third party litigation funding

One dollar billsLitigation funding is in the news again, with the U.S. Chamber of Commerce spearheading a request to amend the Federal Rules of Civil Procedure to require initial disclosure of all third-party agreements for compensation that are “contingent on, and sourced from, any proceeds of the civil action, by settlement, judgment or otherwise.”

The Chamber joined with 28 other organizations in a letter sent earlier this month to the federal courts’ Rules Committee, saying that its aim is to bring third-party litigation funding out of “the shadows” and to identify “a real party in interest that may be steering a plaintiff’s litigation strategy and settlement decisions.”

The new push follows up on a 2014 proposal that the Chamber and a few other organizations made to the same rulemaking committee, which was rejected.  Things have changed since then, the Chamber’s June 1 letter said, citing expansion of third-party funding in the U.S., with several significant players reporting significant and steady growth, and on-line marketplaces opening the way for investors to shop for individual cases to contribute to.

Shift in momentum?

As we reported in February, the U.S. District Court for the Northern District of California became the first court to mandate disclosure of litigation funding that parties in class actions receive from outside sources, under a revision to the court’s standing order.  That was followed up in March, when the U.S. House of Representatives passed the Fairness in Class Action Litigation Act of 2017, which likewise would require disclosure of third-party funders in class actions.  The bill is now before the Senate Judiciary Committee.

Problems with alternative litigation funding

The process for amending the federal civil rules is a lengthy one.  But with at least some momentum on its side, the U.S. Chamber cited several justifications for the rule change it seeks, including:

  • The champerty problem.  This old legal doctrine, which seeks to prevent buying and selling lawsuits, still continues to be in play, with at least three state courts of appeals citing it or suggesting it as a viable defense in 2016-17, and a U.S. bankruptcy court in January finding an agreement to be champertous.
  • Fee-sharing issue.  Model Rule 5.4(a) bars almost all forms of sharing legal fees with non-lawyers, with the goal of preserving the lawyer’s independent professional judgment. But some models of third-party litigation funding apparently involve plaintiffs’ counsel repaying the funder’s investment out of the lawyer’s attorney fees, if any.
  • Confidentiality and conflicts.  To the extent that funding arrangements require disclosure of client information to the financier they could raise confidentiality concerns under the ethics rules, as well as privilege issues.  And lawyers who have “contracted directly with a funding company may have … duties to it that are … perhaps inconsistent with” the duties of loyalty to the client, including conflicts arising from steering clients to favored funders.

Watch and wait

In a press release, one large litigation funder, Bentham IMF, said that the Chamber’s proposal was misguided, including because the law firms using such financing were assisting under-served and under-funded clients — small-to-mid-size businesses and individuals — who could not otherwise afford to litigate their claims.  Bentham also said that the rule amendment proposal was unfairly one-sided, and that defendants should have to abide by similar disclosure rules.

Litigation funding will continue to be a hotly debated issue, and if your clients are involved in civil litigation, these are developments that bear watching.  Stay tuned.

Money and gavelOn January 26, the U.S. District Court for the Northern District of California became the first court to mandate disclosure of litigation funding that parties in class actions receive from outside sources, under a revision to the court’s standing order applicable to all cases.  The rule provides that “in any proposed class, collective or representative action, the required disclosure includes any person or entity that is funding the prosecution of any claim or counterclaim.”

Final rule — more “funder friendly”

The final rule is more limited than an earlier draft, which would have expressly mentioned “litigation funders,” and required their identification in the first appearance in all civil proceedings.

The court’s request for comments on the earlier draft, during summer 2016, drew input from two large litigation funders.  The CEO of Burford Capital, which calls itself “the largest provider of strategic capital to the legal market,” criticized the earlier draft proposal as “unnecessary and discriminatory” in a comment he filed in July.  He told Law360 (subs. req.) that Burford was happy with the district court’s “incremental approach” to disclosure reflected in the final rule.

Another litigation funder, Bentham IMF, based in Australia, also commented this past summer on the earlier draft rule, expressing concern that it would open up wasteful “discovery sideshows,” intrude on attorney-client privilege and “give defendants in all cases the unprecedented and unintended advantage of knowing which claimants lack the resources to weather a lengthy litigation campaign.”

The U.S. Chamber of Commerce has supported disclosure of litigation funding, and told Law360 that the rule would force law suit investors out of the shadows, where they shouldn’t be allowed to control litigation, especially in class actions.

A growing segment — but is it champerty?

In its comments, Burford said that commercial litigation funding is in its infancy in the U.S., and that fewer than 75 cases in federal district court involve such funders each year.  That limited figure would appear to exclude the many other forms of third-party funding available to plaintiffs and investors.   And the market for litigation investing is lucrative and growing, according to Forbes, which headlined a story last year “The next great investment idea:  Somebody else’s lawsuit?”

Which raises the question — do law schools need to start teaching the law of champerty and maintenance again?  If you’ve never heard of the doctrines, here’s a 2003 explanation from the Ohio Supreme Court:

The doctrines of champerty and maintenance were developed at common law to prevent officious intermeddlers from stirring up strife and contention by vexatious and speculative litigation which would disturb the peace of society, lead to corrupt practices, and prevent the remedial process of the law.

The modern trend has been away from applying these old doctrines (which some jurisdictions codify by statute) to third-party funding agreements, as exemplified by a Delaware trial court decision last summer, involving Burford Capital.  And the 2003 Ohio ruling, which voided a contract as champerty and maintenance, was later abrogated by statute.

Some courts, however, are sticking to the champerty analysis.  For instance, a recent decision of the Pennsylvania court of appeals held that “champerty remains a viable defense in Pennsylvania,” invalidating a third-party funding agreement between plaintiff’s lawyer and the funder.  New York’s highest court this fall likewise interpreted a litigation funding transaction to be a sham attempt to evade the state’s champerty statute.

Trendline to watch

It will be interesting to watch the trend toward a growing litigation funding marketplace as it meets up with a possible push for more disclosure and a potential resurgence in champerty jurisprudence.  Stay tuned.