Judges Press Companies That Cut Off Legal Fees
By Lynnley Browning
New York Times
Monday, April 17, 2006
Federal judges are beginning to question why companies are
cutting off legal fees to their executives when they become
caught up in criminal investigations.
The judge in the tax-shelter trial of former tax
professionals at KPMG last week ordered a hearing to
determine whether prosecutors had improperly put pressure on
the accounting firm to stop paying the defendants' legal
bills. Last month, a federal judge in New Hampshire granted
five former executives of Enterasys Networks a three-month
reprieve in their trial after he questioned whether there
was undue influence to cut off their legal payments. (The
company has since restored them.)
The questions have emerged as other companies, including
Symbol Technologies and
HealthSouth, have stopped paying former executives'
bills for lawyers.
This shift from a long tradition of paying such costs, one
that is codified in many companies' bylaws and in some
states' laws, has come since the Justice Department set
guidelines in 2003 amid a sweeping crackdown on corporate
The guidelines, contained in the so-called Thompson
memorandum, written by Larry D. Thompson, the deputy
attorney general at the time, lay out factors that
prosecutors can weigh when deciding whether to seek an
indictment of a company — a virtual death knell for many
companies, as it was for the accounting firm Arthur Andersen
in 2002. Among the guidelines is to stop advancing lawyers'
fees to employees caught up in investigations.
Other principles spelled out in the memorandum have drawn
fire from defense lawyers in recent years, in particular one
that encourages companies to waive their attorney-client
privilege, which treats communications between the
executives and a lawyer as confidential. The United States
Sentencing Commission recently announced that it was
dropping language in its own guidelines that encouraged
waiving the privilege if white-collar defendants wanted
leniency in sentencing.
Now it is the Justice Department guidelines on legal fees
that have come under scrutiny.
The cutting off of legal fees "is the hardest one to
justify," said Stephen J. Bronis, a Miami lawyer who is the
chairman of the white-collar crime section of the American
Bar Association. The suggestion "flies in the face" of
existing laws and the constitutional right to representation
and a fair trial, he said.
At a hearing late in March, the judge in the KPMG
Lewis A. Kaplan of the Federal District Court in
Manhattan, said that the Thompson memorandum "puts the
government's thumb on the scales" and raises questions about
the Sixth Amendment's constitutional right to legal
"The reality is that you are depriving people of counsel, or
least interfering or impairing," the judge said.
Prosecutors, including those in the KPMG case, vigorously
deny that they use the Thompson memorandum as a club to
bludgeon companies to cut off legal fees or face
indictment. (A spokesman for KPMG said that the firm had
not bowed to any government pressure.) The Thompson
memorandum was written with input from United States
attorneys and is meant to serve as an internal guide, they
Referring to how companies under investigation decide
whether or not to pay legal fees for accused employees, a
Justice Department spokesman, Brian Roehrkasse, said, "We
believe they have a responsibility to make the right choices
for innocent shareholders and employees, but it is their
choice to make, not ours."
Still, many prosecutors use the Thompson guidelines "like a
bible," when investigating a company, according to a former
senior federal prosecutor.
Defense lawyers, including Mr. Bronis, said that to avoid
indictment, companies may feel that they have no choice but
to show cooperation with investigators by cutting off legal
fees, among other things.
The Thompson memorandum was written amid a tidal wave of
corporate scandals that erupted after the collapse of
Enron. And there was resistance. As the memorandum says,
"Too often business organizations, while purporting to
cooperate with a department investigation, in fact take
steps to impede the quick and effective exposure of the
complete scope of wrongdoing under investigation."
The corporate scandals cost investors billions of dollars
and thousands of workers their jobs. Today, most
white-collar defendants in criminal cases receive little
Yet while chief executives and other top officers often have
huge personal fortunes to bankroll a defense, many
white-collar defendants do not have that kind of wealth.
Their defenses, particularly in complex and lengthy
corporate fraud cases, can quickly run into the millions of
Take Carol Warley, 49, one of the 16 KPMG defendants in the
tax-shelter case. Ms. Warley, a former junior partner at
KPMG, faces at least 10 years in prison if she is convicted
on charges that she and 17 others conspired to defraud the
government by making and selling abusive tax shelters to
wealthy investors. (All 18 defendants have pleaded not
guilty; a former KPMG partner entered a guilty plea last
Ms. Warley has a net worth of a little more than $1 million,
including retirement funds, but her lawyers are trying to
cut corners on costs at the same time they search for holes
in the government's case.
"We're doing a lot of triaging," said John A. Townsend, a
former federal prosecutor who is one of two lawyers for Ms.
Warley, a Houston resident.
In the past, corporations paid the legal fees because of a
widely held assumption that employees whose jobs were part
of a company's business merited financial support if that
business came under scrutiny.
Many states, including Delaware, where KPMG and many other
large companies are incorporated, have laws requiring the
companies to pay for their employees' lawyers.
But KPMG went ahead and cut off legal support to its
indicted former employees. In August, it reached a
settlement with the Justice Department, agreeing to pay a
$456 million fine and admit wrongdoing in a
deferred-prosecution agreement. The settlement is seen by
many legal experts as a textbook case of what happens when a
company follows the guidelines in the Thompson memorandum.
At first, KPMG limited payment of legal fees for employees
like Ms. Warley at $400,000, then cut them off altogether.
Ms. Warley, her lawyer said, had cooperated with
prosecutors, meeting twice with them in 2004 at their
request to discuss her case. Referring to prosecutors'
questions to KPMG in 2004 over whether the firm intended to
pay legal fees of indicted employees, the judge in the
tax-shelter case wrote recently that "against the background
of the Thompson memorandum, the inquiry itself arguably was
a signal to KPMG as to actions that would promote its
chances of avoiding prosecution."
The judge does not have the authority to order KPMG to pay
the defendants' legal fees. A lawyer for one of the
defendants said that the most likely outcome after the
hearing might be that the judge would force prosecutors to
issue a public statement saying they had no objection to
KPMG's paying the fees.
Stephanie Martz of the White Collar Crime Project, a group
of leading criminal defense lawyers, said that cutting off
the fees violated the bedrock legal notion that an accused —
in this case, an employee — is innocent until proved guilty.
Less money for legal fees have can a notable impact,
particularly in complex cases that turn on an arcane tax
code. It means sifting through fewer papers in search of
evidence, doing less case research, filing fewer motions,
hiring fewer expert witnesses, doing fewer background checks
and not hiring trial consultants.
It can also mean not being able to hire a top-notch lawyer
to appeal a conviction. A truly indigent defendant receives
a court-appointed lawyer, but that lawyer may not
necessarily be the most skilled at handling complex cases.
"You get what you pay for in this business, and it can
certainly cripple a person without the financial means,"
said Dan Cogdell, a defense lawyer in Houston who
represented Sheila Kahanek, a former midlevel accountant at
Enron who was acquitted at a trial late in 2003. Mr.
Cogdell, who said he took Ms. Kahanek's case because he was
convinced of her innocence, was paid about $75,000 for his
work, a small fraction of his usual charges.
In the case of Ms. Warley, she said in an affidavit that
paying for a lawyer in New York, in addition to Mr. Townsend
in Houston, "is quite likely to exhaust my financial
resources, including everything I have put aside toward
eventual retirement." She is seeking to have her trial
moved from Manhattan to Houston, so she can save on travel
A warehouse in Maspeth, Queens, holds millions of internal
documents detailing KPMG's creation and sale of questionable
tax shelters — documents that, in theory at least, may be of
use to Ms. Warley's case.
"We haven't been out there," Mr. Townsend acknowledged,
adding that he and Ms. Warley's other lawyer, James A.
DeVita, had hired a consultant to try to comb through the
documents. "At some level, we're trying to be