the committee considers that the risk of unauthorised disclosure of clients' confidential or privileged information might be acceptably low if the following steps are taken:


(a) The document creating the charge should bar the lender from direct access to clients' confidential information.



(b) The document creating the charge should provide either:


(i) that the receiver should work through a solicitor who is appointed as a 'special manager' (the solicitor might be a member of the practice which had granted the charge, or another solicitor from outside the firm who must agree not to disclose confidential information concerning clients to either the receiver or to the lender); or


(ii) that the receiver is a solicitor (whether appointed solely or jointly with another person).


Whether option (i) or (ii) is adopted, debt recovery work should be done by the solicitor-manager or solicitor/receiver to the exclusion of any non-solicitor receiver and of the lender.


(c) The document creating the charge should provide that a solicitor 'special manager' or solicitor/receiver would be bound by the same duty of confidentiality as a partner of the firm, and upon the express condition that he or she must not disclose confidential information concerning clients to the lender.




8 If the receiver is not a solicitor, additional safeguards might include:


(a) an arrangement whereby the collection of legal fees from the practice's debtors is carried out, if possible, by members/ employees of the practice, not by the receiver;


(b) arrangements ensuring that the receiver does not have direct access to the firm's IT network, but has to ask a solicitor within the firm to access particular documents;


(c) an obligation on the receiver not to seek out or read any confidential information relating to the firm's clients (and a parallel obligation on the lender to procure that the receiver complies with such an obligation);


(d) an obligation on the receiver not to disclose confidential information concerning the firm's clients (and a similar obligation on the lender to procure that the receiver does not do so);


(e) an obligation on the lender not to seek any confidential information concerning clients from either the receiver or from the firm.




9 Solicitors should ensure that their involvement as or with a receiver in realising a firm's debts does not create conflicts between the interests of the clients of their own firms and of those of the practice in receivership.






Lending to practice by members


10 The committee sees no reason to prevent a member of a practice who is a solicitor from securing a loan made to that practice by way of a charge over its book debts since the issue of confidentiality on enforcement does not arise because the owner of the charge is also a member of the firm.




11 It is ultimately a matter for practitioners to satisfy themselves that adequate steps have been taken to protect their duties owed at law and in conduct to their clients. The committee hopes that practitioners will find this guidance useful when considering granting charges over their firm's book debts. This guidance is not mandatory, but it will be taken into account by the Law Society when exercising its regulatory functions. Practitioners may need to demonstrate how they have complied with the rules and principles of professional conduct if they have failed to follow this guidance.