Piece by piece

The Law Society of Scotland’s policy paper on alternative business structures (ABS) was approved at its AGM on 22 May, after some spirited debate and a couple of unsuccessful amending motions. It would appear that most of the big firms in Scotland see ABS as offering a significant strategic opportunity, presumably from the advantages that external funding would provide. This article looks at the position as it is emerging in England & Wales with regard to ABS, and their forerunner legal disciplinary practices (LDPs), following the passage of the Legal Services Act 2007.

LDPs – the structure

The Act has created the Legal Services Board (LSB) as an over-regulator, designed to operate through existing regulators such as the Law Society (of England & Wales) and its regulatory offshoot, the Solicitors Regulation Authority (SRA). The LSB has now had its chair and board appointed, but will take until autumn 2009 to become fully established. The first set of changes will not, however, have to wait until then.

The reason is that two sets of reforms which collectively are known as LDPs are being achieved not through the complex machinery of Part 5 of the Act (see below), but by amendments to the Solicitors Act 1974 and the Administration of Justice Act 1985, creating opportunities for the regulators to open up their own rules in order to facilitate the new structures. It is hoped that these structures can be operative from March 2009. Several sets of interlocking rules have been passed by the SRA board, in the first exercise of powers delegated to them under the Act by the Law Society Council, and await judicial and ministerial approval.

LDPs – mixing lawyers together

The first part of LDPs, which will not subsequently change, is with regard to the mixing of different types of lawyer within one business. The neutral word “business” is here used carefully, because any LDP (as will later be the case for ABSs) can be a partnership, a limited liability partnership, or a limited company. So, solicitors will be able to join in equity with such as barristers, legal executives, licensed conveyancers, and patent or trade mark attorneys.

Views differ as to how far-reaching this will be. For instance, some senior members of the Bar are still taking the view that allowing their profession to practise in any way other than as sole practitioners is anathema to the independence of the Bar, whereas others in their ranks are thought to be eyeing up solicitors’ firms as prospective targets. Likewise, solicitors who wish to strengthen their litigation and advocacy will be considering extending invitations to their barrister colleagues – perhaps even a whole set at a time. Firms with departments run by legal executives will be free formally to offer them the partnerships they may long have had in all but name. And, in these troubled times in the conveyancing world, there may be opportunities for much closer links between solicitors and licensed conveyancers, perhaps to obtain the benefits of the more generous regulatory regime of the latter.

LDPs – non-lawyer “managers”

The other aspect of the LDP regime will however be only a temporary exercise. When Part 5 of the Act comes into force, it will supersede those parts of the LDP structure which relate to those other than lawyers. For that reason alone, it may prove not particularly popular. Say, for instance, a firm takes a non-lawyer chief executive into partnership under the LDP rules, and then finds that the ABS rules that it would need to comply with, in order to perpetuate that, are much stricter than before. It will then be faced with the choice of complying with the stricter regime, or getting rid of the chief executive. Firms may prefer to bide their time, and see how the ABS regime looks.

This part of the LDP regime was intended to facilitate the taking in by firms of their senior management. Any suitable person may be eligible – there is no restriction to those who are members of other formally recognised professions. The regime allows persons to become “managers”, in the sense defined in the Act, namely 

• a partner in a partnership;
  
• a member of a limited liability partnership; or
• a director of a limited company (not, it should be noted, a mere shareholder).

Such persons are eligible for appointment if the firm can pass two tests. First, there has to be continuing lawyer involvement. Secondly, the non-lawyer(s) must in the aggregate not have more than 25% of the business. That is measured in a number of ways, i.e. on a per capita basis, according to the shares and interests in the business, and on voting rights. Some of these qualifications may be difficult to measure in practice, as the relevant definitions are based on limited company concepts that do not fit easily into the partnership lexicon. Curiously, however, there is no requirement that a “manager” should actually manage at all. In theory, therefore, there will be nothing to prevent a suitable person, who is not a lawyer, becoming a 25% sleeping partner in a law firm. The SRA is not keen on this, but has accepted that it is what the legislation actually says.

ABS – the Part 5 regime

Part 5 of the Act, and various schedules, create a whole new regulatory structure for those firms which may seek to have non-lawyer involvement in their ownership (whether transferring from the LDP regime, or starting anew). This is done by giving the LSB the role of approving certain professional bodies (of whom the Law Society is likely to be the leader) as “licensing authorities”. (Oddly, the LSB is itself to be a licensing authority, to offer cover where there is no other suitable authority. It has to split itself, in order to authorise itself as suitable!)

Licensing authorities will have to formulate their own licensing rules. Some areas will be the subject of compulsory rules, and some will remain discretionary. There may therefore be an element of regulator-shopping. If, for instance, a business having solicitors and licensed conveyancers within it, wishes to seek an ABS licence in order to take in some non-lawyer involvement, it will no doubt look around to see which is the more favourable licensing regime, that of the SRA or that of the Council for Licensed Conveyancers.

ABS – non-lawyer involvement

Amongst the compulsory parts of the rules will be the requirement to vet the suitability of anyone who wishes to acquire a “restricted interest” in the business. That interest may be either a “material” or a “controlled” one.

A person will have a material interest if, in broad terms, they have or control more than 10% of the business, whether directly, or indirectly through other associated people or bodies. (The licensing authority will have discretion to lower that percentage if it so wishes.) In other words, someone wishing only to acquire 5% of a law firm will need no external approval, but anyone looking for 10% will have to pass whatever level of scrutiny the authority decides is appropriate.

Such authorities may also decide to impose one or more levels where a higher degree of involvement becomes a “controlled” interest, and so needs greater scrutiny. So, for instance, it could be decided that not only would there be the 10% level, but also thresholds at 20% and 30%, where ever-higher levels of investigation and approval would be applied.

Interestingly (though surprisingly, much ignored), the licensing authority will be able to impose upper limits for non-lawyer involvement. It can decide that either or both of two limits might apply, namely a cap on the amount which any individual may hold, and/or a limit on the aggregate permissible non-lawyer involvement. Therefore, the idea of “Tesco law”, i.e. the entire ownership of a legal services business by non-lawyers, is not a done deal, despite the public perception to the contrary.

Compliance responsibilities within an ABS will need to be clearly delineated. There will be two statutory offices to be filled. The first is the head of legal practice, responsible for compliance in all matters other than accounting. The other is the head of finance and administration, responsible for compliance on the accounting front. The former office must be held by a lawyer. One person may hold both offices. The licensing authority will need to approve the holder(s) of these offices, and will maintain a list of those banned from such appointments.

ABS as multi-disciplinary practices

Apart from the ownership of ABS, the main difference from current practice, or from LDPs, is that it will be perfectly possible for such bodies, whilst they continue to supply legal services (as defined in the Act) to supply also whatever services they wish. This has been a highly controversial area, and even Sir David Clementi, whose report gave rise to the Act, thought it a step too far.

In reality, however, if one steps back from the legal field, one can see that many professional services firms have been operating in this manner for years. A visit to the websites of the “Big Four” accountants will show that, in fact, none of them actually describes themselves as “chartered accountants”, partly because they are keen to be seen as professional services firms on a much larger stage than merely being accountants would connote, and partly because too many of their partners come from other professional disciplines, so they are no longer allowed the “chartered” description.

The truth therefore is that, much as we may see these changes as wholly radical – whether we perceive them as horrendous threats or great opportunities – we are in fact still just playing catch-up with the rest of the professional services world. The real challenge, for firms who wish to take advantage of the new regime, will be ensuring they have management in place which is up to the challenge of competing with those for whom unfettered operation and competition have long been a reality.

Simon Young MA (Cantab), MBA, solicitor, is a founder member of the Law Consultancy Network. The opinions expressed in this article are purely personal. e: simon@syoung.co.uk

All entities now

The Administration of Justice Act 1985, in order to allow solicitors to practise as limited companies, introduced the concept of “recognised bodies”, so that the authorities could regulate the entity, not just the individuals within it. That was later extended to LLPs.

In order to accommodate LDPs and ABS, this regime is now being extended to every legal business, so that there will be profession-wide regulation of entities, for the sake of consistency, and since regulatory charging will now largely change from a per capita basis to (probably) a turnover related basis. This will apply just as much to businesses which do not go down the LDP/ABS route at all, and even to sole practitioners.

There are some fears that the SRA, in achieving this, has taken to itself certain extra and potentially intrusive powers, which were not strictly speaking necessary for this exercise. The representative side of the Law Society, and the SRA, are working together to see how this can all be achieved without too much disturbance to those who are not themselves opting for change.