Privity, Legal Malpractice and the NYS Court of Appeals

Here is an interesting article from Marian C. Rice, Esq., a source we've quoted before [11/15/05]. It discusses a recent NYS Court of Appeals case on privity: the right of a non-client to sue counsel in Legal Malpractice based upon the acts of the non-retained attorney.

N.Y. Firm Held Subject to Third-Party Suit

By Marian C. Rice, L'Abbate, Balkan, Colavita & Contini, L.L.P.

A.G. Capital Funding Partners, L.P. v. State Street Bank and Trust Company, et al.
New York State Court of Appeals, November 17, 2005

Based upon "industry custom and practice" evidence that a borrower's counsel
assumed a duty to the representative of a secured party, to deliver
instruments intended to secure debt totaling $750,000,000, the New York State Court of
Appeals has reinstated a third-party action against the borrower's counsel
based upon theories of negligence and contribution.

In the late 1990s, Loewen Group International ["Loewen"], represented by
Thelen Reid ["Thelen"], sought to raise capital by issuing debt securities secured
by a single pool of collateral. The agreement, covering a series of secured
debt transactions, two of which were at issue in the case, provided that
Bankers Trust would act as the Collateral Trustee on the assets securing the debt.
For the investors to acquire secured creditor status, the agreement provided
that a document called an Additional Secured Indebtedness Registration Statement
["ASIRS"] had to be delivered to Bankers Trust. The agreement expressly
obligated State Street, the secured party representative in the pertinent
transactions, to deliver the ASIRSs to Bankers Trust, thereby perfecting the investors'
security interests.

In both transactions, the ASIRSs were not delivered to Bankers Trust and the
secured interest remained unperfected.

In September 1999, Loewen filed for bankruptcy. During the course of the
bankruptcy proceeding, the investors settled their claim against Loewen for an
amount allegedly discounted because of uncertainty over whether the debt was
secured. As a result, the investors commenced suit against State Street, which
served a third-party complaint against the underwriters and Loewen's counsel,
Thelen. In the third-party complaint and supplemental expert affidavits, State
Street asserted that if it had the duty to deliver the ASIRSs to Bankers Trust,
the underwriters and Thelen assumed that duty based upon both the custom and
practice in the industry and the conduct of Loewen's counsel in two prior
transactions controlled by the same agreement.

The trial court dismissed all claims except for contribution and negligence.
The Appellate Division dismissed the remaining negligence and contribution
claims holding that since State Street assumed the obligation to deliver the
ASIRS in its contract with Bankers Trust, State Street could not controvert the
plain meaning of the agreement with contradictory evidence of custom or industry
practice.1

The Court of Appeals affirmed the dismissal of the legal malpractice and
negligence misrepresentation claims against Thelen holding that the absence of
privity or a relationship so close as to approach privity precluded the negligent
misrepresentation claim, while the attorney malpractice claim could not be
stated by a non-client in the absence of privity unless State Street set forth a
claim of fraud, collusion, malicious acts or other special circumstances.

However, the Court held that State Street stated a claim for negligence
against Thelen, as well as the underwriters: "The industry custom as set forth in
the supplemental evidentiary materials coupled with the parties' conduct,
supports a claim that the third-party defendants together or in part assumed that
duty. The pleadings allege that the third-party defendants did not act
reasonably in relation to such duty." Citing cases not involving professional
defendants, the Court adopted State Street's argument that "evidence of industry
practice and standards is admissible to establish a duty of care" and that "a
course of conduct that induces reliance, as alleged here, may implicate a duty of
care."

The Court of Appeals similarly upheld the contribution claim against Thelen
rationalizing that since the negligence claim survived the motion to dismiss,
the contribution claim "predicated on a breach of duty to plaintiff or
defendant/third-party plaintiff" remains viable.

The dissent agreed that while State Street may have relied upon the
underwriters to deliver the ASIRS to the proper destination, there was nothing in the
record to support the allegation that Thelen, as Loewen's counsel, assumed a
duty to deliver the ASIRSs.

The courts in New York have long held that the existence of direct privity or
a "relationship so close as to approach that of privity" 2 was a prerequisite
to the assertion of a claim against an attorney for either legal malpractice
or negligent misrepresentation and that a non-client may not sue for
professional negligence "absent fraud, collusion, malicious acts or other special
circumstances." 3 In the A.G. Capital decision, the Court of Appeals acknowledges
the propriety of both these principles of law and yet apparently carves out an
exception enabling a non-client to articulate a claim against an adversary's
counsel by alleging that counsel "assumed the duty" that the non-client may
have owed and that counsel "did not act reasonably in relation to such duty."
While it may not have been the Court of Appeals' intent in reinstating the
third-party action against the Thelen law firm, the A.G. Capital decision
potentially exposes attorneys to claims by non-clients in many different factual
settings.

1) 10 A.D.3d 291, 781 N.Y.S.2d 88 (1st Dep't 2004). 2) Prudential Ins. Co. v.
Dewey, Ballantine, Bushby, Palmer & Wood, 80 N.Y.2d 377, 382, 590 N.Y.S.2d
831, 833 (1992). 3) Chinello v. Nixon Hargrave Devans & Doyle, 15 A.D.3d 894,
788 N.Y.S.2d 750 (4th Dep't 2005); Rovello v. Klein, 304 A.D.2d 638, 638, 757
N.Y.S.2d 496 (2nd Dep't 2003), lv. denied 100 N.Y.2d 509, 766 N.Y.S.2d 163, 798
N.E.2d 347

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