• Third Circuit Adopts Reasonable Basis of Suspicion as the Standard to Invoke the Crime-Fraud Exception to the Attorney-Client Privilege
  • January 2, 2013 | Authors: John C. Maloney; Clara Y. Son
  • Law Firm: Day Pitney LLP - Parsippany Office
  • On December 11, the U.S. Court of Appeals for the Third Circuit issued a precedential ruling that reasonable suspicion of an intended crime is sufficient proof to overcome the attorney-client privilege. In re: Grand Jury: John Doe 1, John Doe 2, ABC Corp., Case Nos. 12-1697 & 12-2878, 2012 U.S. App. LEXIS 25318 (3rd Cir. Dec. 11, 2012).

    Relevant Facts

    The case involved a grand jury investigation of an unidentified corporation (the "Corporation") that engaged in an alleged criminal tax scheme. Id. at *7. The Corporation purchased several companies with large cash accounts and substantial tax liabilities. Id. After the purchase, the stock of the acquired companies was transferred to limited liability companies that engaged in various transactions to eliminate the acquired companies' tax liabilities. Id. The Corporation's principal and sole shareholder then purportedly siphoned the acquired companies' funds to themselves and their family. Id.

    Subpoenas

    The government issued subpoenas to the Corporation's former outside counsel and in-house counsel for documents and testimony relating to those transactions. Id. at *8-9, 13. The attorneys all objected to the discovery requests on the ground that they were protected by the attorney-client privilege and work product doctrine. Id. at *8, 13. The government argued, and the district court agreed in substantial part, that the government was entitled "to obtain access to otherwise privileged communications and work product when they are used in furtherance of an ongoing or future crime." Id. at *2-3.

    Appellate Jurisdiction

    The Third Circuit dismissed the appeal of the district court's disclosure order to outside counsel for lack of appellate jurisdiction. Id. at *4. The court explained that the disclosure orders themselves were not "immediately appealable final decisions," and for the Corporation and its outside counsel to seek review, they first would have to disobey the disclosure order, be held in contempt, and then appeal the contempt order. Id. at *3. Relying on the exception to the contempt rule first established in Perlman v. United States, 247 U.S. 7 (1918), however, the court granted immediate appellate review of the otherwise nonfinal decision of the district court's disclosure order to the Corporation's three former in-house counsel. Id. at *3-5. The Perlman exception applied to that order because the court found that the former in-house counsel, unlike outside counsel, "are...disinterested third-parties unwilling to be held in contempt to vindicate [the Corporation's] privilege." Id. at *5.

    Attorney-Client Privilege and Work Product Doctrine

    The attorney-client privilege protects from disclosure confidential communications between an attorney and client for the purpose of obtaining or providing legal advice to promote full and frank discussions. Id. at *41. The work product doctrine protects from discovery documents and things prepared by an attorney in anticipation of litigation to preserve a zone of privacy in which a lawyer can develop legal theories and strategy free from intrusion. Id. at *41-42.

    Crime-Fraud Exception

    The attorney-client privilege and work product doctrine are not absolute bars to disclosure and are subject to several exceptions. Id. at *42. Under the crime-fraud exception, attorney-communications the client uses or intends to use to facilitate or perpetrate an illegal activity are not shielded from discovery. Id. at *42-43. To establish the crime-fraud exception, the party seeking disclosure must make a prima facie showing that the client (1) engaged in, or intends to engage in, fraud or a crime; and (2) obtained legal advice in furtherance of the crime or fraud. Id. at *43 (internal citations omitted). If the showing is made, the privilege does not protect the communication at issue. See id. at *43-44. The purpose of this exception is to prevent the exploitation of the attorney-client privilege and work product doctrine to assist in the commission of a fraud or crime, which frustrates the goal of the proper administration of justice afforded by those privileges. Id. Further, "[f]or the crime-fraud exception to apply, the attorney does not have to...[aid] in the crime or fraud or even have knowledge of the alleged criminal or fraudulent scheme." Id. at *61-62. The client's "misuse or inten[t] to misuse the attorney's advice in furtherance of an improper purpose" triggers the exception. Id. at *62.

    Standard of Proof -- Reasonable Suspicion

    Courts are split as to the standard of proof necessary to establish the crime-fraud exception. Id. at *44. The Third Circuit adopted the reasonable basis standard in this case, rejecting the Corporation's request that the court require the government "to demonstrate by a preponderance of the evidence that the privilege has been employed to commit a crime or fraud." Id. at *47, 50. In so holding, the court admitted that, until now, it had not clearly articulated how much proof is sufficient to determine the applicability of the crime-fraud exception. Id. at *46. The court determined that the reasonable basis standard supports "the objectives of the privileges and the crime-fraud exception," as it "affords sufficient predictability for attorneys and clients without providing undue protection to those that seek to abuse the privileges." Id. at *49-50. It is "'reasonably demanding'" in that "'speculation [or] evidence that shows only a distant likelihood of corruption is [not] enough.'" Id. at *49 (citation omitted). "[A]t the same time," the party invoking the crime-fraud exception "is not required to introduce evidence sufficient to support a verdict of crime or even to show that it is more likely than not that the crime or fraud occurred." Id. at *49-50. The decision of the Third Circuit to establish a less demanding standard in criminal proceedings was influenced by the specific "need for speed, simplicity," and policy against "secrecy," particularly in the grand jury context, that militate against a standard "'that requires courts to hear testimony or to determine facts from conflicting evidence before making a crime-fraud determination.'" Id. at *52-53 (citation omitted).

    The Corporation also argued, though, "that, regardless of the proof required," the government did not satisfy its burden. Id. at *53. To the contrary, the Third Circuit found that the district court's finding that there was a "reasonable basis to suspect that [the Corporation] was engaged in a criminal scheme" was supported by the evidence submitted by the government. Id. at *57. Specifically, the Third Circuit found that proof of the scheme involving the evasion of tax payments and the diversion of the companies' cash was sufficient to show that the Corporation "engaged in a conspiracy to defraud the United States of federal income taxes in violation of 18 U.S.C. ยง 371." Id. at *54-57.

    Two questions regarding the application of the reasonable suspicion standard of proof in the context of the crime-fraud exception remain in the wake of this new Third Court decision. First, although the question before the Third Circuit concerned only the crime-fraud exception to the attorney-client privilege, the court left open the possibility of an innocent attorney defense that may be available to an attorney to protect against the disclosure of work product that a client may have used to further a crime or fraud. Id. at *64-65. The court reasoned that the work product doctrine "protects the interests of attorneys" separate and apart "from the interest of clients," which may warrant an attorney to "properly claim and prevail in asserting a work product privilege even when his client cannot." Id. at *64 (internal citation omitted).

    Second, the court declined to address "whether [the same or] a higher standard should be applied in the civil litigation context" of the fraud exception to the attorney-client privilege and suggested (notwithstanding its disclaimer to the contrary) that a higher standard may apply to civil cases. Id. at *52, n.20. The Third Circuit recognized that two different standards could potentially exist and pointed to the Ninth Circuit as an example. Id. (citing UMG Recording, Inc. v. Bertelsmann (In re Napster, Inc. Copyright Litig.), 479 F.3d 1078, 1094-95 (9th Cir. 2007) (holding that the facts necessary to apply the crime-fraud exception should be determined by a preponderance of the evidence standard in civil cases but the reasonable cause standard is appropriate for grand jury investigations)).

    Practitioners and businesses alike should be aware that a reasonable suspicion standard is a relatively low standard to satisfy and removes the protections afforded by the attorney-client privilege when an attorney's advice is used improperly. The attorney's involvement in the fraud or crime is irrelevant; the client's misuse of the privileged communication is all that matters to the court.