by Wilton H. Strickland

Almost a year has passed since I embarked on my quest to become a freelance lawyer, and it’s been the best of times and the worst of times. While exciting and liberating, there are serious challenges such as finding attorney clients and persuading them that they can benefit from outsourcing some of their work to me.

An obvious advantage is that my fee is discounted and thus allows them to turn a profit while saving time. It sounds too good to be true, which often leads people to ask just how this “markup” can be ethical. Upon researching the issue to prepare an upcoming CLE course, I stumbled on divergent standards governing markups for lawyers versus non-lawyers. This is an important distinction to flesh out, since many who provide outsourcing services are non-lawyers (often paralegals) who have just as much of a stake in conducting their business in an ethical manner as we lawyers do.

Marking Up The Fee Of An Outside Lawyer

In its landmark Formal Opinion 08-451, the ABA offered several guidelines for ethical outsourcing, including how to pass along the expense to clients. Page 5 of the Opinion broaches the subject as follows (emphases added):

[T]he fees charged by the outsourcing lawyer must be reasonable and otherwise comply with the requirements of Rule 1.5. In Formal Opinion No. 00-420, we concluded that a law firm that engaged a contract lawyer could add a surcharge to the cost paid by the billing lawyer provided the total charge represented a reasonable fee for the services provided to the client.

Notice how the surcharge analysis centers on lawyers, not on paralegals or other non-lawyers. This theme continues on page 6 (emphases added):

Likewise, the lawyer is not obligated to inform the client how much the firm is paying a contract lawyer; the restraint is the overarching requirement that the fee charged for the services not be unreasonable. If the firm decides to pass those costs through to the client as a disbursement, however, no markup is permitted. In the absence of an agreement with the client authorizing a greater charge, the lawyer may bill the client only its actual cost plus a reasonable allocation of associated overhead, such as the amount the lawyer spent on any office space, support staff, equipment, and supplies for the individuals under contract.

Thus according to the ABA, an outside lawyer’s fees may be marked up so long as the final fee to the client is reasonable, and there is no obligation to tell the client what the outside lawyer is being paid. The only stated exception is when the firm chooses to pass along the expense as a disbursement, in which case the firm must charge at cost absent client consent for a different arrangement.

I have found no state or local ethics opinion that disagrees with the ABA’s analysis on this issue. At most, the other ethics opinions stress that the outsourcing relationship might constitute fee splitting if the outside fee is linked to the client’s fee, in which case client consent again becomes necessary. See, e.g., Colo. Bar Ass’n, Formal Op. 121, 6 (2009); S.C. Bar Ethics Advisory Committee, Ethics Advisory Op. 10-08, 2 (2010). While the opinions vary on whether client consent is necessary for the outsourcing relationship itself, this is a separate question from whether the payment structure requires client consent, which it normally does not.

Some case law has emerged regarding these markups, and it parallels the ABA’s approach. In one instructive instance, the defendants in a class action sought to exclude outside attorneys’ hours from the lodestar calculation of plaintiffs’ recoverable attorney fees, citing Formal Opinion 08-451 and arguing that such hours must be billed only at cost. The court disagreed, holding that a law firm may choose to pass along this expense as a unified fee rather than a cost disbursement: “[T]hat rule addresses the situation ‘[i]f the firm decides to pass [the contract attorney] costs through to the client as a disbursement.’ . . . This Court is aware of no requirement that a firm do so.” In re Citigroup Inc. Secs. Litig., 965 F. Supp. 2d 369, 394 n.6 (S.D.N.Y. 2013). In a ruling that slightly pre-dates Formal Opinion 08-451, one court gave this assessment that is music to the ears of any contract or freelance lawyer:

[Objectors] argue . . . that the work done by contract attorneys should be treated as an expense to be reimbursed, rather than being included in the lodestar. This objection lacks merit. The lodestar calculation is intended not to reflect the costs incurred by the firm, but to approximate how much the firm would bill a paying client. An attorney, regardless of whether she is an associate with steady employment or a contract attorney whose job ends upon the completion of a particular document review project, is still an attorney. It is therefore appropriate to bill a contract attorney’s time at market rates . . . .

In re Tyco Int’l, Ltd. Multidistrict Litig., 535 F. Supp. 2d 249, 272-73 (D.N.H. 2007) (emphasis added).

Marking Up The Fee Of An Outside Non-Lawyer

Whereas a law firm may choose to bill the work of an outside lawyer as a discrete, marked-up legal fee or an obvious, at-cost disbursement, it seems there is no such choice regarding the work of outside non-lawyers. Their work must be billed at cost, absent client consent to the contrary.

Turning back to Formal Opinion 08-451, only scarce mention is made of how to bill for anything other than the services of an outside lawyer, and it appears within the discussion of billing at cost on page 6. Some duplication of the previous quote is necessary (emphasis added):

In the absence of an agreement with the client authorizing a greater charge, the lawyer may bill the client only its actual cost plus a reasonable allocation of associated overhead, such as the amount the lawyer spent on any office space, support staff, equipment, and supplies for the individuals under contract. The analysis is no different for other outsourced legal services, except that the overhead costs associated with the provision of such services may be minimal or nonexistent if and to the extent that the outsourced work is performed off-site without the need for infrastructural support. If that is true, the outsourced services should be billed at cost, plus a reasonable allocation of the cost of supervising those services if not otherwise covered by the fees being charged for legal services.

So it appears that services outsourced to non-lawyers must be billed at cost unless the client agrees otherwise. One could argue that “analysis” refers back to the entire discussion of billing for an outside lawyer’s work, meaning that there indeed is an option to present a single legal fee that is marked up to reflect the non-lawyer’s work. The flaw in this argument is that the work of a non-lawyer cannot ethically be presented as a legal fee, as emphasized by the New York City Bar Association on page 4 of its oft-cited Formal Opinion 2006-3:

By definition, the non-lawyer performing legal support services overseas is not performing legal services. It is thus inappropriate for the New York lawyer to include the cost of outsourcing in his or her legal fees. See DR 3-102. Absent a specific agreement with the client to the contrary, the lawyer should charge the client no more than the direct cost associated with outsourcing, plus a reasonable allocation of overhead expenses directly associated with providing that service.

Though other ethics opinions do not appear to tackle this issue head-on, many of them rely on Formal Opinion 2006-3 as authoritative. See Fla. State Bar Prof’l Ethics Comm., Ethics Op. 07-2 (2008); N.C. State Bar, 2007 Formal Op. 12 (2008); Ohio Sup. Ct. Bd. of Comm’rs on Grievances & Discipline, Advisory Op. 2009-06, 6 (2009); Colo. Bar Ass’n, Formal Op. 121, 4-5 (2009); Va. State Bar Ethics Counsel, Legal Ethics Op.1850, 4 n.7 (2010).

It’s also worth remembering that in 2012 the ABA Commission On Ethics cited Formal Opinion 2006-3 when construing the ABA’s own Formal Opinion 08-451, specifically in Resolution 105C (which adds new outsourcing commentary to various Model Rules).

I have found only one instance where the work of an outside non-lawyer was allowed to be marked up without the client’s consent, a bankruptcy case out of Mississippi: In re Thorne, 471 B.R. 496 (Bankr. N.D. Miss. 2012). A creditor’s law firm outsourced certain drafting tasks to a paralegal firm and billed those tasks to the creditor as a full legal fee. The debtors argued that the arrangement was illegal and violated several rules of professional conduct, especially the prohibition against splitting fees with non-lawyers. The court disagreed, finding no legal or ethical problem with the arrangement. Id. at 504-07.

Yet Thorne should be taken with a grain of salt. For one, the arguments concerned whether the outsourcing arrangement amounted to fee splitting, not whether a markup for non-lawyer services should receive client consent. Moreover, ethical questions cannot ultimately be settled or enforced by a bankruptcy court, but rather by state licensing authorities.

Conclusion

Unless and until an ethics opinion clearly states otherwise, it is best to operate on the assumption that work outsourced to non-lawyers must be billed at cost, absent the client’s consent to a more profitable arrangement. The hope of obtaining such consent strikes me as a bit fanciful. I could be wrong on that score; if I am, so much the better! For the time being, though, we should assume that the only markups that do not require client consent are for work outsourced to lawyers. It is a far, far better thing to err on the side of being more ethical than less.