Wash. Legal Found. v. Texas EAJC Found.

• Decision Date: 15 October 2001
• Docket Number: No. 00-50139,00-50139
• Parties: (5th Cir. 2001) WASHINGTON LEGAL FOUNDATION; WILLIAM R. SUMMERS; and MICHAEL J. MAZZONE, Plaintiffs-Appellants, v. TEXAS EQUAL ACCESS TO JUSTICE FOUNDATION; RICHARD TATE, Chairman, Texas Equal Access to Justice Foundation; THOMAS R. PHILLIPS, Chief Justice; NATHAN L. HECHT, Justice; CRAIG ENOCH, Justice; JAMES A. BAKER, Justice; PRISCILLA R. OWENS, Justice; GREG ABBOTT, Justice; DEBORAH HANKINSON, Justice; HARRIET O'NEILL, Justice; SUPREME COURT DEFENDANTS, Defendants-Appellees
• Court: U.S. Court of Appeals — Fifth Circuit

Page 180

270 F.3d 180 (5th Cir. 2001)

WASHINGTON LEGAL FOUNDATION; WILLIAM R. SUMMERS; and MICHAEL J. MAZZONE, Plaintiffs-Appellants, v. TEXAS EQUAL ACCESS TO JUSTICE FOUNDATION; RICHARD TATE, Chairman, Texas Equal Access to Justice Foundation; THOMAS R. PHILLIPS, Chief Justice; NATHAN L. HECHT, Justice; CRAIG ENOCH, Justice; JAMES A. BAKER, Justice; PRISCILLA R. OWENS, Justice; GREG ABBOTT, Justice DEBORAH HANKINSON, Justice; HARRIET O'NEILL, Justice; SUPREME COURT DEFENDANTS, Defendants-Appellees.

No. 00-50139

UNITED STATES COURT OF APPEALS FIFTH CIRCUIT

October 15, 2001

[Copyrighted Material Omitted] Appeal from the United States District Court for the Western District of Texas

Before WIENER, BARKSDALE, and EMILIO M. GARZA, Circuit Judges.

RHESA HAWKINS BARKSDALE,

Circuit Judge:

The Supreme Court having held in this case that, for purposes of the Takings Clause of the Fifth Amendment, interest earned on client-funds deposited in demand accounts pursuant to the Texas Interest on Lawyers Trust Accounts (IOLTA) program is the "private property" of the client, Phillips v. Washington Legal Foundation, 524 U.S. 156, 160, 172 (1998), and the Court having remanded this case for consideration, inter alia, of two other subparts of the Takings Clause (whether there has been a "taking" and, if so, what "just compensation", if any, is due, id. at 172), and the district court, following a bench trial on remand, having concluded, inter alia, there was neither a compensable loss nor a taking, the principal issues at hand are: whether there can be a taking when, without the cost-savings provided by the IOLTA program, client- funds would not earn "net" interest; and whether, even if there is a taking, prospective injunctive relief can be a remedy.

Because we hold that the Fifth Amendment is violated, we need not reach Appellants' claim that the IOLTA program violates the First Amendment as well. REVERSED and REMANDED.

I.

The requisite underlying facts have been fully discussed in prior opinions by the Supreme Court and our court. See Phillips v. Washington Legal Found., 524 U.S. 156 (1998); Washington Legal Found. v. Texas Equal Access to Justice Found., 94 F.3d 996 (5th Cir. 1996). They are restated here, together with pertinent new facts.

When attorneys hold their clients' funds, Texas ethical rules require placing those funds in a trust account that permits withdrawal on demand. Tex. Disciplinary Rules of Professional Conduct, Art. 10, § 9, Rule 1.14(a). Those rules allow attorneys to aggregate client-funds in a single trust account, but, of course, prohibit attorneys from commingling their money with the trust fund. Id. Prior to 1980, because federal law prohibited banks from paying interest on demand accounts, these accounts were, in effect, interest-free loans to the banks. See S. Rep. No. 96-368, at 5 (1980), reprinted in 1980 U.S.C.C.A.N. 236, 240.

In 1980, Congress enacted legislation that allowed negotiable order of withdrawal (NOW) accounts. See Depository Institutions Deregulation and Monetary Control Act of 1980, 94 Stat. 132, 146 (codified as amended at 12 U.S.C. § 1832). In general, NOW accounts allow attorneys to pool client-funds in an interest-bearing trust account.¹

The creation of NOW accounts led to the creation of IOLTA programs. When either the amount of a client's funds to be held is nominal or the period of time for which the funds will be held is brief, a NOW account for such client-funds is not feasible, because the cost of maintaining the account is greater than the interest the client would have earned (no "net interest"). As discussed infra, such costs are those incurred not only by the bank, but also by the attorney. In this situation, the trust accounts are -- as they were formerly -- interest-free loans to the banks. IOLTA programs transfer this benefit from the bank to legal providers for the indigent. Based on the assumption -- later held erroneous in Phillips -- that the interest generated was not the client's property, the American Bar Association's Standing Committee on Ethics and Professional Responsibility opined that IOLTA programs are ethical. See ABA Comm. on Ethics and Prof'l Responsibility, Formal Op. 348 (1982).

The Texas Supreme Court created its IOLTA program in 1984. The program was voluntary, permitting an attorney to place client-funds that were "nominal in amount" or "reasonably anticipated to be held for a short period of time" in an unsegregrated, interest-bearing bank account (an IOLTA account), the interest on which was paid to the Texas Equal Access to Justice Foundation (TEAJF), a non-profit corporation created by the Texas Supreme Court. See Tex. Gov't Code Ann. tit. 2, subtit. G, app. A, art. 11 §§ 6-7 (1987). TEAJF manages the interest earned from the IOLTA accounts and distributes it to non-profit organizations that "have as a primary purpose the delivery of legal services to low income persons", with the exception that funds may not be used to finance class actions or to lobby on behalf of a political candidate or issue. See Texas Rules of Court - State, Rules Governing the Operation of the Texas Equal Access to Justice Program [TEAJF rule] rule 10, 15 (West 1996).

Texas' voluntary IOLTA program generated only $1 million annually. Therefore, in 1988, following the lead of several other States and the recommendation of the American Bar Association, the Texas Supreme Court made mandatory attorney participation in the IOLTA program.

An attorney ... receiving in the course of the practice of law ... client funds that are nominal in amount or are reasonably anticipated to be held for a short period of time, shall establish and maintain a separate interest-bearing demand account at a financial institution and shall deposit in the account all those client funds.

Tex. Gov't Code Ann. tit. 2, subtit. G, app. A, art. 11 § 5 (West Supp. 1995) (emphasis added). The rules define which funds are "nominal in amount" and/or "held for a short period of time". They state that a client's funds may be deposited in an IOLTA account only if the attorney holding the funds determines they

could not reasonably be expected to earn interest for the client or if the interest which might be earned on such funds is not likely to be sufficient to offset the cost of establishing and maintaining the account, service charges, accounting costs and tax reporting costs which would be incurred in attempting to obtain interest on such funds for the client.

TEAJF rule 6 (emphasis added).²

The January 1999 guidelines to the TEAJF rules provide attorneys "should consider all costs associated with such an account" in determining whether a client's funds are suitable for deposit in the program. But, W. Frank Newton, past chair of TEAJF and member of its board of directors, testified that attorneys may disregard their overhead costs. (As Appellees note, the guidelines have been revised -- approximately when the trial on remand was held in September 1999 -- to provide that attorneys may consider all costs associated with such an account.)

Attorneys must review periodically whether changed circumstances require removing a client's funds from an IOLTA account. TEAJF rule 6. Along this line, if an attorney determines funds were erroneously placed in an IOLTA account, he must notify TEAJF and seek a refund of the interest earned.

The mandatory IOLTA program generated much more revenue than its predecessor. Recent earnings approximate over $5 million annually.

As noted, Texas' IOLTA program was made mandatory in 1988. In 1994, Michael J. Mazzone, a Texas attorney who regularly places client-funds in an IOLTA account,³ William R. Summers, a Texas citizen who currently has funds in an IOLTA account, and Washington Legal Foundation, a public interest law firm with members similarly situated to Mazzone and Summers (Appellants), filed this action against the Texas IOLTA program, naming as defendants TEAJF, TEAJF's chairman, and the nine Justices of the Texas Supreme Court (Appellees). Appellants claimed: the IOLTA program impermissibly takes interest earned from client-funds, in violation of the Fifth Amendment; and the program forces Appellants to support speech they find offensive, in violation of the First Amendment. Appellants sought monetary reimbursement, as well as declaratory and injunctive relief.

The district court granted Appellees' motion for summary judgment, concluding clients lacked property rights in the interest generated by their funds. Washington Legal Found. v. Texas Equal Access to Justice Found., 873 F. Supp. 1, 7 (W.D. Tex. 1995). But, through an opinion authored by the late Judge John Minor Wisdom, our court reversed in part, holding the interest was the clients' property. Washington Legal Found., 94 F.3d at 1000. On the other hand, our court affirmed the district court's conclusion that Appellees have Eleventh Amendment immunity from the monetary- restitution claim. Id. at 1005.

The Supreme Court granted certiorari, limiting its review to: "Is interest earned on client trust funds held by lawyers in IOLTA accounts a property interest of the client or lawyer, cognizable under the Fifth Amendment of the United States Constitution, despite the fundamental precept of IOLTA that such funds, absent the IOLTA program, could [not] earn interest for the client [or] lawyer?". Phillips v. Washington Legal Found., 521 U.S. 1117 (1997) (emphasis added). In June 1998, the Court affirmed, stating the issue to be "whether interest earned on client-funds held in IOLTA accounts is 'private property' of either the client or the attorney for purposes of the Takings Clause", and holding the interest is the property of the client. Phillips, 524 U.S. at 160. In the light of its "hold[ing] that the interest income generated by funds held in IOLTA accounts is the 'private property' of the owner of the principal [,the client,]", id. at 172, the Court remanded for further proceedings,...