In the next decade, lawyers will inevitably rely much more heavily on “smart” checklists that allow them to practice more efficiently, more ethically, and more safely. Most malpractice claims are filed in connection with the preparation, filing, and transmittal of documents, which is an area where these checklists, and related integrated forms, can be particularly effective. This article uses real estate practice as a case study, because there are now more malpractice claims in real estate than in any other legal specialty. Kathleen Marie Ewins & Jason T. Vail, Profile of Legal Malpractice Claims: 2008–2011, 7 (2012).
Checklists Need Citations to Commentary and Integrated Forms
Smart checklists should include a one-line description of each document that is required for the matter covered by the checklist, together with a citation to expert commentary that explains the document’s essential provisions and the material risks, issues, and legal authorities relating to the document. The citation should also provide a source for a model form of the document. A mortgage lender’s general form of smart checklist is available as a free download at the author’s website. Brook Boyd, Real Estate Financing, https://sites.google.com/site/brookboydwebsite/real-estate-financing (last visited Oct. 10, 2013). See generally Brook Boyd, Real Estate Financing app. A (“Checklists for Real Estate Loans”) (2013) (providing 47 smart checklists for real estate financings).
The citations in a smart checklist help to keep the list short by eliminating explanations. Otherwise, the checklist loses its usefulness. The purpose of a checklist is to allow the lawyer to meet the urgent requests of the client—“the wire deadline is in five minutes; can we wire the funds now?” Traditional checklists—without such citations—will launch numerous questions from junior lawyers and paralegals that would otherwise be answered based on the cited sources.
Each Party Needs Its Own Checklist
The tendency is for the dominant party in a real estate deal, such as the lender, to prepare the checklist, based on a checklist used in a recent similar deal, and for the other parties to use the same checklist. Therefore, lender-oriented loan closing checklists, for example, are a dime a dozen, but borrower-oriented loan closing checklists are more rare, and checklists for other parties—even lawyers themselves—are very scarce.
Checklists Should Be Comprehensive and Without Blind Spots
Traditional real estate checklists have blind spots. For example, because the lender’s lawyer is generally paid for services through the closing, most loan closing checklists do not cover important post-closing issues relating to loans, such as when continuation or other additional UCC filings need to be made or when renewals are required of insurance policies and letters of credit securing the loan. But in Peoples National Bank of Rockland County v. Weiner, 514 N.Y.S.2d 772, 775 (App. Div. 1987), the court ruled that a lawyer for a lender was negligent for failing to confirm that UCC-1 filings had been made by a title abstract company within one month after the closing. In Barnes v. Turner, 606 S.E.2d 849, 851 (Ga. 2004), the court ruled that a lawyer was liable for both failing to advise his lender client that UCC-3 continuation statements should be filed every five years and (because such advice had not been given) failing to file such continuation statements. Accordingly, law firms often maintain internal post-closing procedures to obtain filed UCC-1 copies and to advise clients regarding UCC-3 continuations. Such procedures, however, usually do not cover the post-closing risks of a change of the debtor’s name or location, the reorganization of the debtor in a new state, the sale of any collateral to a third party not located in the debtor’s location, the conversion of any collateral into proceeds, or a change of the lender’s name or address, and the short deadlines for the UCC filings that should be made accordingly. See, e.g., UCC §§ 9-307(d), 9-315(d-e), 9-316(a-b, h-i), 9-503, 9-507(c)(2), 9-508, and 9-516 (2010).
Checklists Should Cover Material Provisions of Key Documents and Common Variations
A smart checklist ideally should include a separate section covering the key provisions that each party needs in the documents. For example, two excellent, detailed checklists cover the customary provisions of retail and office space leases, one from the perspective of landlords and the other from the perspective of tenants. S.H. Spencer Compton & Joshua Stein, Tenant’s Checklist of Silent Lease Issues (Third Edition), 28 Prac. Real Est. Law. 5 (Sept. 2012); S.H. Spencer Compton & Joshua Stein, Landlord’s Checklist of Silent Lease Issues (Second Edition), 36 N.Y. Real Prop. L.J. 13 (Spring 2008).
Smart Checklists Identify Material Risks and How to Avoid Them
There have been many seminars on legal issues relating to lender liability, but there are few checklists for the practical steps that can be taken to avoid it. A smart checklist should include a separate section summarizing the practical steps that lawyers can take to reduce the liability exposures of lenders, as well as the lawyer’s own liability. Counsel for borrowers (and their officers and investors) also need a separate checklist explaining how they can lawfully limit their respective personal liability.
A smart checklist for a particular type of transaction should also include a separate list of the risk factors for that transaction, for each party, and the methods of reducing or eliminating each risk. For example, out-of-state deals trigger registration, regulatory, and tax issues for each party. Lenders also need to know how to avoid borrower defenses (such as sovereign immunity, homestead laws, and lack of capacity), equitable subordination, and fraudulent transfers (such as in the case of a loan secured by multiple properties owned by separate entities). In addition, each party needs to know what factors will trigger a judicial recharacterization of a loan as a partnership; a sale of a loan as a loan to the seller or a security; a nonrecourse loan as a payment; a lease as an installment sale or loan; a sale-leaseback as a loan or partnership; or a loan participation as an unsecured loan or security.
Sub-checklists Should Cover Various Types of Deals
Sub-checklists should cover the special additional checklist items relating to common types of deals, from the perspective of each party. In the case of real estate finance, for example, sub-checklists should reflect equity kickers, mezzanine loans, convertible mortgage loans, leasehold mortgage loans, subordinate loans, construction loans, installment sales and purchase money loans, loans secured by residential property (including condominium and cooperative units), securitizations, sale-leasebacks, loan participations, loan sales, loan modifications and workouts, and deeds in lieu of foreclosure.
Legal forms should also be designed so that the special clauses, relating to each of the foregoing types of deals, are identified and available for insertion, as required, in the documents for each deal. Boyd, Real Estate Financing, supra, app. B (“Lists of Forms and Variations”). If these specialized clauses are available in advance, it is much easier for the drafting attorney to prepare documents for deals that involve combinations of various deal types, such as a subordinate mortgage loan secured by leasehold condominium units, or a participation interest in a mezzanine construction loan with an equity kicker. Conversely, if the specialized clauses are not readily available, and if the documents are prepared (as is now typical) based on the voluminous closing files for several similar prior deals, then, at minimum, the drafting of the documents becomes very time-consuming. Worse, the onerous drafting makes it easier for even an experienced lawyer to neglect an important provision.
Data Input Sheet Should List the Variable Terms in Integrated Forms
A specialized additional checklist is a data input sheet, id., app. C (“Data Input Sheet”), that lists each of the variable business terms that are added to the blank forms for each deal. In the case of a loan, for example, the standard terms should include the name and address of the lender, borrower, and guarantors, the amount of the loan, the loan term, and so on. This data input sheet should be integrated with a complete set of documents, using the same variable terms for consistency. Once the data input sheet is completed, the senior lawyer on the deal should review it and sign off on it. Finally, each of the business terms in the integrated documents should be completed using document assembly software, or a similar automated process, to eliminate errors that can occur when a human being manually inserts each of these variable business terms, one at a time, into each of the documents. In Prudential Ins. Co. of America v. Dewey, Ballantine, Bushby, Palmer & Wood, 605 N.E.2d 318, 319 (N.Y. 1992), for example, a lender sued for malpractice because “one of the recorded documents erroneously stated the outstanding balance of the first preferred fleet mortgage securing the debt as $92,885, rather than the correct sum of $92,885,000.” The deletion of only three little zeros in a long document can have a big effect.
Checklists Must Include Items Required by Governing Documents and Laws
There is no substitute for reviewing the governing documents (in the case of a loan, the letter of intent or the commitment) and confirming that there is a line in the checklist for each item that is required by such governing documents. Ideally, a citation to the relevant section of the applicable governing document should also be added to each such checklist line. Adding a citation is time-consuming but necessary. A lawyer may also have an obligation to obtain or file other documents under applicable court orders and rules, ethics rules, or case law. In Grubin v. Rattet (In re Food Management Group, LLC), 380 B.R. 677, 689–90 (Bankr. S.D.N.Y. 2008), for example, a law firm for the debtor failed to make sure that a prospective bidder (in a sale of the debtor’s assets under Bankruptcy Code § 363) had filed an executed “Bidder Registration Form” and financial information in its bid to acquire the assets of the debtor. A settlement agreement and a court order adopting the bidding procedures required the form to be filed. Id. at 712–13. Failure to file the form was deemed to be a breach of a fiduciary duty owed to the bankruptcy trustee, a nonclient. Id. at 712–14.
All material deadlines should be separately listed in the checklist (and communicated to the client, if appropriate). Such deadlines ideally should also be added to computer programs (for example, Microsoft Outlook) that will provide automatic reminders to the responsible parties.
A lawyer may be deemed to have assumed a duty for checklist items that are required by nonclients, in accordance with prior customs and practices that are not set forth in any signed written agreement. One court refused to dismiss a complaint alleging that the Thelen law firm was negligent for failing to take any steps to ensure that a closing checklist, maintained by Davis Polk, included a line item for an “additional secured indebtedness registration statement (ASIRS).” AG Capital Funding Partners, L.P. v. State St. Bank & Trust Co., 842 N.E.2d 471, 478–79 (N.Y. 2005). This ASIRS was essential to the perfection of the security interest of the holders of various debt instruments issued by Thelen’s client. The plaintiff also alleged that Thelen negligently failed to arrange for delivery of the signed ASIRS to Bankers Trust, which was the collateral trustee of the pool of assets that were intended to secure the debt instruments. Id. at 476–77.
Checklists Should List Only Specific Items, Not General Objectives
A checklist should list specific, clearly identified items, rather than vague objectives or performance standards. In Garten v. Shearman & Sterling LLP, 859 N.Y.S.2d 80, 82 (App. Div. 2008), the law firm’s
closing documents checklist included [a line item for] “[e]vidence that all other action that the Lender may deem necessary or desirable in order to perfect and protect the first priority liens and security interests created under the Security Agreement has been taken (including, without limitation, UCC-3 termination statements).” Thus, [the law firm] was obligated not only to prepare the loan documents, but also to protect [the lender]’s expectation that . . . he would hold a senior security interest. . . . However, [the law firm] allegedly neither attempted to obtain such documentation from the senior creditors nor advised [the lender] of the hazards of proceeding with the loan without it.
Checklists Should Disclose That They Are Mere Summaries and Not Legal Opinions
Each checklist is merely a summary. Because a checklist is often sent to a client or to third parties, ideally a caveat should be added prominently to each checklist to disclose the obvious—that is, that the checklist is not intended as a complete list of all applicable documents and actions and is not intended to constitute a legal opinion and that reliance should be placed only on the original documents.
Checklists Can Avoid Ethical Lapses and Wasted Effort, and Confirm Client Instructions
Each lawyer has an ethical duty to explain to the client what the lawyer will be doing on behalf of the client. Model Rules of Prof’l Conduct R. 1.4; Restatement (Third) of the Law Governing Lawyers §§ 20, 48 & 52(1) (2000); Spector v. Mermelstein, 485 F.2d 474, 479–80 (2d Cir. 1973). There is also a very practical reason for such explanations to the client: no lawyer wants to work hard taking action that a client has no use for, and no client wants to get a bill for such work. To comply with such ethical duties, and to avoid such misunderstandings, ideally the lawyer should send to the client, as soon as feasible, a checklist confirming the documents and scope of work for such matter.
The lawyer also has an ethical duty to explain to the client the checklist and its legal consequences, as well as any material omissions, variations, options, or risks. Model Rules of Prof’l Conduct R. 1.4; Restatement (Third) of the Law Governing Lawyers §§ 20, 48 & 52(1) (2000); Spector v. Mermelstein, 485 F.2d at 479–80. An experienced client may not need a detailed explanation. In the case of an inexperienced client, however, the lawyer should take the time to provide to the client a reasonable explanation of the checklist. If the client has been properly informed by the lawyer, and the client has had a reasonable opportunity to review the checklist, then the client may, at its option, confirm that the lawyer is authorized to proceed and acknowledge that the lawyer has no obligation to obtain or deliver any document not set forth on the checklist. A lawyer should also consider sharing with the client, when appropriate, the lawyer’s data input sheet (listing the key business terms that are inputted into the legal documents) and asking the client to confirm such business terms. Further, the lawyer should also reserve the flexibility to waive or modify any of the documents listed on the checklist to the extent instructed or agreed to by the client, customary for the same or similar transactions, or pursuant to the lawyer’s reasonable judgment. Reserving flexibility allows the lawyer to deal with the unexpected and close the deal without distracting the client about petty details.
Seeking client input about the checklists and data input sheets benefits the client by giving the client what it wants and avoiding surprises and excessive bills. The lawyer also benefits by following the client-approved checklist. “A client who has instructed a lawyer to act in a specified way, having received adequate advice about the risks of the proposed course of action . . . , cannot recover for malpractice if the lawyer follows the client’s instructions and harm results to the client.” Restatement (Third) of the Law Governing Lawyers § 21 cmt. d, illus. 1 (2000). See also id. § 52 cmt. b; id. § 54 cmt. h.
Checklists Can Help Lawyers Comply with the Duty to Advise Clients of Risks
Lawyers may be liable for failing to warn clients of even obvious risks. For example, in Conklin v. Hannoch Weisman, 678 A.2d 1060, 1063 (N.J. 1996), the sellers’ attorney allegedly failed to advise the sellers of the risk of accepting a purchase-money mortgage that was subordinated to a construction loan mortgage. In Cicorelli v. Capobianco, 453 N.Y.S.2d 21, 22 (App. Div. 1982), aff’d, 449 N.E.2d 1273 (N.Y. 1983), an attorney was found negligent for failing to advise “sophisticated real estate dealers”—who had signed a contract of sale—that they were obligated to pay taxes and to cancel the contract by means of a formal letter.
The same smart checklists that lawyers can use to identify material risks, as described above, can also be used by a lawyer seeking to fulfill his obligation to inform his client of such risks. Nonetheless, the lawyer should try to use plain language, not legalese, when explaining these risks.
Checklists Can Confirm Agreed Limits on Scope of Legal Representation
The typical legal retainer letter describes a very broad scope for the lawyer’s representation of a client. The scope of the lawyer’s representation, however, typically comes into focus at various points during the course of such legal representation. To avoid additional misunderstandings (such as when a lawyer performs work that the client does not need and does not want to pay for), the lawyer should describe the general scope of the lawyer’s work and what is excluded. For example, during the typical real estate financing, the borrower’s counsel is not acting as zoning, income tax, or trusts and estates counsel. Similarly, the lender’s counsel is generally not representing loan participants or the lender’s assignees. See Leonard v. Dorsey & Whitney LLP, 553 F.3d 609, 631 (8th Cir. 2009); Reade H. Ryan Jr., The Role of Lead Counsel in Syndicated Lending Transactions, 64 Bus. Law. 783, 797–99 (2009). It may be appropriate to confirm this limitation by a notation on the closing checklist, with the client’s knowledge and consent, once the lawyer has properly informed the client regarding such scope limitations. Restatement (Third) of the Law Governing Lawyers § 19(1) (2000).
Checklists Are Merely Tools That Should Be Supervised by Experienced Lawyers
Inexperienced lawyers can be overly zealous in requiring checklist items that are not very important. This practice can delay, or even jeopardize, deals that should be closed even if the checklist is not fully complied with. Ideally, checklist requirements (and waivers thereof) should be supervised by experienced lawyers that have successfully closed (or litigated) hundreds of similar deals and who are experts regarding the applicable laws and reported decisions affecting the transaction. Nothing is more excruciating than sitting across the closing table from the most junior person in the room, who is armed with a kitchen- sink checklist and who insists on getting everything on it, regardless of the costs and delays involved.
Smart checklists and integrated forms can clearly improve the quality of legal practice and reduce costs. But they also can play an important role in avoiding misunderstandings between lawyers and clients, helping lawyers to comply with their ethical obligations to their clients, and avoiding malpractice.