Third Party Litigation Funding
Third-party litigation financing (TPLF) is a rapidly growing practice that threatens to undermine the administration of justice – both here in the United States and abroad. In essence, TPLF is the practice of hedge funds and other investment firms providing funds to plaintiffs and their lawyers in order to conduct litigation. If the plaintiff wins a monetary award, the investor is repaid out of the proceeds of the lawsuit, usually with an extremely high rate of return. read more...
Since its beginnings in Australia more than a decade ago, TPLF has spread rapidly around the globe. The practice is particularly prevalent in Australia and the UK, and is now moving into the United States.
Unfortunately, as a recent Forbes article entitled, “Will Litigation Finance Hold Corporations Accountable Globally?” highlighted, TPLF creates numerous problems and conflicts of interest for litigants, their attorneys and the overall civil justice system.
For one thing, TPLF increases the volume of litigation. It is pretty simple: more litigation funding means more litigation. A study by NERA Economic Consulting found the rise of TPLF is responsible for much of the recent increase in class action litigation in Australia. In addition, TPLF firms’ business model allows them to spread risk and take on cases that might be weak or dubious but still hold the possibility of a massive award. As a result, TPLF is likely to increase dubious litigation as well.
TPLF can also prolong litigation. A plaintiff may choose to reject an otherwise reasonable settlement offer because they need to give a large part of any award to their funder. So they hold out for a higher settlement or judgment in court – which is not guaranteed to happen. At the same time, prolonged litigation hurts defendants, who are forced to divert additional time and money from productive activity to litigation.
In addition, TPLF can undercut a plaintiff’s control of litigation. Obviously, funders have a major interest in the outcome of cases they invest in. So it is not unexpected that some funders seek to control a case’s legal strategy, both indirectly and directly. In one patent case, a funder sued the plaintiff for settling for an amount lower than demanded by the funder. In the infamous Chevron case in Ecuador, the funding contract with the plaintiffs stipulated that the funder would have veto power over the choice of attorneys and receive precedence in the disbursement of any monetary award. Arrangements such as these make a mockery of our system of justice by placing the interests of outside investors ahead of the interests of the parties in court.
Finally, TPLF creates numerous ethical conflicts for plaintiffs’ lawyers. It is a fundamental rule of ethics that lawyers have a fiduciary duty to their clients. But when TPLF investors get involved in a case, they often front the plaintiffs’ attorneys’ fees. In that case, will the attorney act in the best interests of their client, as they are supposed to do, or in the interests of the third-party funder paying their salary?
Stringent safeguards are needed to counter the many problems associated with third-party litigation funding in the United States. In October 2012, the U.S. Chamber Institute for Legal Reform released Stopping the Sale on Lawsuits: A Proposal to Regulate Third-Party Investments in Litigation, a white paper which outlines a possible U.S. federal regulatory regime for TPLF. The paper’s recommendations include:
- Prohibiting investor control of cases;
- Forbidding direct contracts between investors and lawyers that do not also include the client;
- Banning law firm ownership of TPLF firms;
- Prohibiting the use of TPLF in class actions; and
- Requiring disclosure of funding contracts in litigation.
As the birthplace of third party litigation funding, ILR has been pressing for regulatory oversight of TPLF in Australia for many years, in hopes of slowing the rapid growth of this practice globally. In September, 2013, ILR released Improving the Environment for Business in Australia: A Proposal for Reforming Oversight of Third Party Litigation Financing, which outlined an oversight regime of TPLF that would include:
- licensing requirements;
- ensuring that claimants, not funder, control the management of their cases;
- a requirement that the funder act in the best interest of claimants; and
- banning law firms from owning funders and vice versa.
In October 2013, ILR released a second paper entitled, TPLF in Australia: Class Actions, Conflicts and Controversy, building additional support for an oversight regime by illuminating the pitfalls of TPLF. Most recently, in March 2014, ILR released Ripe for Reform: Improving the Australian Class Action Regime, suggesting reforms to class action procedures and rules that would restrain the use of TPLF in class actions and reduce conflicts of interest and ethical concerns.
Throughout Europe, both at the EU institution level and in key member states like the UK and Netherlands, ILR is advocating for the introduction of meaningful legislative safeguards restricting the use of TPLF in class actions.