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American Bar Association

ABA Section of Business Law

Volume 13, Number 1 - September/October 2003

So long, but not goodbye
Lawyer retirement: The hammock or the firm down the street
    By Stuart L. Pachman

For business or other lawyers who have managed to survive the whitewater rapids of practice and somehow have remained in the safety of the firm's raft, there comes a time when the firm — or the lawyer — thinks about going ashore.

Although retirement is a simple concept, it is not one easy to articulate, even though drafting partnership, shareholder and LLC operating agreements is part of the stock-in-trade of a transactional lawyer's practice.

A law firm's agreement is different from that of business entrepreneurs or professionals such as accountants, doctors and engineers, where the chief concern is to capture on paper the understandings of the parties. That is because, when it comes to lawyers, the draftsperson must keep one eye on Rule of Professional Conduct 5.6(a) (the rule), and its predecessor, DR2-108(a), still extant in some jurisdictions.

The rule prohibits lawyers from entering into partnership agreements (a term used here to include shareholder agreements and LLC operating agreements) or employment agreements that directly or indirectly contain restrictive covenants or, as some courts have said, provide any "financial disincentive" to a lawyer's decision to part ways with the firm.

The rule, which has not escaped criticism, has been treated by many courts as immunizing lawyers from the application of restrictive covenants. One of the arguments in favor of the rule is that it protects young lawyers who might otherwise be forced to agree to onerous restrictions when accepting employment with a firm — but the rule's primary rationale is that no obstacle should be placed between a client and the client's choice of lawyer. A 1945 ethics opinion had piously intoned that clients are not merchandise and lawyers not tradesmen, and that "bartering" in clients would be inconsistent with professional status.

Times have changed. We may not like it, but the practice of law, unfortunately, has become a business with too many lawyers chasing too few clients. When it comes to other professions, it is accepted practice that accountants buy and sell clients, and that doctors are subject to restrictive covenants in some jurisdictions. Some courts are recognizing that for a law firm to survive, its agreements must factor in practical considerations such as revenues, expenses and cash flow.

Whether one is in accord with the proposition that lawyers who leave firms to practice elsewhere should not be subject to restrictive covenants, the blanket statement that any agreement that restricts a lawyer from practicing law is unenforceable presents a problem in its application to the retiring lawyer and the firm that desires to pay retirement benefits on the condition that the lawyer truly retire. The drafters of the rule anticipated this and presciently provided for an exception (the retirement exception) that carves from the rule's prohibition "an agreement concerning benefits upon retirement."

The exception makes both common and economic sense. When a senior lawyer elects (or is required) to retire after many years of service, the firm should be able to provide benefits without also being required to treat equally lawyers withdrawing to compete. Whether one views this as recognition of the senior lawyer's history ("Thank you for building this firm"), or based on humane considerations ("We recognize your income will decrease on retirement"), there is often a business basis behind any largesse. The firm anticipates that it will benefit from future fees from clients left behind and can thus afford to give the retiree something beyond his or her capital account or percentage share of the equity.

If a firm may purchase another lawyer's practice under the terms of RPC 1.17, which requires the outside lawyer to cease "to engage in private practice in this jurisdiction," it should be able — when compensating one of its own who is leaving his or her practice with the firm — to obtain assurance that the retiring lawyer will not subsequently resume serving those clients.

Unfortunately, as commentators and courts have noted, the retirement exception is "somewhat obscure" and not "crystal clear." If the sweeping statements in some of the cases dealing with lawyers' noncompete agreements are read as prohibiting the firm from restricting any lawyer, even a retiring lawyer, from the practice of law (or conversely requiring the firm to pay to those leaving to compete a sum equal to the benefits intended to compensate retirees), the exception to the rule is rendered meaningless.

Fortunately, there are decisions expressly recognizing the retirement exception. The court in Neuman v. Akman, 715 A.2d 127 (D.C. App. 1998) (Neuman) noted that the exception in RPC 5.6(a) for agreements concerning retirement must mean, or allow for, some distinction. The question remains: How is one to draft a provision for lawyer's retirement that falls within the exception and outside the rule? The answer is not universal because decisions vary depending, in a given jurisdiction, on how close to holy writ its courts treat the proposition that lawyers are not subject to restrictive covenants.

Before attempting to draft a retirement clause, however, the law firm should consider whether it really wants one. Providing for benefits on retirement has definite advantages. A retirement clause can help ensure that when a senior lawyer hangs up his or her briefcase, the firm will have an edge in retaining the clients and referral sources that the senior lawyer has cultivated over the years. A retirement policy in place that provides economic security is helpful when the senior lawyer has lost a touch of acumen, skill or energy and needs a nudge to retire.

Conversely, if a senior lawyer knows he or she is not as sharp as a few years ago, or has lost interest and drive, but is concerned about the financial consequences that would result from retirement, the presence of a retirement benefit in the firm's agreement may hasten the decision to retire, providing a benefit not only to the lawyer and the firm, but also to the public.

On the other hand, a retirement provision, particularly one that is overly generous, can sow the seeds of destruction for the firm. When partners sign the firm's agreement containing a retirement provision, each probably views himself or herself as the prospective retiree with the rest of the firm carrying on and paying benefits. Twenty years later, when several partners retire at about the same time and the base of lawyers remaining in the firm has not grown sufficiently wide, the retirement payout may overwhelm the firm's revenue.

One way to deal with this is to fund a retirement plan through current earnings, but the risk, as discussed below, is the possibility that a court will award a share of the fund to a lawyer departing to compete because the fund falls into the "previously earned income" category. Another potential solution is to "cap" the amount or percentage of annual income paid out to retirees. Even with a cap, however, young lawyers who are logging 2,000 billable hours annually may not be willing to stay with a firm that has a large retirement obligation to men and women whom they may never have known except as portraits in the reception area.

Assuming that the firm decides that a retirement provision in its agreement is desirable, the next issue is to determine the qualifications for retirement. The cases teach that the agreement must include minimum age and service requirements to demonstrate that retirement is bona fide. Retirement should be keyed to "an age at which many Americans typically cease employment." Once a lawyer, by virtue of age, length of service to the firm, or both, meets the agreement's conditions, the receipt of retirement benefits may be made subject to an additional condition: that he or she refrain in whole or in part from engaging in a competing practice.

The lawyer who qualifies to retire under the agreement's terms and chooses (or is forced) to leave the firm, should be able to elect either to retire and receive the retirement benefits the firm has chosen to provide, or to forego those benefits by continuing, or by subsequently resuming, practice. Lawyers who do not meet the qualifications for retirement and who leave the firm should not be entitled to the benefits intended for retirees; they may or may not compete, as they choose.

The agreement must not only spell out the qualifications, but also must define the scope of retirement. Under the retirement exception, how broad or narrow may the noncompetition covenant be?

  • Must the retiree do nothing other than spend his time in a hammock?
  • Can she go into another profession or business so long as she abstains totally from the practice of law?
  • May the retiree practice law but be limited geographically, for example, to abstention from practice in the United States, or in one or more states, or in one or more counties or municipalities?
  • Can the covenant be limited temporally; that is, a promise to cease legal practice for a period of time?
  • Or may retirement be limited to a promise not to serve clients of the firm or to engage only in pro bono practice?
Neuman upheld a restriction prohibiting a lawyer who met the firm's retirement qualifications from practicing law anywhere in the United States. Donnelly v. Brown, 599 N.W. 2d 677 (Iowa 1999) (Donnelly), held that the prohibition need not be total, but could be geographically partial, in that case limited to the state of Iowa.

Schoonmaker v. Cummings, 747 A.2d 1017 (Conn. 2000) (Schoonmaker) upheld an even lesser restriction — to certain counties where the firm maintained offices. The court reasoned that if the retirement exception were to force a retiring lawyer to abandon practice altogether in order to collect retirement benefits, it would render the lawyer inaccessible to any client, a concept directly opposed to the basic premise underlying the rule itself.

It might be permissible to condition retirement benefits simply on the retired partner's agreement to do nothing to impair the firm's relationship with its existing clients. The risk in limiting the scope is that if a court is more inclined to a strict application of the basic rule, any permitted noncompetitive practice may be viewed as a sign that the individual's retirement is not "bona fide," and that the "dominant purpose," to quote from a New Jersey decision, of the agreement's retirement clause is to restrict competition.

Assuming that sufficient parameters for retirement have been established and that the scope of the restriction has been acceptably defined, the next task is to define "benefits upon retirement." Cases considering the retirement exception teach that the consideration for an agreement of noncompetition that is to have a chance of being upheld must be something "extra," something beyond the amount to which the retiree would be entitled if the firm were to dissolve. In some agreements, this "extra" has been termed an "additional amount" or "continuation payments."

What the firm may not do is extract a promise of noncompetition as a condition to the return of a departing lawyer's capital account and payment of his or her share of past profits. The issue created by use of a plan funded from past profits comes into focus here. (Valuing the firm as a whole and determining the percentage interest of the departing lawyer present their own problems.)

The source of this "additional amount" is often the firm's future profits, but the New Jersey Supreme Court, in Jacob v. Norris, 128 N.J. 10, 26 (1992), by expressly declining "to find a distinction between the lawyer's earned income and the firm's future profits," rendered that source unavailable in that state. Other courts have considered and rejected this ruling.

Donnelly drew a distinction between, on the one hand, the gratuitous continuation of payments to a retired partner based on length of service and age factors, and, on the other, his or her capital interest and share of undistributed earned income.

Neuman upheld the denial of an "additional amount" payable at age 65 to a lawyer who left the firm at age 56 to join another firm, and who, following the firm's agreement, had received his capital and share of profits through his date of departure. Speaking practically, the court noted that by competing with the firm, the departing lawyer would be decreasing its revenues and thus the source of the "additional amount" he was seeking. The court cited Opinion 880 of the Standing Committee on Legal Ethics of the Virginia State Bar (1987), which stated that a distinction should be made between deferred compensation on the one hand and benefits funded by the firm on the other. The latter, if they are to be paid, should permit a restriction on the right to practice.

Schoonmaker similarly delineated what would and what would not qualify as "benefits upon retirement."

The ruling in Hoff v. Mayer, 2002 Ill. App. Lexis 458, stressed the difference between a financial penalty, which a firm may not impose when a lawyer departs, and a retirement benefit. Citing the Annotated Model Rules of Professional Conduct, 466-67 (4th Ed. 1999), it refused the request of a lawyer who left the firm at age 60 to found another firm to share in his prior firm's future profits as a "retirement" benefit.

In addition to the requisite qualifications, the scope of retirement, and the definition of retirement benefits, courts that have ruled on the retirement exception have suggested other features that would argue in favor of a valid retirement provision supporting a restrictive covenant. A concurring justice in Donnelly, citing Hillman on Lawyer Mobility, suggests that there should be a time period over which benefits are to be paid that would support the argument that the payments are being made to fund retirement.

Schoonmaker suggested that an extended disbursement period would demonstrate that retirement benefits should compensate for the reduction in income resulting from retirement. Neuman stressed that the motivation behind the firm's retirement plan be to provide benefits to those who would experience a permanent reduction in income as a result of withdrawal from the firm.

The following are also worth considering for inclusion in the retirement clause. The firm might require the preparation and implementation of a plan, several months before the date of retirement, to effect a smooth transition of client matters to other lawyers in the firm (subject, of course, to client preferences). It might require the retiree:
  • to continue in an of counsel capacity exclusively to the firm;
  • to be available for consultation and advice so that younger lawyers in the firm may obtain the benefit of his or her wisdom and experience;
  • to engage in legal practice only through the firm; and
  • to refrain from any act that would disparage or adversely affect the firm or its good will.
In the end, writing the clause in the firm's agreement that deals with retirement is not an easy task, but one that requires thoughtful and careful drafting. As more enlightened decisions come along recognizing the practical issues faced by lawyers and firms in today's practice, one hopes that the retirement exception will be afforded the recognition and flexibility for which it was intended. As stated by the court in Schoonmaker, quoting from the arbitration award:

There is no doubt that the rule is designed to permit attorneys to have retirement plans that have noncompetition conditions — there is simply no other explanation for the exception to the rule.

Pachman is a shareholder at Brach, Eichler, Rosenberg, Silver, Bernstein, Hammer & Gladstone, P.C., in Roseland, N.J. His e-mail is spachman@bracheichler.com.

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