Shanghai Jianwei Law Office, which was the first law firm in China to insure against liability for professional negligence some 7 years ago, has recently faced a professional negligence claim in excess of RMB20 million, by some margin the largest such claim in China to date.
The claim originated from the firm’s involvement as lawyers for a real estate development project. The firm gave advice in relation to Pre-Rental Contracts and Lease Back Contracts, which were subsequently held to be void for illegality.
On 31 August 2001, final Judgment was given by the Higher People’s Court of Shanghai. The Court found that Jianwei Law Office had not only failed to give proper advice to its client but also participated in the drafting of the illegal contracts. This meant there were obvious defects in the legal service provided by the firm, in breach of the terms of their contract with their clients regarding the legality and validity of all contracts and documentation. The Court awarded damages against the firm of RMB2.4 million.
What is also noteworthy is that the firm apparently promised in their marketing material to pay compensation to clients who suffered loss due to any fault in their service at the rate of 1,000% of their fees, presumably on the back of the insurance they obtained.
The contracts which the firm advised were legal and binding were designed speed up the construction process of the project in particular and would, if legal, have helped the development of the Chinese real estate market as a whole. The effect of the contracts was to release funds early to the developers and to promise high returns to the investors as the project completed. However, not surprisingly in the recent economic downturn, the investors dreams of high returns disappeared, as did their investment, which was used in another construction project elsewhere. Eventually, the developers ran out of funds before completion. As a result, many investors brought claims against the developer in respect of the contracts.
On 14 June 1999, the First Intermediate People’s Court of Shanghai found that the developer had been conducting illegal fund raising through the means of these contracts, and thus adjudged that the contracts were void, and ordered the developer to return the funds received to its investors with interest.
The developer, unable to repay the huge sums ordered, sued Jianwei Law Office. On 9 March 2001, the First Intermediate People’s Court of Shanghai held that the firm had knowledge of the illegal operation of the developer, but failed to stop it, causing economic loss. The Court thus adjudged that the firm return their legal costs of RMB400,000 to the developer, and pay compensation of RMB2,000,000. Both parties appealed, the developer contesting the amount awarded and the firm trying to overturn the judgment on liability.
The appellate court, however, upheld the judgment of the First Intermediate People’s Court.
This claim has aroused much concern amongst PRC lawyers, not only because of its size but also because of the decision itself. In essence, the firm was found liable to the developer for part of the proceeds of the developer’s illegal activities, for failing to prevent those activities. The developer’s ‘loss’ was of course caused by its misuse of the funds raised and not the raising of the funds themselves. In view of the outcome of this claim, some Chinese legal experts have expressed the view that the result has enlarged the scope of responsibility for lawyers and has caused serious damage to the development of the legal profession in China because of the concerns that professional indemnity insurance cover obtained, whether voluntarily or under a compulsory scheme, may not be sufficient to cover claims. They recognise the potential financial ruin for lawyers if faced with similar such suits in the future.
Professional indemnity insurance is now compulsory for lawyers practising in certain areas of the PRC, such as Shanghai. The result of further cases such as this may well be to prompt the Government to expand the scope of compulsory insurance, or to prompt PRC law firms to take out voluntary professional indemnity cover, or both. The fact of the should therefore improve the prospects for insurers marketing professional indemnity insurance in China.
The failure of a party to call a witness does not necessarily give rise to an adverse inference being drawn in accordance with Jones v Dunkel (1959) 101 CLR 298. An unfavourable inference is drawn only if evidence otherwise provides a basis on which that unfavourable inference can be drawn.
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