Is your firm the type of entity it purports to be?

March 1st, 2018
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By Thomas Harban

One of the decisions a legal practitioner will make – after deciding to open a practice – is what form the practice will take. They may decide to practice as a sole practitioner, in a partnership or as part of an incorporated practice. The decision may be driven by commercial and/or other considerations and they may change from one type of entity to another in the life cycle of the practice. The considerations may even arise when joining a firm.

The applicable legal principles and considerations for various types of entities may, on the surface, appear trite to many legal practitioners but an examination of some of the underlying circumstances in professional indemnity (PI) claims notified to the Attorneys Insurance Indemnity Fund NPC (the AIIF) show that this may not necessarily be the case across the profession. A simple examination of the letterheads of some firms show that the entities may not properly be describing themselves as required by law. There are some firms that use the suffix ‘Inc’ in their names when, in fact, they are not a practising juristic entity. In other instances there have been practitioners who conduct their practices through both a juristic entity and a partnership from the same premises. In such cases, for purposes of the AIIF policy, this will be regarded as a single entity entitled to one annual limit of indemnity (annual amount of cover) rather than two entities. An important question to consider is if a client, walking into such a firm, is asked whether they would like to instruct the incorporated entity or the partnership, what the response would be. The client’s response would most probably be that their intention was to instruct a legal practitioner or specialist in a particular field of law and that no consideration was given to which hat (namely, incorporated practice or partnership) the legal practitioner was wearing.

Two recent matters referred to the AIIF indicate some of the complexities, which can arise when legal practitioners conduct their practices through vehicles other than those normally used and recognised.

Case study one

Recently, an application for indemnity was notified to the AIIF by an entity purporting to be a partnership made up of limited liability companies of which the respective directors were legal practitioners. The AIIF refused to indemnify the entity, inter alia, on the grounds that it did not fall within the definition of a legal practice in terms of the Master Policy (clause 5) as it was neither:

‘a) a sole Practitioner;

b) a partnership of Practitioners;

c) an incorporated Legal Practice.’

The AIIF Master Policy defines a ‘legal practice’ as ‘the person or entity listed in clause 5’, that practices as any one of the three forms listed above. A ‘practitioner’ is defined as ‘any attorney, notary or conveyancer as defined in the [Attorneys] Act’. In the matter referred to in case study one, the entity thus did not fall within any of the categories of practices referred to in clause 5 of the Master Policy. The matter was referred to a senior legal practitioner for determination (in terms of clause 40 of the Master Policy) and the AIIF’s position was upheld. The result is that the legal practitioners in case study one do not enjoy cover under the AIIF policy for any claims that may arise during the period that their practice(s) were conducted through the unrecognised and uninsured entity and are thus exposed to potential personal liability in the event that they do not have other appropriate insurance cover in place.

Case study two

In another matter, an application for indemnity was received from a legal practitioner who, simultaneously, utilised a number of different variations of names for his practice and made reference to several entities (including a proprietary limited company) in the letterheads and other documents used in his practice. This application for indemnity was rejected on a number of grounds including that it did not fall within the definition of an insured in terms of the policy, as a proprietary limited company does not fall within the definition of an insured in the Master Policy. The legal practitioner concerned brought an application to join the AIIF as a third party to the claim against him. The AIIF opposed the application on various grounds, including the fact that the entity did not fall within the definition of an insured. The High Court dismissed the application brought by the legal practitioner. That legal practitioner will now have to be personally liable for the claims brought against him.

The various scenarios highlighted above bring us to two considerations that the AIIF wishes to address, being –

  • whether or not the form of practice elected is a recognised form of practice; and
  • the status of the persons in the practice – are those held out as partners/directors in fact holding such office?

These considerations have important implications for the legal practitioners concerned. It is important that some of the relevant statutory provisions are highlighted.

Section 23 of the Attorneys Act 53 of 1979 prescribes the circumstances under which a juristic person may conduct a practice. Rules 2.20 to 2.23 of the Rules for the Attorneys’ Profession set out the provisions applying to practices conducted as professional companies. Section 34 of the Legal Practice Act 28 of 2014 (the LPA) deals with the forms of legal practice in future and the relevant provisions read as follows:

‘(5) Attorneys may only practise –

(a) for their own account;

(b) as part of a commercial juristic entity referred to in subsection (7) and as such, may only make over to, share or divide any portion of their professional fee whether by way of partnership, commission, allowance, or otherwise with an attorney;

(c) as part of a law clinic established in terms of subsection (8);

(d) as part of Legal Aid South Africa; or

(e) as an attorney in the full-time employment of the State as a state attorney or the South African Human Rights Commission.’

Section 34(7) of the LPA reads as follows:

‘(7) A commercial juristic entity may be established to conduct a legal practice provided that, in terms of its founding documents –

(a) its shareholding, partnership or membership as the case may be, is comprised exclusively of attorneys;

(b) provision is made for legal services to be rendered only by or under the supervision of admitted and enrolled attorneys; and

(c) all present and past shareholders, partners or members, as the case may be, are liable jointly and severally together with the commercial juristic entity for –

(i) the debts and liabilities of the commercial juristic entity as are or were contracted during their period of office; and

(ii) in respect of any theft committed during their period of office.’

Practitioners must thus ensure that they conduct their practices through one of the recognised forms.

Section 8(1) of the Companies Act 71 of 2008 (the Companies Act) prescribes that there are two types of companies that may be formed and incorporated under the Companies Act, namely profit and non-profit companies.  For present purposes the most important provisions are set out in s 8(2)(c) of the Companies Act to the effect that a company is a:

‘(c) a personal liability company if –

(i) it meets the criteria for  a private company; and

(ii) its Memorandum of Incorporation states that it is a personal liability company.’

The second aspect of this article concerns the delineation/titles of persons in firms. The AIIF Master Policy defines a ‘principal’ as a ‘sole practitioner, partner or director of a legal practice or any person who is publicly held out to be a partner or director of a legal practice’ (clause XXIII). The limit of indemnity and deductible of the practice are determined by the number of partners/directors in the firm. Holding out to the public that the firm has higher number of partners/directors than it in fact has, will lead to a higher deductible being applied in respect of claims notified by the firm. In case study two referred to above, the plaintiff’s attorney was listed as a director on the defendant firm’s letterhead. This is another reason that the AIIF did not indemnify the claim. A partner/director of a firm is obliged to apply for a Fidelity Fund Certificate.

In some cases, there appears to be a misunderstanding of the concept of ‘director’ as commonly used in practice as against that used in the Companies Act. As a director of a personal liability company, regard must be had to the provisions of the Companies Act. Section 1 of the Companies Act defines a ‘director’ as a ‘member of the board of a company, contemplated in s 66, or an alternative director of a company and includes any person occupying the position of a director or alternate director, by whatever name designated’. It must also be remembered that s 77 of the Companies Act prescribes liability for directors and prescribed officers in certain circumstances – this must be read against the provisions of s 34(7)(c) of the LPA when that piece of legislation comes into effect. In the event that a practice has directors’ and officers’ liability insurance cover in place, inaccurate information in respect of the directors and officers of the entity may jeopardise the cover under that policy.

Practitioners must thus pay special attention to the risks associated with the manner in which they describe the entity in which they practice and also of the titles by which they hold themselves and other person in the firm out to the public.

Thomas Harban BA LLB (Wits) is the General Manager of the Attorneys Insurance Indemnity Fund NPC in Centurion.

This article was first published in De Rebus in 2018 (March) DR 20.

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