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Introductions and referrals

Guidance on Section 2(3) of the Solicitors' Introduction and Referral Code 1990 from the professional ethics department of the Law Society

The Law Society has received a number of queries, in light of recent case law, with regard to whether, and in what circumstances, payments made by solicitors to claims management companies amount to referral fees in breach of the current solicitors' introduction and referral code.

The Law Society's professional ethics division has therefore revised its guidance.

It should be noted that the guidance is based on current case law and solicitors who are involved in schemes where they know there may be an issue relating to referral fees should also keep themselves up to date on any relevant legal cases.

Will the current rule barring the payment of referral fees be changed? The Law Society's Council has been considering whether to retain the prohibition on solicitors' paying introduction and referral fees to third parties.

The council has expressed the view that it would be interested in looking at draft rules which permit payments for referrals in certain circumstances that could not have a negative impact on the client's interests and the solicitor's independence.

Work has now commenced on preparing draft rules in line with the council's wishes, but these will not be considered by the council before its meeting in October.

Until that happens, it is very difficult to give any precise information as to what the future shape of the rules might be.

Even once the council has adopted new rules they may still have to be approved under the schedule 4 procedure set out in the Courts and Legal Services Act 1990, which requires that the Director-General of Fair Trading and four senior designated judges be given the opportunity to comment.

Given the difficulties which have to be overcome, we cannot see a new rule being in force before 2004.

What sort of payments are in breach of the rule? Turning now to the current position, the subject of payments for referrals is dealt with in section 2(3) of the code.

This provides that 'solicitors must not reward introducers by the payment of commission or otherwise'.

The problem with this provision has always been trying to interpret what constitutes a 'reward'.

Obviously any payment which is a direct reward for the introduction of clients is not permitted, but many schemes now involve payments for a variety of services which can, or might, include a reward to the introducer.

Recent judgments in cases involving claims management companies have helped to clarify what payments amount to a reward in breach of the rule.

Any payment from a solicitor to someone who introduces work must be carefully scrutinised to ensure that it is no more than a proper payment for services provided to the solicitor.

In particular any payment:

- Must be for genuine services provided to the solicitor and not services provided for the benefit of the client.

Services would be provided for the benefit of the client if they include anything the solicitor would normally do for the client, for example, interviewing witnesses, arranging for plans to be drawn up or for photographs to be taken;- Must not include any element of reward, such as excessive fees, for the services provided;- Must not generally be calculated by reference to the volume of referrals or the solicitor's fee income from this source of work (because that would suggest that the solicitor is paying not just for the services provided to his firm, but also for the referrals, that is to say, he is paying a referral fee);- Must not generally be calculated on the basis of a fixed fee per case where the amount of work actually undertaken per case may vary (because that too would suggest that an element of the fee is a referral fee);- Must not be imposed on the solicitor as a condition of joining the scheme, so that the solicitor has no choice but to 'buy' the services (the 'reward' to the introducer being the agreement to buy the services);

Solicitors may pay proper disbursements and any such payment is unlikely to amount to a reward in breach of the rule.

A proper disbursement is a payment for a service provided on behalf of the client - on the instructions of the solicitor after the solicitor has been instructed by the client and for a service which the solicitor regards as necessary to progress the client's case.

Proper disbursements can be charged to the client or to any third party indemnifying the client's costs.

Simply calling a payment a disbursement does not make it a disbursement.

Also, see the last bullet point above - if incurring the disbursement is a condition of joining the scheme or obtaining the case, that could mean the solicitor is rewarding the introducer by accepting the condition.

How will the current rule be enforced? We believe that a number of solicitors will want to consider whether or not they are compliant with the current code.

It is only recently that the courts have been called on to determine issues relating to the various payments that are part of such schemes.

Solicitors who find their current arrangements are not compliant should urgently regularise their position.

Some uncertainties appear to have been resolved after the publication of the court ruling.

Therefore, arrangements that solicitors have in future will be considered in the light of the judgments and this guidance, both of which make the rule clearer and so more enforceable.

The Law Society's compliance board has, however, given careful consideration as to whether the regulation directorate of the Society should undertake a general investigation into firms who were members of schemes, and who were, in the light of the judgments, paying referral fees in breach of the rule.

On balance, the compliance board has concluded that little regulatory purpose would be served in pursuing such an investigation.

This decision is limited in nature and does not affect existing investigations.

Complaints from clients against firms who were members of such schemes will continue to be investigated, in particular to ensure that the referral arrangements did not cause the firm to provide a poor service to clients, or put the firm in breach of its duty to give independent advice in the best interests of the client.