What is a Legal Fees Clause?
A legal fees clause is a contractual provision that allocates the responsibility for payment of legal fees and costs incurred in the event of a dispute under an agreement. These clauses may provide that a party to a contract (whether a service provider, supplier, etc.) who incurs additional costs pursuing or defending a claim is entitled to be paid all or part of the legal fees incurred by it in such circumstances.
There are two common examples of legal fees clauses: It is common to see a clause in an agreement stating that the "party must pay all legal costs and disbursements incurred by us in relation to this agreement" (or words to that effect) . Alternatively, a legal fees clause may state that a party "agrees to be liable for payment of our legal costs and disbursements (on an indemnity/solicitor and client basis) arising from the negotiation and/or preparation of this agreement" (or words to that effect). These two specific examples are both examples of indemnity legal fees clauses that are designed to recover, on the terms of the agreement, the legal fees paid to by a party to their lawyers. This is an important distinction between the two types of legal fees clauses. While a party may be doing all of the work itself, it will not always be the case that a party has to pay legal fees to another external lawyer that did work on its behalf.
Different Types of Legal Fees Clauses
One of the more common types of legal fees clauses is the "loser pays" clause. This clause generally provides that one party will reimburse the other for the attorneys’ fees incurred in enforcing the contract. This type of clause can discourage parties with a small claim from pursuing a legal remedy by making it more likely that the smaller party will lose the case and have to pay the other side’s legal fees. Such a provision could also discourage a party that believes it has a good claim from not pursuing it for fear the litigation does not go its way, and so it will be required to pay both parties’ attorneys’ fees. Thus, while the "loser pays" clause may deter parties with smaller claims, it could create similar consequences for those with meritorious claims.
Another common variation of this type of clause is the "prevailing party" clause. A "prevailing party" clause allows the court to award legal fees to the party that "prevails" in the litigation as the "prevailing party." For these purposes, a "party prevails" when it obtains "substantially all of the relief sought." In other words, if a party succeeds on all but one of several claims, it is still considered a "prevailing party" and is entitled to the legal fees incurred in defending against that single claim. Like the "loser pays" clause, a "prevailing party" clause can have the same deterrent effect on a party with a strong, but potentially unsuccessful claim.
Other variations of legal fees provisions may specify that a party is entitled to its legal fees "in any dispute" arising out of the contract, or "in any collection action" on the contract. Another variation is to place no limitation at all on when a party is entitled to recover its fees.
In light of the potential deterrent effects of these provisions, it is important to consider whether the wordings and scope of the provision are truly appropriate for the type of litigation they are likely to engender.
Advantages and Disadvantages
One of the advantages of including a legal fees clause in an agreement is that doing so can cut down on cases, particularly in the context of business litigation, between related companies. If a company is going to be held liable for its separate, independent subsidiary’s actions taken in the course of that company’s relationship with another party, when the other party has a legal fees clause in its agreement, the company will be forced to present any dispute with the other party through its affiliate. The disadvantage is that litigants are required to lay out legal fees, which may be substantial, in order to defend against frivolous, unfounded lawsuits. For example, in the case of Burch and Ruggiero LLP v. Ruggiero, 254 Ga. App. 676, 678 (2002), the Court of Appeals recognized that a legal fees clause: …can have the potential of restricting access to the courts and implicate other rights protected by our fundamental law. …However, if that consequence does occur, it is a result of the obstacle which existed prior to the agreement. The solution is not to void the contractual responsibilities as if they did not exist but is instead for the party agreeing to the provision to renegotiate its terms, if possible, before committing itself to them. And, where, as here, that party has unlimited financial resources, the waiver may not be a true waiver at all but an acknowledgment that the relative bargaining powers afforded the parties make such a risk acceptable.
How to Draft a Legal Fees Clause
When drafting a legal fees clause you need to ensure that it is "water-tight" and covers every eventuality. Many contracts contain legal fees clauses but often the clauses are poorly drafted, leaving scope for interpretation and dispute.
The Courts have held that the starting point is that unless contrary intention is shown, each party to litigation is required to bear its own costs. This principle can obviously seem unjust given the potential size of legal claims, so commercially it is common place to include a legal fees clause within your contract, allowing you to recover costs in the event that proceedings are brought.
Drafting a legal fees clause will generally form part of the ‘key’ / commercial terms within the contract. However, you must bear in mind that a legal fees clause does not stop at indemnity on costs.
Advice received from Counsel will often include other considerations such as:
In order to assist with clarity and to avoid ambiguity it is advised that you consider the following:
It is probably worth giving some focus to alternative funding arrangements which , as set out above, may not just be limited to ATE insurance. It is becoming more commonplace for funders to invest in litigation on the basis that they get a return out of a successful judgment, this would be by way of a licence of share of the judgment awarded (usually lump sum compensation). If you were to consider entering into this agreement the indemnity principle under the legal fees clause would need to incorporate further points.
In addition when drafting a legal fees clause you also need to be clear as to what funding arrangements fee earners will agree to take. For example some fee earners will not agree to act no win no fee upon an ATE policy, so if you wish to obtain a discount on fees and avoid the uplift, you should make that clear when the dispute first arises, or when you first think you may bring proceedings. It is good practice to insert the legal fees clause in appendix one of the agreement such that it can be reviewed without having to read the entire document again.
Enforceability and Litigation
The enforceability of legal fees clauses is a common issue, both at the outset of the case and once proceedings are underway. There are a variety of factors that can affect the enforceability of a legal fees clause. Fundamental to all legal fees agreements is the principle of "freedom to contract".
This means that parties are free to contract on any terms so long as those terms are not illegal or contrary to public policy. Thus, in very broad terms, it is up to the parties to agree whether a legal fees clause is enforceable. Ultimately, that decision may rest with a court. If a legal fees provision appears in a client engagement agreement, it is generally enforceable. However, if a client engages a lawyer on an unspecified basis, such as where there is only an oral retainer, the provision may be difficult to enforce.
One of the most common areas involved in legal fees disputes is when the legal fees clause in the agreement is combined with the "Canadian Rule", which permits each party to bear its own costs (including legal costs). A challenge may arise in defining charges of the lawyer. Does that include disbursements, taxes and other charges, or is it limited to fees for legal services alone? If disbursements, taxes and other charges are included in the meaning of "legal fees", will the Canadian Rule still apply? Usually a legal fees clause will first be considered in the context of the agreement with the client. The client must pay the fees described in the retainer agreement, and the lawyer has a right to give notice if the client does not make payment.
There are also arguments over the reasonableness of fees. The general rule is that a lawyer is entitled to charge reasonable fees unless it has agreed otherwise with the client in a valid and enforceable legal fees clause. The courts have typically applied a standard of reasonableness when assessing the application of a legal fees clause. However, that can vary among the provinces and territories. For example, because there are restrictions on charging contingency fees in Quebec, that province has a different approach that requires a bill of fees that is verified by a judge. The situation for notaries is much the same as for lawyers. Although a notary’s bill is less likely to be reviewed, it can be reviewed if there is an abuse of the billing process. Otherwise, the costs charged by a notary in a retainer agreement will likely be subject to the same standard of review as that of a lawyer.
In Ontario, the Law Society of Upper Canada sets out costs guidelines for lawyers. If a lawyer wishes to take into account the legal aid scale, there is nothing to prevent him or her from doing that. Most importantly, a lawyer must take reasonable steps to verify the fees by providing the client with a timely notice of the basis of the fees. A lawyer is expected to maintain appropriate billing practices in retaining and billing for the costs of services. Accordingly, retaining and up-to-date records of the time spent on a given legal service is strongly encouraged.
State-Specific Rules
State-specific considerations come into play when identifying the extent to which a legal fees clause will be enforced. The clause may be interpreted differently or have a different scope of applicability in various jurisdictions. For example, the clause may limit recovery of attorney’s fees to a prevailing party only if the action relates to a certain subject matter, such as the agreement’s enforcement, interpretation, or validity, or to a particular section(s) of the agreement, such as a confidentiality covenant. Other states may allow for wider enforcement of a legal fees clause, permitting recovery even for actions related to enforcement of unrelated covenants , such as non-circumvention, and legal fees recoverable without any "prevailing party" status.
Moreover, in some jurisdictions, applicable law governs enforceability of legal fees clauses in the same way it governs enforceability of other contractual terms. Therefore, if an otherwise invalid provision contains a choice of law clause specifying a state’s law, the applicable law may vary from the law of the forum, rendering enforcement of each party’s right to recover attorney’s fees, accorded by the legal fees clause, differently in each jurisdiction where an action may be brought.