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As a courtroom full of insurance executives watched, last week the Texas Supreme Court heard arguments in UPLC v. American Home Assurance Co. Inc. and Travelers Indemnity Co., a case that will decide the future of so-called “captive law firms.” Seven years ago the Unauthorized Practice of Law Committee of the Supreme Court began investigating insurers’ use of staff counsel or captive firms — insurance company-employed lawyers who defend Texas policyholders against suits in Texas courts. The UPLC is charged with enforcing the state’s unauthorized practice of law statute, �81.101 of the Texas Government Code. In briefs to the high court, the UPLC argues that the use of staff counsel by insurance companies to represent policyholders is a direct violation of �81.101, because insurance companies are practicing law, which is forbidden by the statute. The UPLC also maintains that staff counsel cannot serve two masters — an insurance company that pays their salaries and policyholders who are their clients. In a pre-emptive strike, two insurance companies filed a declaratory judgment action in Dallas state district court several years ago seeking a ruling that the use of captive firms does not constitute the unauthorized practice of law. On May 20, 2002, former 68th District Judge Gary Hall ruled in American Home that the use of captive firms violates the UPL statute — a ruling Eastland’s 11th Court of Appeals overturned the following year. The 11th Court ruled there was nothing to demonstrate that staff counsel should not represent insureds and that any ethical concerns could be addressed by the Texas grievance system. David Keltner, a partner in Fort Worth’s Jose, Henry, Brantley & Keltner who represents the UPLC, told the Supreme Court on Sept. 28 that the UPLC’s concern about the insurance companies’ use of captive firms was not triggered by trial lawyers looking to protect their own pocketbooks — an accusation commonly lodged against the UPLC. “It’s not about protection of lawyers,” Keltner said of the UPLC’s intentions. “It is for the protection of the public against the corporate practice of lawyers who by the nature of their employment have divided loyalties.” Numerous large insurance companies in Texas use captive firms, employing about 175 lawyers to defend thousands of policyholders in the state, Bill Dorsaneo, a solo practitioner and professor at Southern Methodist University Dedman School of Law who represents Travelers, says in an interview. Dorsaneo urged the high court to keep the 50-year-old practice alive by blessing the 11th Court’s opinion. He said the UPLC’s belief that insurance companies that use captive firms are engaged in the unauthorized practice of law is flat-out wrong — a sentiment echoed in the argument made by Tom Wright, a partner in Houston’s Wright Brown & Close who represented American Home before the high court. “The lawyers are practicing law. The insurance companies sell insurance and provide liability policies,” Dorsaneo said. “The suggestion that the insurance companies are practicing law because their employees are practicing law … it doesn’t make any sense.” CONFLICT QUESTIONS Nearly all of the court’s nine justices fired off questions that poked holes in Keltner’s, Dorsaneo’s and Wright’s positions. Most of the questions focused on potential conflicts that can arise when insurance company-employed lawyers represent policyholders. “The possibility of conflict is what drives a lot of the analysis,” Justice Harriet O’Neill told Keltner. “So what if you have a situation where there really is no possibility of conflict — no reservation-of-rights letter has been issued, and the insurance company agrees to defend? Where is the conflict of interest there? Where is the harm?” A reservation-of-rights letter is a statement from the insurer notifying the policyholder that, even though it’s defending the claim, the insurer is reserving its right to assert that there is no coverage for the claim. Keltner admitted that, in the situation O’Neill described, there might not be a violation of the UPL statute. Justice David Medina seemed to believe there wasn’t much of a difference between using outside counsel or insurance company staff counsel to represent a policyholder, because both must submit invoices to the insurance company and follow the company’s litigation plan. “At the end of the day, it’s the insurance carrier that still calls the shots,” Medina said. “That is inherently the same kind of conflict you have with the captive firms.” Keltner disagreed. “I think there is significant difference between staff counsel and outside counsel, when you are dealing with the issue of whether they bend to the will of an insurance company.” O’Neill asked a question that may hint at the court’s position on the outcome of the case — creating a rule that protects the policyholder and allows insurance companies to continue using captive firms. “So you’d be comfortable with a rule that says, as long as there is no reservation-of-rights letter issued, then staff counsel would not be the unauthorized practice of law?” O’Neill asked Keltner. “I don’t think you can draw the line that thin,” Keltner responded. “And here’s why: The reservation of rights doesn’t determine this issue, because conflicts come later on in the representation.” O’Neill asked a similar question of Dorsaneo. “If we were to try to draft a rule to say it was OK in this circumstance as long as there is no possibility of conflict, but if there’s possibility of conflict it’s the unauthorized practice of law, where would you draw that line?” Dorsaneo said that was a difficult question to answer. “I think the possibility of conflict is the reality of litigation, where multiple clients are represented or multiple interests are represented,” Dorsaneo answered. “The standard needs to be whether there is a conflict. The difficulty is in deciding what that means.” While insurance companies have long said that using captive firms saves them money, Justice Nathan Hecht asked Wright what the implications of such cost-savings have on staff counsel. “The insurers believe that it is efficient cost-wise to employ staff attorneys. How is that efficiency obtained if not through control?” Hecht asked Wright. “It’s obtained by paying a lawyer on a salary basis rather than on an hourly basis,” Wright answered. “Why is that?” Hecht asked. “You’re taking the profit out of it by hiring out the younger lawyers at $125 an hour. There is a profit motive [for law firms] by charging more for their associates than they pay their associates,” Wright replied. “There is no profit on that service basically [for insurance companies].” “It seems to me that the only way to get more and more efficiency out of the lawyer is to put more constraints on him than he’d have in another setting,” Hecht said. After the argument, all three lawyers said they were pleased by the level of debate the justices displayed on the issue of captive firms. But they disagree over whether the court will overrule the 11th Court’s decision OK’ing insurance companies’ use of captive firms. “I think they’ll write an opinion that takes up a lot of the issues of the Eastland Court opinion,” Wright says. “I think they believe that this is an ethics issue” and not necessarily one involving a UPL violation. Dorsaneo says he believes the high court will see the logic of the Eastland Court of Appeals and let the practice of captive firms remain. But Keltner isn’t so sure. “I don’t think they’ll let the Eastland court decision stand,” Keltner says. “It was a very active court today. They really understood the issues,” Keltner says. “It’s fun to argue a case when a court is that hot.”

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