UK: Solicitors PI: SRA Consultation On Important Proposed Changes To Conflict Rules

Last Updated: 23 February 2010
Article by Peter Maguire and Richard Curd

The deadline for responses to the Solicitors Regulation Authority's second consultation on changes to Rule 3 (Conflicts of Interest) and Rule 4 (Confidential Information) of the Solicitors' Code of Conduct is 12 February 2010.

The SRA believes that the current Rules are not sufficiently flexible to provide for the needs of sophisticated users of legal services and has invited views on the draft changes and whether they achieve a balance between meeting clients' needs and dealing with the potential risks so that clients and the public are protected. Subject to the outcome of the consultation, the SRA has indicated that it intends to amend the current Rules without "undue delay".

The draft new Rules set out the situations in which it would be possible for firms to act for sophisticated clients notwithstanding a conflict of interest. Firms would need to ensure that proper safeguards were in place and that they had kept adequate records so that they could demonstrate compliance with the Rules.

This article looks in more detail at:

  • what is proposed by the SRA
  • the measures which firms will have to take, including the obtaining of fully informed consent from each client and agreeing in advance what will happen in the event that a firm can no longer act for both clients
  • the areas of risk for law firms under a revised Rule 3, pursuant to which teams of solicitors within the same firm are likely to find themselves negotiating against each other
  • the likely approach of the courts and the SRA, who will doubtless insist upon evidence that an ultimately aggrieved client fully appreciated the possible ramifications when agreeing to retain a firm in a situation of actual or potential conflict

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The Solicitors Regulation Authority has published draft new rules together with detailed proposed guidance on changes to the Code of Conduct Rule 3 (Conflicts of Interest) and Rule 4 (Confidential Information): http://www.sra.org.uk/sra/consultations/conflict-confidentiality-december-2009.page (http://tinyurl.com/ydhexcc ).

This represents the final stage in a process which began more than a year ago when the SRA first consulted on proposals for the relaxation of these Rules made by the City of London Law Society.

Feedback on that consultation was published in Autumn 2009. There had been 38 responses from, variously, firms of solicitors and representative groups, including the Law Society but only one response has been made by an in-house legal department, as a client potentially affected by the proposed changes.

Whilst a variety of responses were received from solicitors as to the risks posed to clients from the proposed relaxation, most City solicitors believed that those risks could be properly managed. Many, however, wanted to see what the new rules looked like before commenting further, hence this consultation. As this is the culmination of an already lengthy process the consultation period is relatively short and closes on 12 February 2010.

These proposals have to be viewed against the background of regulatory reform in which the profession is currently engaged, particularly so far as large firms of City solicitors are concerned.

One notable element of the debate on the need for change to the conflict rules to date, is that particular account has been taken of the proposals for change in the way in which corporate legal work should be regulated. These proposals were made in the Smedley Report in March 2009 which, in turn, fed into the Hunt Review in October 2009: http://www.law-now.com/law-now/2009/huntreviewnov09.htm (www.law-now.com/law-now/2009/huntreviewnov09.htm).

The important theme here is the express recognition that City legal services are provided to "sophisticated" clients and the publication of the draft conflict rules coincides with the arrival of the new, more City focussed, SRA Board this month.

This article looks at both the impact which the proposed changes will have on clients and the measures which will have to be put in place by law firms in order to comply with the new rules.

Changes to Rule 3 – Conflicts of Interest

The existing Rule 3 contains a prohibition against a firm of solicitors acting when there is a conflict of interest between two or more clients, save for two exceptions, namely:

  • When the clients have a substantially common interest (e.g. acting for various family members in relation to their affairs or individuals on the incorporation of a company)
  • Where clients are competing for the same asset (e.g. competing bidders for a business at auction or competing tenderers for a contract). For this second exception the clients concerned must be sophisticated users of specialised legal services.

In the case of both exceptions, the clients must give informed written consent and it must be reasonable for the firm to act in all the circumstances.

The proposed change to Rule 3 would enable a firm to act for "sophisticated" clients in any situation (with the sole exception of litigation) provided that clients give their written consent and it remains in the best interests of each client concerned for the firm to continue to act throughout the retainer.

The SRA has highlighted three main areas of concern as to the risks that this change represent to clients and the purpose of the consultation exercise is to obtain views as to whether or not those risks are properly addressed in the proposals. The risks are that:

  • the solicitors' firm fails to discharge its duty under Rule 1 (which was identified by Lord Hunt as the "foundation stone" for future legal regulation), namely, to act in the best interests of each client;
  • the clients, albeit that they must be "sophisticated", fail fully to understand what they are agreeing to when giving consent for the firm to act;
  • the firm fails to protect a client's confidential information.

The intention behind the changes is to enable clients to instruct the solicitors of their choice, who may have detailed knowledge of the clients' business, built up over many years, but happen to be members of the same firm, in transactions which could give rise to a conflict of interest, subject to the safeguards described below.

As will be apparent, it will be vitally important for any firm acting for more than one client under the new exception to be able to show that it has complied with the requirements of the new Rule, the most important features of which include:

Sophisticated client

Each client concerned must be "sophisticated" which means it is either a lawyer, or a member of an organisation which has access to an in-house lawyer or which has taken independent legal advice before giving consent to the solicitors to act. Moreover, each client must be an experienced user of the type of legal services required for the proposed transaction and this should be evidenced, ideally, by previous transactions conducted by the firm for the client.

Informed written consent

Each client must confirm in writing:

  • that it wants the firm to act in the knowledge that that firm acts for other identified clients whose interests could give rise to a conflict
  • that it has agreed safeguards with the firm to protect its confidential information, having regard to the guidance on information barriers in Rule 4; these arrangements, and the client's consent to them, must be in place before work is commenced.
  • that arrangements have been agreed as to what will happen in the event that the firm can no longer act for each client. One of the issues raised by the consultation is whether, in obtaining consent from the clients concerned, a firm could, or should, identify the "dominant" client for which it wishes to continue to act in the event that it cannot continue to act for all clients. The approach appears to be that the more that can be spelt out in this context the better. In practice, it remains to be seen whether a client not designated as dominant will be prepared to give consent on that basis or, in fact, will wish to instruct another firm.

Intra-firm arrangements

Any solicitors' firm acting under this new exception must maintain a record of the decisions taken in relation to the retainer, including each client's written consent and the arrangements for protection of each client's confidential information. Evidence should also be recorded which demonstrates the client is "sophisticated" for the purposes of the exception and that each client has obtained, or had access to, independent legal advice.

To ensure that all is in place and functions properly during the course of the retainer, a firm will need to designate a senior individual or team to monitor compliance with the new Rule 3. That individual or team will be responsible for the firm's decision to act and, thereafter, as the matter progresses, the decision to continue to act. He or she must not, of course, have any involvement with the work being done for any of the clients concerned.

In practice, this is likely to be a potentially demanding and difficult role which may become even more onerous as a transaction progresses, particularly if the stage is reached at which the firm concerned cannot continue to act for all the clients and must part company with one or more of them.

Changes to Rule 4 (duties of confidentiality and disclosure)

These proposed changes are concerned with the protection of confidential information by the use of information barriers within solicitors' firms.

Rule 4 provides that the affairs of a client, or former client, must be kept confidential, as a consequence of which solicitors' firms are unable to accept instructions from one client if material confidential information is held for another client, or former client, with an adverse interest.

There are currently two exceptions to this Rule:

  • first, when both clients give informed consent and agree the steps which will be taken by the solicitors' firm concerned to protect their confidential information, and
  • secondly, when it become apparent after accepting instructions from a client that consent to continue to act should be obtained from another existing or former client with an adverse interest whose confidential information is at risk, but it is not possible to obtain such consent. Frequently consent cannot be obtained because even to make an approach for consent would breach the solicitors' duty of confidentiality to the client on behalf of whom the approach was to be made.

The change will extend the second exception to allow solicitors' firms to accept (rather than simply continue with) instructions in circumstances where the consent of existing or former client cannot be obtained. As with the current exception, an information barrier must be erected within the solicitors' firm which satisfies demanding common law requirements.

During the course of the consultation process to date, the substantial majority of the respondents were in favour of this change, not least as they could see no logical basis to distinguish between existing and new clients for the purposes of the Rule. Moreover, amongst City firms, there was concern that the current form of the Rule permits a client with confidential information held by a number of solicitors' firms to withhold consent for tactical reasons in respect of a particular transaction, thereby restricting the pool of specialist expertise available to others.

Interestingly, the only in-house legal team to participate in the consultation process was not in favour of the change.

Comment

  • Given the length of the consultation process to date, the SRA has made clear its intention to change the Rules without "undue delay" on the basis that it does not anticipate much additional debate to follow publication of the draft changes.
  • The fact remains, however, that there appears to have been little participation from clients in the consultation process thus far. Whether clients (who are, after all, the key stakeholders in this issue) decide to take what seems, in all likelihood, to be their final opportunity to have their say during this consultation remains to be seen.
  • The areas of risk are well understood and the methods by which potentially very thorny issues, such as those in relation to obtaining informed written consent from clients, are set out in considerable detail in the new Rules and accompanying guidance: but will they be sufficient? Whilst clients from whom consent is sought may well be "sophisticated" on a number of levels, and also have the benefit of access to legal advice, City firms will have to be satisfied that that consent which is given for them to act is, in truth, fully and properly informed; otherwise they run the risk of non payment of their fees (or worse) when they find that they can no longer act for one or both clients and a deal collapses.
  • Whilst, historically, conflict issues have not been a major cause of claims against City solicitors (unlike the experience in the United States), this could potentially change with teams of solicitors within the same firm negotiating against each other in situations in which the firm's own interests could conceivably come into conflict with those of its clients.
  • As Smith J observed in Saab and Another v Jones Day Reavis & Pogue (a firm) and Another [2002] ALL ER (D) 57 Dec: "Clients are entitled to be informed of the possible conflicts .... lay people whatever their level of sophistication are not necessarily aware of the potential for conflict". Although pre-dating the current proposals, these comments, in our view, hold good and the courts and the SRA will, no doubt, insist upon seeing evidence that an ultimately aggrieved client fully appreciated the possible ramifications when signing the solicitors' retainer on the dotted line in a situation of actual or potential conflict.

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 09/02/2010.

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