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An Interesting Technique for Getting Legal Fees Paid: Shouldn’t Lawyers Be Better Than Mobsters?

by Carolyn Elefant on December 7, 2008 · 8 comments

in Ethics Issues, Law Practice Management, Setting and Collecting Fees

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Peter Olson’s Solo in Chicago is another one of those great, unsung blogs that’s been running for years, seamlessly marrying tips on starting a practice with Olson’s own experiences.  A few days ago, Olson posted a link to an article by legal consutant Ellen Freedman from the ISBA journal (not publicly available) entitled Don’t be Afraid to Get Paid. The post goes through the expected practices such as billing early and consistently, discussing the importance of payments with clients and coordinating with the client’s billing cycle.  Though most of us have seen this kind of advice, we often fail to implement it.

Freedman’s last tip however, is one that’s new to me:

Despite your best efforts, some clients may never pay their bills. So, “When all else fails – REVENGE IS SWEET!” reads one of Freedman’s presentation slides. Explaining, she suggests, “Wait until the statute of limitations for malpractice claims has passed, and then wait until November 15th.”

Then, she continues, you can send your debtor client a letter saying it’s clear that, despite your pleas to discuss the matter, that the client has no intention of paying your bill and, therefore, has left you with no alternative but to forgive the debt. “We will be sending you a 1099 for the value of the services and the costs that we are removing from our books.” On receiving such a letter, she says, many people will be so scared that they will actually send the lawyer a check.

I’m sure others will disagree but I don’t like this tip.  At all.  I have no problem with a lawyer suing to recover fees from a client who hasn’t paid.  But if you’re going to do it, do it the right way: ask for payment nicely, then ask agai.  If the amount remains unpaid and if the balance is too large to write off, retain a firm that specializes in attorneys fees collections and let them have a crack at recovering the fee and filing suit if all else fails (don’t ever file the action yourself).  What you shouldn’t do is sit around stewing until the malpractice statute of limitations runs — which may be as long as two or even three years — and then turn around with this kind of a gotcha.  (As an aside, it’s not clear from the advice whether Freedman endorses actually sending the 1099 or just threatening to do it, but as far as I’m concerned, it’s one and the same, and indeed, threatening to take action that you will not carry out may violate other ethics rules).  What’s the next step — calling the IRS to tell them off to audit your client to make sure he or she paid taxes on the forgiven debt?

The other issue is secondary.  In many (by no means all), but many nonpayment cases, lawyers rather than clients are to blame.  How so?  Because sometimes lawyers run up a bill that they’d have realized the client could never pay if they’d have listened to the client at the outset.   I recently encountered this kind of situation where an individual retained a large firm for a relative minor matter.    The firm had been recommended by a friend who was a longstanding client of the firm.  At the first meeting, the friend came along and told the firm that his colleague could only afford a certain amount.  The firm agreed and offered an estimate commensurate with the individuals needs.  But when the case started, the bills escalated out of control because of the strategy that the firm had taken which included substantial double teaming. The individual complained of the bills as did his friend, the longstanding firm client, but despite the pleas, but the firm insisted on pursuing the course it had in mind – and by that time, the client did not feel that he could pull out.  At the end of the case, the client ran out of money, owes a substantial amount of money to the firm, which the firm has thus far, not pursued.  However, if the firm pulled this kind of 1099 stunt in this case and I was in that client’s shoes, I’d be utterly furious.

Don’t misunderstand me – I am not claiming that lawyers don’t deserve to be paid.  Moreover, I would argue that if we want to be paid, we must implement measures to ensure that result, such as moving towards flat fees (which give clients certainty so they can budget for the bill) and transparency in billing (setting budgets, keeping clients apprised of costs and modifying as necessary moving forward).  But getting paid and getting revenge are two entirely different matters.  I’m a lawyer, not a mobster.

UPDATE – After receiving the below comment, I investigated this technique further and saw this post at Ellen Freedman’s blog entitled revenge is less sweet (11/13/08).  Apparently, the IRS only permits financial institutions and not law firms to write off debt – yet nevertheless, Freedman has this to say:

Now of course, the average client, even the highly educated client, probably has no clue that the 1099-C is designated for use only by financial institutions. They also have no clue that the 1099-MISC is an inappropriate form to use. So theoretically, the method can still intimidate many clients into paying. The real question, Donna raised, is whether or not a law firm can knowingly file an inappropriate tax form, and what the IRS might do about it.

[To be fair, Freedman notes that because of the problems with the IRS, she can no longer recommend the "sweet revenge" strategy].  This comment encapsulates clearly what I regarded as improper: use of the 1099 to intimidate clients.  I have no problem with lawyers writing down debt (if it’s permissible) as a legitimate business tool, just as suing a client for non-collection is entirely appropriate.  But to use a 1099 to coerce a client to pay isn’t at all appropriate in my view.

  • LaToya

    I don’t think that it is unethical to write the debt off and send the client a 1099 for the forgiven debt. You don’t even need to wait until the malpractice sol passes. If the debt is uncollectible then it is proper to charge it off as bad debt and report it to the IRS. If it is later collected, then the attorney can report the income in the following year.

  • http://www.ethicsmmaven.com Eric Cooperstein

    Knowingly sending someone a tax form that was improperly completed as a way of compelling them to pay a debt could violate several ethics rules, including ABA Model Rule 3.1 (frivolous claims), 4.1 (false statements), 4.4 (violating the legal rights of others), 8.4(c) (general dishonest conduct), and 8.4(d) (conduct prejudicial to the administration of justice).
    Not only that, a former client who receives a hostile (and deceptive) letter is just the type of client who would be likely to file an ethics complaint. Seems like a poor fee collection strategy all around.

  • LaToya

    Okay. 1099-C cannot be sent to a client. I stand corrected on that fact, but the law firm can still write the loss off as a business bad debt, and if later collected report it as income in the year collected or amend the tax return.

  • http://www.christophermckinney.com Christopher McKinney

    Whether or not it would be illegal to file the improper tax form, a lawyer should not do it. Lawyers are not held in high regard these days and it is exactly this kind of stunt that leads to the profession’s bad reputation.
    If lawyers wish to be seen as ethical professionals (which most of them are) then they must act like it. If you have a billing dispute with a client then handle it in a straight forward professional manner. If a lawyer doesn’t wish to proceed with normal collection procedures or use one of the Bar’s dispute resolution programs for such a billing, then there is likely a problem with the bill to begin with.

  • http://www.PA-LawPracticeManagement.com Ellen Freedman

    I appreciate the comments offered by Carolyn on what is one of my favorite blogs. I’m compelled to comment because Carolyn’s post is based upon an article written NOT by me, but about a session I presented for the Illinois State Bar. It also references one of my blog posts (“Revenge Is Less Sweet” which was updated a day later with different and clarifying information.
    As it turns out, it is NOT improper for a law firm to file a 1099-C. While it is REQUIRED that this form be filed by financial institutions and others when writing off defaulted debt, it is totally legal and appropriate, according to an IRS service letter, for other entities to voluntarily file a 1099-C for unpaid debt. So the lawyer does not violate any rules whatsoever by doing so.
    I don’t disagree with Carolyn that every effort should be made, from initial engagement letter or agreement, through on-going communications with the client, to be sure the client 1) knows payment terms and 2) has every opportunity to express any dissatisfaction with the service or amount of the bill. That was a big part of the seminar content upon which the article was based.
    I DO disagree with the concept of suing the client in most cases. The prevalence of malpractice countersuits which arise (estimated at 30 – 40% by most insurers) just makes the risk/reward ratio too high in most cases. And I don’t think it helps or hurts to use an outside firm to handle the suit, other than they may be more adept at this area of practice.
    So let’s assume that the client is NOT unhappy, and has had more than ample time to air any grievance. There are, unfortunately, too many clients who just do not pay. Sometimes, maybe more often than we think, because they know most lawyers will not sue out of fear of a retaliatory countersuit.
    If the amount in question is far above your deductible, and if an independent set of eyes examines the file and advises you have crossed your t’s and dotted your i’s, and if a fee dispute committee is not available in your area or a suitable solution, then you should probably sue if you can. (Some LPL policies actually prohibit suit for fees.) But other factors, like your firm’s claims history and whether you are a “desirable” insured or practice in “hot, undesirable” areas based on the underwriter’s perspective, will also impact whether or not you should take the risk and sue.
    I do not and did not advocate sitting quietly until the statute runs out and then surprising the client with a 1099. But during the period the statute runs, the smart lawyer is making continual contact trying to offer the client every opportunity to express what holds them back from payment, and work out a suitable compromise. If that does not happen, and the prospect of suing is not the deemed appropriate action, I think it is better to give the client one last chance, e.g. warn them that since all other efforts have not achieved the results, your remaining option will be a write-off and issuance of 1099-C.
    Not only is it an emotional psychic reward for the lawyer to finally do SOMETHING, (yes, revenge is an appropriate word), but sometimes it actually prompts the client to pay, when all else has failed.

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  • Carla Frett

    This post shows a different look of the lawyers. Well just kidding if we put our thoughts in the move then we can visualize that statistics of the billing errors have raised a lot and practically that has managed to be the huge loss. Look at this blog post – http://www.replicon.com/blog/you-cant-manage-what-you-cant-measure I came across. All the statistical error have been managed to show up in terms of the client billing, invoicing, time tracking and as such.

  • Steve Campitelli

    IRC 7434 imposes stiff penalties for issuing erroneous 1099 forms. Also, while the bit about the financial institutions is correct, the rest of the argument goes off the rails. Lawyers should not mess around with tax law; you have to be smart to read tax law.

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