This guest post is the first in a series that will explore the world of litigation financing. This growing industry can provide access to the justice system for those who aren’t able to afford it.
What is Third-Party Funding, aka Litigation Financing?
Third-party funding is the most common term used to describe this enthralling industry. Third-party funding is where any client can seek funding to pursue a meritorious claim. The funder agrees to cover the costs of the litigation in return for a share of the damages awarded if the case is successful. If the claim is unsuccessful, the funder bears the costs entirely.
Litigation financing as we now recognize it was first permitted in the 1960s for a civil rights lawsuit supported by the NAACP. It was the first example of a third-party directly financing a lawsuit. Investing in lawsuits has existed before this but usually through more indirect and crude means. Companies would purchase and enforce a patent or short sell a stock based on their prediction of an impending judgement. The industry has continued to evolve, but it is only more recently that we have seen the space heat up and the money flood in.
In 2013, Burford Capital deployed $62 million dollars in the U.S. market to fund cases. In 2016, they made $200 million dollars in commitments to commercial litigation. Three years is all it took to more than double their yearly committed capital. Burford also enjoyed record investment recoveries of $216 million in 2016. Burford is not alone. Looking at Bentham IMF we can see they first committed $40.5 million dollars in 2010 and by 2014 this had risen to $98.6 million dollars in capital committed to investments. This year Bentham announced they will be investing $200 million dollars; $50 million of the capital is coming from Bentham IMF and the other $150 million is from an undisclosed hedge fund.
Is this an ethical practice?
Critics of the industry often raise ethical concerns over third-party funding. They claim it promotes spurious litigation. The other concern is whether or not it is increasing the amount of litigation in society.
Tort advances have been in existence for more than 10 years in the U.S. During that time, there is no data yet to support the claim that third-party funding has increased the amount of litigation in this field.
It is important to consider the question of what is an appropriate level of litigation. Third-party finance ensures that no one suffers a wrong without the ability to seek justice. Funding firms lack any incentive to provide financing for dubious claims. They have shareholders and targets that must be met. Financing spurious claims would simply mean they lose money.
Most funders prefer claims that have already commenced. It means they have a bias to litigation that is already moving forward. This means they are not encouraging people to file claims that they would otherwise have left and not pursued.
How is the industry regulated?
Litigation funding has enjoyed a long period without heavy regulation. The main reason is because pre-settlement funders advance cash to plaintiffs waiting for a litigation payout. This allowed them to charge payback rates that would be considered usurious if the cash advances were loans. However, they are structured in such a way that ensures this is not the case. This has meant litigation funders in the U.S. could avoid state banking and credit regulations.
Litigation funding expert Victoria Shannon Sahani believes this could all be about to change. Eleven states have adopted laws regulating some aspects of the business of extending cash advances to plaintiffs awaiting settlement payouts. The Consumer Financial Protection Bureau has also started investigating the industry. In the past several months, the federal agency has claimed authority over three litigation funders.
It’s not yet clear exactly how deeply and broadly the CFPB wants to regulate the litigation funding industry.
How can this industry benefit your clients?
The impacts for claimants provided by this growing industry are far-reaching. The primary benefit is it allows claimants to pursue claims they would not have otherwise been able to pursue.
The rising cost of legal fees and lack of a legal budget for many smaller companies often makes pursuing a claim impossible; especially against a larger company with more resources. Third-party funding levels the playing field. It allows your clients to access funds to cover legal expenses and pursue a genuine claim.
There are other reasons companies use funding. Even much larger enterprises utilize third-party funding. They are able to de-risk the impact of pursuing a claim on their company with financing. Along with the various insurance products available, they can be sure they don’t leave their business in a precarious position. It also ensures that they do not use valuable cash flow for the purpose of pursuing a claim. This money can then be used to continue their normal business operations while the case is ongoing.