Ethics Issues In Real Property Development Projects

ISSUE 2, 2024

Written by Dianne Jackson McLean^*

This article explores that many ethics issues that arise in business development transactions⁰¹ The issues will be explored in the context of a complex mixed financed affordable housing development. However, the ethical issues are applicable in most complex business transactions. The article is organized to provide a list of issues that should be considered as follows: (i) the initial inquiry; (ii) the transaction; (iii) the client, (iv) the engagement letter; (v) the conflict letter; (vi) the client files; (vi) the former client; and (vii) the on-going ethical obligations.

I. INTRODUCTION.

Business transactions can be extremely complex and are often developed and constructed in phases. This is especially true in the context of complex affordable housing developments that are generally financed with public and private funds, and subject to a host of governmental regulatory restrictions. Factors that can influence the transaction include the financing, market conditions, weather, natural resources, land conditions, locality, government agencies having jurisdiction over the project, the ownership structure of the seller and buyer, the lenders to the project, the community, and the objective of the project. These variables will have an impact on the ethical obligations of the attorneys involved. The California Rules of Professional Conduct (hereinafter “CRPC”) require that an attorney be competent.⁰² Competency will be measured in the context of the complexity of the transaction. In this regard, it is crucial that an attorney determines the nature and scope of the transaction to establish if the attorney is able to provide competent representation to the client.

II. THE TRANSACTION.

Understanding the transaction or the scope of the representation is crucial for the attorney to determine if she/he can provide competent representation to the client.⁰³ In business transactions, this may create a dilemma in that initially the nature and the scope of the transaction may not be fully known. The client may request representation on a transaction and may not be quite sure of the scope of the transaction. Of course, this will depend on the sophistication level of the client.

Here is a typical scenario for an affordable housing development:

The client may be interested in developing a 200-unit affordable housing project in an urban area. The project will require financing from the private sector through both private bank financing and an investor under the low-income housing tax credit program, as well as through the issuance of tax exempt bonds, and funding from local, state, and federal government sources. At the initial request for representation, none of the financing is confirmed. However, each source of financing will have separate requirements, and will be represented by separate legal counsel. In addition to financing issues, the project will be subject to certain land use and entitlement requirements. Since it is in an urban area, the project may have issues related to hazardous materials, subdivision, general plan amendments, design review, conditional use permits, and rezoning requirements. The client may not know the full extent of the representation required. Thus, the client with advice from the attorney will decide the scope of the representation.

The discussion may entail the attorney informing the client of the complexity of the transaction and the scope of the representation necessary to meet the client’s objectives.

Once the attorney fully understands the nature and scope of the proposed representation, the attorney can decide if they are competent to fully represent the client and/or if the attorney and the attorney’s law firm need to associate with another attorney or law firm to provide competent representation in each of the various areas applicable to the transaction.⁰⁴

III. THE CLIENT.

The next topic to be discussed is determining who is the client. In most business transactions, a client is a business entity; either a corporation, limited liability company, or a general or limited partnership. In addition, the attorney may be required to form a single purpose entity affiliated with the initial client. The attorney should inform the person representing the organization, that the client is the organization and not the person.⁰⁵ It is important to advise the client of the obligation of the attorney when the attorney is representing the organization, and some of the consequences to the individual if the individual’s actions are contrary to the best interest of the organization.⁰⁶ It can become an issue if the individual requests a course of action that the attorney “knows” or “reasonable should know” is in violation of the law or that would cause substantial injury to the organization. It can put the attorney in an awkward situation since the day-to-day interactions of the client are generally with a person acting on behalf of the organization. However, if there is a conflict, the attorney must refer the matter to the higher authority in the organization (i.e., the board of directors), unless the attorney feels that is not necessary. In addition, the attorney may withdraw from the representation, if such withdrawal is done in accordance with CRPC rule 1.16, such that the withdrawal will not have an adverse impact on the client.

a. REPRESENTED VERSUS UNREPRESENTED PARTIES.

In the context of business transactions, particularly a transaction which has many parties, it is important to clearly provide who the attorney is representing. Parties that are unrepresented in the transaction may try to rely on the advice of counsel from a represented party. Attorneys do not want to create “unintended” clients implied through the course of conduct during the various negotiating meetings that frequently occur with complex transactions. Therefore, attorneys must continue to state, and provide in writing where appropriate, who they are and are not representing.

b. THE “UNINTENDED CLIENT.”

In addition, it is not uncommon for some principals to be represented only for certain aspects of the transactions. This is especially common among developers, architects, and construction contractors. Therefore, it is important to continuously establish who the attorney is representing and who the attorney is not representing, to ensure that any advice that is being given is provided on behalf of the client. CRPC rule 4.2 prohibits contact by an attorney of a represented party without the consent of the represented party’s counsel. Attorneys must be diligent in determining: (1) if the party is represented in the applicable aspect of the transaction, and (2) if the party is represented, to communicate directly to the represented party’s counsel, unless consent has been provided. In situations in which counsel is only used for certain aspect of a transaction, an attorney will need to have a system for monitoring those aspects in which legal representation is provided to ensure that there is no violation of CRPC rule 4.2.

IV. THE ENGAGEMENT LETTER.

The engagement letter is the contract between the attorney and the client regarding the terms of the legal representation. It should include many items and is subject to requirements set forth in CRPC rule 1.5 (among other requirements). The more explicit the engagement letter is regarding the nature and scope of the representation, the better it is for both the attorney and the client. The engagement letter may include a provision that it may be modified if the circumstances change regarding the assumptions on which the engagement letter are based. The State Bar of California has on its website a form fee agreement. The drafting of the engagement letter is beyond the scope of this article. However, sufficient time should be devoted to preparing and reviewing this document with the client so that the above-discussed issues are fully understood by the client. Joint representation and conflict of interests can be included in the engagement letter.⁰⁷ The more customary practice, especially when conflicts arise after the engagement letter is entered into, is to prepare a separate letter that discusses any conflict of interests and/or request for waivers.

V. CONFLICT OF INTEREST.

In business transactions, conflicts of interest must be monitored throughout the transaction. The conflict rules, specifically CPRC rules 1.7 and 1.9, apply to transactional matters. CPRC Rule 1.9 establishes duties to former clients and prohibits an attorney who has formerly represented a client from representing another person in the same or a substantially related matter in which that person’s interests are materially adverse to the interests of the former client, unless the former client gives informed written consent. This situation can arise when, for example, the attorney was retained to prepare certain regulations applicable to projects under the client’s jurisdiction. The regulations are adopted and the representation is ended. A couple of years later, the same attorney is retained to interpret the regulations that are applicable to the affordable housing development. In this case, before the attorney could advise the client on the regulations, it may need to obtain the written consent of the former client, depending on the nature of the representation.

It is prudent to establish a conflict of interest protocol at the initial request for legal services by the potential client. This is primary to determine if there are any conflicts of interest that may prevent the attorney or the law firm from engaging in the representation. Once a conflict of interest has been identified, the attorney has to determine if the conflict can be waived, and that even if it can be waived, can the attorney provide competent representation without violating the duty of confidentiality (among other duties owned).⁰⁸ Since attorneys often move from one law firm to another, conflict protocols are important, especially to implement any applicable screening of one or more of its attorneys to prevent the imputation of conflicts of interest to the law firm as provided in CPRC rule 1.10.

Advance waivers are permitted if the circumstances and consequences are clearly explained to the client and informed written consent is required. The effectiveness of an advance waiver will be determined when the actual conflict occurs, and it is established that the nature of the conflict was clearly described in the letter seeking the advance waiver.⁰⁹

a. CONFLICT OF INTEREST ON UNRELATED MATTERS.

A conflict of interest on unrelated matters also could be a concern in business development,¹⁰ particularly if it is a law firm with multiple locations without an adequate system to monitor conflicts or the subject area of representation is a niche with fewer attorneys having subject matter experience the area. Therefore, if an attorney is involved in a matter and another attorney in the firm is representing the opposing client in an unrelated matter, the firm must determine if the matters are substantially related,¹¹ if either attorney has obtained confidential information that would be material to either representation,¹² and if each attorney can maintain the duty of loyalty.¹³ The prudent law firm will ensure that a robust conflict system is in place so that conflicts can be determined both at the beginning of any engagement and provide periodic updates as the transaction proceeds.

b. SPRINGING CONFLICT OF INTEREST.

A conflict of interest can spring up in the transaction that was not foreseeable to the attorney or law firm at the initial engagement. For example, this could occur if the client later decides to obtain an additional source of financing where that new lending source happens to also be a client of the attorney or law firm. At such point, the attorney would have to determine if they could competently represent to the client in the financing, both clients would need to be informed of the conflict, and the attorney or law firm would need waivers from both clients. If these measures cannot be addressed, the law firm will have to terminate the representation and/or the client may have to hire another attorney as it relates to this additional funding source. The point here is that in business transactions, there is a need for continued conflict monitoring, and communication with the client, as the project develops.¹⁴

c. THE CONFLICT WAIVER.

If a conflict is determined to exist, the issue is whether the attorney should seek a waiver of the conflict. However, first it must be established if the conflict is waivable. In some cases, even though the clients are willing to waive the conflict, there may be other factors which should cause the lawyer to reconsider. There are a number of issues in determining if the conflict is waivable. If the attorney has obtained confidential information, particularly if such information is material to the representation, the attorney will be precluded from the representation without the informed written consent of the applicable client(s). In addition, it would be ill-advised to request such consent if it would have an adverse impact on a former client.¹⁵

Once it is determined to be a waivable conflict, the attorney should anticipate the scope of the representation. Due to the nature of the business development, the attorney should clearly describe the transaction and the conflict or potential conflict. This is necessary to ensure that the client will be in a position to provide “informed consent.”¹⁶ The effectiveness of the consent will be determined by the degree to which the scope of the conflict was described in the conflict letter. If the conflict relates to a matter outside of the scope of the consent provided, then the attorney must determine if she can continue to represent the client by obtaining a further informed written consent from the client or if the conflict is of the nature that the attorney cannot provide competent representation to the client, even if the client decides to waive the conflict. At this point, the attorney may decide that she needs to withdraw from the representation.

VI. TERMINATION OF REPRESENTATION.

Termination of the representation of a client by the attorney is permitted if it is done in the manner that will not create an adverse impact on the client, or otherwise in compliance with the rules.¹⁷ Upon such termination, the attorney, upon the client’s request, must return the client’s files to the client. Changing attorneys mid-stream of a matter could have dire consequences to the client. Thus, precaution should be taken to ensure that the requirements of CRPC rule 1.16 are met in connection with any termination. If the matter is subject to the jurisdiction of a tribunal, then the attorney must obtain consent of the tribunal. Successor attorneys may request copies of everything in the client files. However, attorney work product is generally not part of the client files and does not need to be provided to the successor attorneys. In any event, the client files should not be released to a successor attorney without the written consent or instruction of the client.

VII. IS THE PROJECT OVER?

After the project is over—once it is developed, constructed, and financed—the attorneys go on to the next project. For the most part, the transaction is complete. Attorneys, however, should be aware under CRPC rule 1.9, that they still have duties to the former client. It is not uncommon for issues to arise related to closed projects long after the representation has ended. In connection with any matter that the attorney formerly represented the client, the attorney cannot represent another client in another matter that is substantially related to the matter of representation of the former client, when such representation will have an adverse impact on the former client, without such former client’s informed written consent. Thus, as part of the conflict check on new matters, the attorney must assess if any former clients are or were parties to the matter, and if there is a potential that the representation will have an adverse impact on any such former client.

VIII. CONCLUSION.

There are on-going ethical obligations in business project or development transactions that transactional attorneys must be aware of. The bottom line is that all attorneys, including transaction attorneys, have on-going obligations to ensure compliance with the CRPC and other applicable ethics laws. In such transactions, the matters evolve and change with many parties entering and exiting the transaction at various phases of the development. The law firm must have systems to ensure that the conflict check process is on-going each time a new party comes into the transaction and/or the scope of the representation is modified.

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Notes:

^*. Dianne Jackson McLean is a partner at the law firm of Goldfarb & Lipman LLP, where she is a transactional attorney, representing public housing authorities, cities, and other government agencies in complex mixed finance affordable housing transactions and economic development matters. Ms. Jackson McLean also provides advice to her firm on ethics. Ms. Jackson McLean is the former chair and member of the Bar Association of San Francisco, Legal Ethics Committee, and a member of the California Lawyers Association, Ethics Committee. The views expressed are the author’s own, and do not express the opinion of the California Lawyers Association, Ethics Committee.

^01. For the purpose of this article, business developments refers to the predevelopment, development, and construction of residential, retail, office, and/or industrial projects.

^02. Cal. Rules of Prof’l Conduct r. 1.1.

^03. Id. at r. 1.2.

^04. See id. at r. 1.1(c).

^05. See id. at r. 1.13.

^06. See id. at r. 1.13 cmt. (g) (permits joint representation subject to California Rules of Professional Conduct rules 1.7, 1.8.2, 1.8.6, and 1.8.7).

^07. See, e.g., id. at r. 1.7 & 1.9.

^08. See id. at r. 1.6; Cal. Bus. & Prof. Code § 6068(e)(2).

^09. See Cal. Rules of Prof’l Conduct r. 1.7 cmt. [9].

^10. A conflict of interest on unrelated matters could occur in a transaction in which two existing clients of the law firm are parties to a transaction, but the attorney is representing only one of the client in the matter, while another attorney at another law firm is representing the other existing client in the matter.

^11. Cal. Rules of Prof’l Conduct r. 1.7.

^12. Id. at r. 1.6.

^13. See id. at r. 1.7 cmt. [1]; Cal. Bus. & Prof. Code § 6068(e)(2).

^14. See, e.g., Cal. Rules of Prof’l Conduct r. 1.4.

^15. See id. at r. 1.9.

^16. See id. at r. 1.01 (e)-(1).

^17. See id. at r. 1.16.