Liability Limitation for Law Firms Holding Money in Trust Accounts
This article originally appeared in Goldberg Segalla’s Professional Liability Matters. Read the issue here.
Law firms regularly hold funds in their trust accounts on behalf of clients for a variety of reasons, and when the amounts are large, this can result in significant repercussions. During the recent Malaysia Development Berhad (1MDB) scandal in 2015, the opacity of attorneys’ obligations with respect to those funds was brought into the spotlight on a massive scale. In the 1MDB scandal, Malaysia’s then-Prime Minister Najib Razak was accused of channeling more than $700 million from the Malaysia Development Berhad, a government-run strategic development company, to his personal bank accounts.
What duties do law firms actually owe when holding money in their trust accounts? In a recent New Jersey Appellate Division case, the court reiterated the limitation of liability absent specific instructions or any escrow relationship with third parties. Moshe Meisels v. Fox Rothschild involved a real-estate transaction in which the firm itself appeared to have no involvement. Instead, a client of the firm agreed to sell property in New Jersey and the buyer wired $2.4 million to the firm’s trust account. The wire transfer was made by a company called RightMatch Ltd. and contained just a single byline—one stating that it was “for and on behalf of Cambridge Mercantile Corp.” and to the attention of Moshe Meisels. The plaintiff, Meisels, conceded that he had no contact with the law firm.
Meisels argued that the transaction was never consummated, and yet the firm still transferred the funds to its client, Eliyahu Weinstein. It filed a lawsuit setting forth numerous counts, but only Meisels’ claims of conversion and breach of fiduciary duty remained on appeal. Meisels argued that under the Rules of Professional Conduct, the law firm was tasked with safekeeping the funds and wrongly converted them by sending the $2.4 million to Weinstein without finalizing the deal. The law firm responded that it had no knowledge Meisels even existed, let alone that it was acting as his fiduciary, and that no demand was made that would substantiate a conversion claim.
The Appellate Division agreed with the law firm, acknowledging the role of attorneys while limiting their liability for trust account funds. The Appellate Division began by noting that “as officers of the courts, attorneys are reposed with special status.” However, the duty to safeguard property is not limitless. In the present case, the law firm received a wire transfer that had no limiting instructions or other directions. It was not aware of Meisels’ involvement in the transfer, nor did he make any demand for the repayment of funds. Considering the heightened level of relationship attendant to a fiduciary duty, the Appellate Division could find no reason to hold that the law firm could owe such a duty to someone it did not even know existed.
The court also held that a demand and refusal was a prerequisite to conversion unless facts suggest an exception to this general rule should be applied. Citing nineteenth-century law, the Appellate Division ruled that there was no conflict with the true owner’s rights when, as far as the law firm knew, it was acting in accordance with all parties’ wishes. Had there been a demand, the law firm could at least have had the opportunity to investigate and potentially seek judicial intervention. However, the Appellate Division ruled there is no independent duty of attorneys “to inquire into the origins and possible third-party interests of every source of funds that flows into a trust account for purposes of closing on a transaction.”
The Appellate Division’s ruling in Meisels v. Fox Rothschild is a reaffirmation of the limited, but opaque nature of lawyer trust accounts that is necessary from a practical perspective. As the court noted, there are a variety of reasons why a law firm should not be treated like a bank and tasked with investigating wire transfers that come into its trust account. However, in the 1MDB scandal it was widely reported that this is an area ripe for abuse. Clients could abuse a law firm trust account to conceal the source of funds in a transaction, essentially using the procedure to circumvent banking laws. While this may be of concern to regulators, it is certainly not a function that should be served by law firms. Therefore, the Meisels’ decision should be viewed as a win for attorneys who could potentially be targeted with increased duties when recent high profile cases suggest a revisit to monitoring transfers in firm trust accounts.
Professional Liability Magazine, a collaborative effort of Goldberg Segalla’s Management and Professional Liability Practice Group, examines the latest best practices, emerging developments, and influential court decisions impacting the defense of professional service providers. Read our latest issue here.