To cap or not to cap

Even the best-managed firm with the most highly tuned risk-management procedure will probably face a claim for compensation at some stage.

There is little doubt that some clients see their lawyer's professional indemnity insurance policy as a 'get out of jail' card, one which will compensate them following a failed case or transaction.

One approach that is slowly gaining acceptance is to cap the financial liability of the firm to a set limit in the event of a claim.

In the past, many firms have been reluctant to follow this route, as they were concerned that the work would go to a rival who retained unlimited liability.

However, with other advisers, notably accountants, more routinely capping their liability, perhaps the time is right for the legal profession to look at this option more seriously.

Limiting liability is only permitted under the professional conduct rules, providing the limit is not less than the minimum 1 million of cover required by the Law Society.

The rules also prevent firms from imposing limits if they are acting on a contentious business matter or if they are found guilty of fraud, or act with reckless disregard of professional obligations.

Care also needs to be taken when setting the limit and any conditions attached to it, as limitations of liability will fall within the general law covering exclusion clauses.

In particular, any limitation clause will need to meet the 'reasonableness tests' in the Unfair Contract Terms Act 1977 and the Unfair Terms in Consumer Regulations 1999.

This will take into account matters such as the nature of the transaction, the potential size of loss and the fees payable - so an unreasonably low limit is likely to be unenforceable.

For this reason, it is probably wise to consider limitation on a case-by-case basis, rather than including a standard clause in a firm's retainer letter.

There are several ways in which firms may consider limiting their exposure.

If they are acting on a transaction where other advisers, such as accountants, are limiting liability, it is sensible to limit the firm's exposure accordingly.

It is also sensible to agree a proportionate liability clause, to prevent the firm from being pursued for the majority of costs simply because it has a higher level of insurance cover than other advisers.

An alternative is to limit the firm's financial exposure to the limit of cover available under its professional indemnity insurance policy.

This means that if a firm has purchased cover for claims up to 10 million, then that figure should then be set as the limit of its liability to clients.

Whenever introductory caps are used on a practice's liability, it should be done with the client's consent.

It is not good enough simply to insert a limitation clause within the retainer letter unless the matter has been discussed with the client who has then confirmed agreement.

This column was prepared by Alexander Forbes Professions, a division of Alexander Forbes Risk Services UK