Decision Supports Constitutional Right of Companies to Advance Legal Fees Without Government Interference; Department of Justice Separately Publishes Revised Policy Stating That Prosecutors Ordinarily Should Not Take Into Account Whether a Corporation Is Advancing Attorneys Fees.

Two years ago in the wake of the federal district court decision in the United States v. Stein, we cautioned that “greater clarity and finality” were still needed on the question of where the boundaries lie for prosecutorial conduct in investigating corporations for criminal wrongdoing. See our June 29, 2006 Client Advisory at In the past week, two separate and near-simultaneous developments provided the clarity and finality we were looking for, at least with respect to one issue in particular: the practice of corporations advancing attorneys’ fees for employees embroiled in a federal investigation for criminal wrongdoing in their work-related conduct. The new boundaries bring welcome news to employees and, at long last, clear guidance to their employers.

In recent years, both the business and legal communities have criticized the Department of Justice’s policy governing its charging discretion in the prosecution of business organizations. Desperate to be deemed sufficiently cooperative to avoid indictment, corporations often buckle under the prosecutorial pressure and reluctantly disclose confidential communications, turn over privileged documents, or refuse to advance their employees’ attorneys’ fees. These all-too-common consequences fanned the flames of outrage over the DOJ’s policy.

In June 2006, federal Judge Lewis Kaplan issued an opinion excoriating the government for coercing KPMG LLP into interfering with the Fifth and Sixth Amendment rights of employees who were under investigation for selling fraudulent tax shelters. Last week, a three-judge panel of the Second Circuit Court of Appeals affirmed Judge Kaplan’s decision, at least as to the violation of the employees’ Sixth Amendment right to counsel. On the same day the Second Circuit issued its opinion, the DOJ announced it had already revised its policy for prosecuting business organizations to, among other things, prohibit prosecutors from considering as a factor in their charging decision a corporation’s advancement of attorneys’ fees to employees under investigation for work-related conduct. The Second Circuit’s opinion and the DOJ’s revised policy reflect the downward descent of the pendulum away from the height of prosecutorial overreaching in this area.

United States v. Stein 

Last week, the Second Circuit Court of Appeals affirmed the dismissal of an indictment against 13 former employees of KPMG, finding that no remedy other than the “last resort” of dismissal could cure the State’s violation of the employees’ Sixth Amendment right to counsel. According to the court, this Constitutional violation occurred when the government coerced KPMG into departing from its longstanding policy of unconditionally advancing attorneys’ fees to employees, and instead, adopting and enforcing a new fee policy which placed conditions and caps on advancements and completely terminated any such advancements upon an employee’s indictment.

Like the trial court, the appellate court held that the government’s impermissible coercion of KPMG manifested itself in the DOJ’s policy for prosecuting business organizations and in the implementation of that policy by the individual prosecutors. As for the impact of the DOJ’s policy in effect during the relevant period (commonly referred to as the Thompson Memorandum), the court noted that, rather than just implementing its longstanding policy on paying employees’ legal bills, KPMG considered it necessary first to “sound out” the government’s position on KPMG’s policy. According to the court, the prospect of being viewed as non-compliant with the Thompson Memorandum, thereby risking the firm’s indictment, substantially affected KPMG’s decision to change its longstanding policy. In addition, the court attributed KPMG’s policy departure to the pressure exerted by the individual prosecutors on KPMG. This prosecutorial pressure was not just improper; in the opinions of the trial and appellate courts, it violated the Constitution.

Interestingly, even though the employees’ Sixth Amendment right had not attached at the time of the bulk of the government’s interference, the court nonetheless held that the government violated the employees’ right to counsel. Indeed, KPMG’s employees did not have a Constitutional right to counsel until the point at which the government indicted the employees, which happened to be the same point at which KPMG stopped paying attorneys’ fees under its new policy. According to the court, any interference by the government, regardless of whether it occurred before or after indictment, could implicate the employees’ Sixth Amendment right, provided that interference had some effect on the advancement of fees for legal services incurred after the employees’ indictment. Because KPMG did not pay legal fees for indicted employees and “but for” the government’s interference it would have paid such fees (in accordance with its prior longstanding policy), the court found the necessary link.

As a result of the government’s interference, KPMG did not pay the indicted employees’ legal fees and none of the employees could both retain their counsel of choice and pay for the full measure of legal services that otherwise would have been available to them if KPMG paid their fees. According to the court, this loss of counsel of choice and reduction in resources constituted a violation of their right to counsel.

By adding a Constitutional dimension to this issue, the decision becomes more significant than an isolated opinion of one federal circuit. Aside from this point, the remedy handed down is quite astounding itself. The court affirmed the dismissal of the indictment against 13 defendants involved in what was once billed as the largest tax fraud case ever. Dismissal of the indictment, according to the court, was the only way to restore the defendants to the circumstances that would have existed without the prosecutors’ interference. Because the court had already concluded that KPMG would have paid the fees “but for” the interference and it could not order KPMG to pay the fees now, the court deemed dismissal the only available remedy.

Department of Justice’s Revised Policy

Just as the Second Circuit issued its stinging rebuke of both the DOJ’s policy and its implementation by federal prosecutors, the DOJ announced to Congress that it already revised its policy to, among other things, prohibit prosecutors from considering in their charging decisions an employer’s advancement of legal fees to its employees. Its well-timed revision was intended to thwart efforts by Congress to legislate this same issue. By most accounts, the revised policy is expected to quell the desire to enact a legislative solution.

During the period prior to the trial court’s decision in United States v. Stein, the DOJ’s policy, embodied in the Thompson Memorandum, provided that prosecutors, in deciding whether to charge a corporation, “may” consider “a corporation’s promise of support to culpable employees… through the advancing of attorneys fees…” For corporations anxious to avoid indictment at all cost, this policy often resulted in a decision to forego the payment of legal fees in the absence of some legal obligation to do so.

Following the lower court’s decision in Stein, the DOJ promptly revised its policy in a new memorandum, commonly referred to as the McNulty Memorandum. This revised policy merely softened the language of the Thompson Memorandum by providing that prosecutors “generally should not take into account” whether a corporation is advancing attorneys’ fees in making its charging decision. The lack of clear guidance frequently translated into the same result for employees: no payment of their substantial legal bills.

Dissatisfied with what it perceived as “overreaching by Federal prosecutors” and the susceptibility of the DOJ’s policy to frequent change at the whim of the deputy attorney general, Congress stepped into the debate. Members of both the U.S. House and Senate introduced legislation prohibiting prosecutors from, among other things, considering an employer’s advancement of legal fees. One bill ultimately passed in the House while another identical bill was the subject of committee hearings in the Senate. In response to this progress on the legislative front, the deputy attorney general promised another revision.

Last week, Deputy Attorney General Mark Filip delivered on his promise. The new policy, in addition to bolstering deference to the attorney-client and attorney work product privileges, provides that “prosecutors should not take into account” whether a corporation is advancing attorneys’ fees, except where the payment rises to the level of criminal obstruction of justice. As an example of criminal obstruction, the policy refers to an employee adhering to a version of facts that both the corporation and employee know to be false. Also, unlike prior policies, which were embodied in memoranda, this policy will be added to the Unites States Attorneys’ Manual, which is binding on all federal prosecutors within the DOJ. While Senator Arlen Specter (R-Pa.) described the revised policy as a “step in the right direction,” he also stated that “legislation will still be necessary.” By contrast, the Chairman of the Senate Judiciary Committee, Senator Patrick Leahy (D-Vt.), voiced his pleasure with the legislation, calling it a “significant and welcome change” with “substantive improvements.”