A Lawyer’s Responsibility in Avoiding Fraudulent Attempts to Obtain Entrusted Client Funds
Adopted: January 15, 2021
Opinion discusses a lawyer’s professional responsibility to inform clients about relevant, potential fraudulent attempts to improperly acquire client funds during a real property transaction.
Facts:
Buyer in a real estate transaction retained Lawyer as settlement agent. At the outset of the representation, Lawyer sent Buyer an informational letter including instructions for wiring closing proceeds to Lawyer's trust account. Lawyer's letter includes a warning about potential wire fraud associated with the transaction, and that in order to prevent wire fraud Buyer should telephone Lawyer's office using the number listed in the letterhead before initiating the wire to verify the wiring instructions. The letter also states that Lawyer will not change wire instructions via email.
On the date of the scheduled real estate closing, Buyer telephoned Lawyer's office and left a voicemail inquiring about wiring instructions for sending closing proceeds to Lawyer's trust account. Minutes later, Buyer received an e-mail message purporting to be from Lawyer indicating that Buyer should ignore Lawyer's previous wire instructions and instead should utilize new wire instructions that were attached to the email. This e-mail was not sent by Lawyer or by anyone acting under Lawyer’s direction. The e-mail did not have an attachment, so Buyer replied to the email noting the lack of an attachment. In response, Buyer unknowingly received fraudulent wiring instructions and initiated the wire transfer of the closing proceeds to what he thought was the Lawyer's trust account but was actually to a third party's fraudulent account. When Buyer appeared at closing and inquired about Lawyer's receipt of the closing proceeds, Lawyer discovered that the funds had never been received into his trust account.
Inquiry #1:
Did Lawyer violate the Rules of Professional Conduct by failing to prevent the fraudulent wire transfer of Buyer’s proceeds?
Opinion #1:
No. Lawyer’s letter to Buyer at the outset of the representation containing a warning about the potential for wire fraud and instructions to the client to personally confirm wire transfer instructions via telephone to Lawyer’s office reasonably minimize the risks associated with the transfer of funds during a real property transaction.
Lawyers have a duty to competently represent clients and to communicate with clients concerning the representation. Rules 1.1 and 1.4. A lawyer’s duty of competency requires the lawyer to have the necessary “legal knowledge, skill, thoroughness, and preparation reasonably necessary for the representation.” Comment 8 to Rule 1.1 further states,
To maintain the requisite knowledge and skill, a lawyer should keep abreast of changes in the law and its practice, including the benefits and risks associated with the technology relevant to the lawyer’s practice, engage in continuing study and education, and comply with all continuing legal education requirements to which the lawyer is subject.
In addition to accepting and pursuing a client’s matter with the requisite competence, a lawyer must adequately communicate with the client about “the means by which the client’s objectives are to be accomplished” and to “explain a matter to the extent reasonably necessary to permit the client to make informed decisions regarding the representation.” Rules 1.4(a)(2) and 1.4(b); see also Rule 1.4 [cmt. 5] (“The client should have sufficient information to participate intelligently in decisions concerning the objectives of the representation and the means by which they are to be pursued, to the extent the client is willing and able to do so.”).
Safeguarding entrusted client property is one of the most important aspects of a lawyer’s practice. In addition to complying with the requisite safeguards set out in Rule 1.15 in handling entrusted property, a lawyer must also make efforts to educate him or herself on the potential risks associated with the transfer of funds, including the risks to client funds that exist prior to a lawyer’s possession of the funds, and ensure that those involved in a particular transaction are aware of such risks. See Rules 1.1, 1.4, and 5.3; see also 2015 FEO 6. Unfortunately, scams and other attempts to divert and fraudulently acquire client funds associated with a real property transaction are ever-present, increasing, and evolving. Furthermore, these scams have been widely reported on by various outlets, including the State Bar and the news media. See generally North Carolina State Bar, Alert: Compromised Email/Wire Instructions Fraud Continues to Target North Carolina Lawyers (May 23, 2017), /news-publications/news-notices/2017/05/alert-compromised-emailwire-instructions-fraud-continues-to-target-north-carolina-lawyers/; Caroline Biggs, How To Protect Yourself From Real Estate Scams, N.Y. Times (Jan. 3, 2020), https://www.nytimes.com/2020/01/03/realestate/how-to-protect-yourself-from-real-estate-scams.html. Given the constant threat to client funds and the significant harm that can result from such fraudulent activity, a lawyer’s duty in representing clients in real property transactions necessarily requires the lawyer to be vigilant in reasonably educating him or herself on the current state of such fraudulent attempts and in communicating with clients and staff about such risks.
In 2015 FEO 6, the Ethics Committee addressed a lawyer’s professional responsibility to safeguard entrusted funds from third party interference, including theft. There, the committee determined that a lawyer who has taken reasonable care to minimize the risks to client funds by implementing reasonable security measures in compliance with the requirements of Rule 1.15 is not ethically obligated to replace funds that are stolen from the lawyer’s trust account. The committee also cited a prior ethics opinion in explaining a lawyer’s continuing obligation to educate him or herself about the relevant and evolving risks associated with the lawyer’s practice and handling of entrusted client funds (“In 2011 FEO 7 the Ethics Committee opined that a lawyer has affirmative duties to educate himself regularly as to the security risks of online banking; . . . and to ensure that all staff members who assist with the management of the trust account receive training on and abide by the security measures adopted by the firm.”).
In the present inquiry, Lawyer has not yet received entrusted property from Buyer, and thus Rule 1.15 is not yet implicated. However, Lawyer has a duty to competently represent Buyer in the real estate transaction and to “keep abreast of changes in the law and its practice, including the benefits and risks associated with the technology relevant to the lawyer’s practice[.]” Rule 1.1 [cmt. 8]. Lawyer also has a duty to adequately and effectively inform Buyer about the potential risks associated with the transfer of funds in connection with a real property transaction so that Buyer can make “informed decisions regarding the representation.” Rule 1.4(b). Similar to the situation addressed in 2015 FEO 6, a lawyer satisfies his or her professional obligation if s/he takes reasonable measures to educate him or herself on real property transaction scams; implements within the lawyer’s practice (including staff) reasonable measures to minimize the risks to client funds in accordance with the Rules of Professional Conduct; and adequately communicates to the client the risks associated with the transfer of funds in connection with a real property transaction and clear instructions on how to safely transfer funds to complete the real property transaction. Accordingly, Lawyer has fulfilled his professional responsibility with regards to Buyer and the underlying real property transaction.
Inquiry #2:
Same scenario as Inquiry #1, but Lawyer failed to send the letter at the outset of the representation containing the warning about wire fraud and the instructions for verifying wire transfer instructions at closing. Lawyer did not otherwise provide any warning to Buyer about potential wire fraud, Lawyer did not provide instructions specifically described to avoid wire fraud, and Lawyer has not made any effort to educate himself or his staff about the potential for wire fraud in connection with real property transactions conducted by Lawyer’s law office.
Does Lawyer’s failure to provide any warning to Buyer or otherwise take steps to avoid potential wire fraud violate the Rules of Professional Conduct?
Opinion #2:
Yes. As noted above, scams and other attempts to divert and fraudulently acquire client funds associated with a real property transaction are ever-present, increasing, and evolving. A lawyer serving as a settlement agent for real property transactions has a duty to implement reasonable measures to minimize the risks associated with the transfer of funds in real property transactions, including to be aware of and educated on these developments, and to communicate with his client about these risks and how the lawyer intends to avoid them. See Opinion #1.
Inquiry #3:
Same scenario as Inquiry #1, but instead of Lawyer sending a letter to Buyer at the outset of the representation containing the warning and instructions regarding wire fraud, Lawyer includes the warning and instructions as generic language at the end of all of Lawyer’s sent emails. Does this effort satisfy Lawyer’s obligation to communicate with Buyer about the risks associated with wire fraud in real property transactions?
Opinion #3:
Yes, provided Lawyer specifically alerted Buyer to the language contained in the email and directed Buyer to read the language in its entirety. The medium by which this language is communicated to Buyer is not as material as Lawyer’s clear communication of the information to Buyer. If Lawyer directs Buyer’s attention to the warning and instructions contained in an email, Lawyer has satisfied his obligation to adequately communicate with Buyer to enable Buyer to make informed decisions about the representation. Rule 1.4(b). Lawyer does not satisfy his professional responsibility by simply including the language at the end of an email without any direction to Buyer to read the language, as such language can often go overlooked and unread by the email recipient.
Similar to 2011 FEO 7’s discussion of a lawyer’s professional responsibility in using online banking, this opinion does not set forth specific requirements beyond those of education and adequate communication needed to minimize the risks associated with wire fraud. As noted in 2011 FEO 7, imposing specific requirements can “create a false sense of security in an environment where the risks are continually changing. Instead, due diligence and frequent and regular education are required.”
Inquiry #4:
Same scenario as Inquiry #1, but prior to Lawyer providing any instruction or information to Buyer, Lawyer learns that Buyer received documentation from a third party (e.g. Buyer’s realtor or Buyer’s lending institution) warning Buyer about the dangers associated with wire fraud in residential real property transactions. Must Lawyer still warn Buyer about the dangers associated with wire fraud in light of the third party’s warning/information previously provided to Buyer?
Opinion #4:
Yes. Lawyer’s knowledge that a third party provided similar warnings to Buyer does not absolve Lawyer of his professional responsibility to competently represent Buyer and communicate any relevant concerns about the transaction.
Inquiry #5:
Does Lawyer have a duty to report the theft of Buyer’s funds intended for Lawyer’s trust account to the State Bar’s Trust Account Compliance Counsel?
Opinion #5:
No. Rule 1.15-2(p) states that, “[a] lawyer who discovers or reasonably believes that entrusted property has been misappropriated or misapplied shall promptly inform the Trust Account Compliance Counsel (TACC) in the North Carolina State Bar Office of Counsel.” Rule 1.15-1(f) defines “entrusted property” as “trust funds, fiduciary funds and other property belonging to someone other than the lawyer which is in the lawyer's possession or control in connection with the performance of legal services or professional fiduciary services.” At the time of the theft, Buyer’s funds were neither in Lawyer’s possession nor in Lawyer’s control, and thus are not entrusted funds subject to the reporting requirement in Rule 1.15-2(p). However, lawyers are encouraged to report such fraudulent attempts on client funds – successful or unsuccessful – to the State Bar to make the State Bar aware of such attempts and empower the State Bar to issue appropriate alerts and/or guidance to help lawyers and clients avoid future fraudulent efforts.