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INSIGHT: Litigation Funding Wins a Major Endorsement

March 12, 2020
The New York City Bar Association’s working group on litigation funding recently rejected some of the leading arguments against the commercial litigation finance industry. Validity Finance’s William C. Marra discusses the group’s two principal recommendations.

A much-anticipated New York City Bar Association report provided a strong boost to the growing litigation finance industry, concluding that funding agreements between lawyers and funders will benefit litigants, and recommending that the legal ethics rules explicitly permit such agreements.

The report, which also rejected calls for mandatory disclosure of commercial litigation funding agreements in court proceedings, represents a strong refutation of several leading arguments against litigation funding, and should provide further assurance to lawyers and claimholders considering litigation finance.

The 90-page report was issued by the association’s 25-person working group on litigation funding. The committee met for over a year and included a former federal judge, as well as leading academics, ethicists, lawyers, dispute-resolution specialists, and litigation funders. The working group’s sprawling work is among the most sustained, in-depth studies of the litigation finance industry in American history.

Two Principal Recommendations

The working group offered two principal recommendations. First, it recommended that the legal ethics rules should be amended to explicitly permit funding agreements between lawyers and funders. Although the committee offered two competing proposals for amending the ethics rules, both proposals recommended that the rule explicitly permit lawyers to obtain third-party litigation finance. “[L]awyers and the clients they serve will benefit,” the committee concluded, “if lawyers have less restricted access to funding.”

Second, the working group rejected calls for mandatory disclosure of commercial litigation funding agreements in court litigation. After comprehensively surveying the arguments behind recent efforts to enact mandatory disclosure laws, the committee concluded that “there should not be a mandatory disclosure requirement in federal and state courts with respect to the funding of commercial litigation at this time.” It further recommended that the details of funding arrangements should be discovered on a case-by-case basis only when “special circumstances” justify doing so.

Proposed Amendments to Rule 5.4

The working group convened in October 2018, shortly after a controversial advisory opinion of the New York City Bar concluded that certain litigation funding transactions between lawyers and funders violate Rule 5.4 of the New York Rules of Professional Conduct, which prohibits fee-sharing between lawyers and non-lawyers.

That opinion caused a stir among the legal and funding community, as law firms have increasingly obtained non-recourse capital from litigation finance companies, with the funder’s return backed by the law firm’s contingent interest in pending cases. (The most common form of litigation funding agreement is between the funder and the claimholder, not the lawyer; no one argues that these more common funding agreements violate Rule 5.4. At issue here is only funding provided directly to law firms.)

The working group’s mandate did not include revisiting the 2018 ethics opinion, but the group was invited to explore potential revisions to the ethics rules. Although the working group was divided over precisely how Rule 5.4 should be amended, both proposals endorsed amendments to the rule that make clear lawyers may obtain third-party litigation finance without violating the rule against fee sharing.

The working group endorsed these amendments both “to reflect contemporary commercial and professional needs and realities,” and because “lawyers and the clients they serve will benefit” from lawyers’ expanded access to funding.

In other words, litigation finance is a good thing, not a bad thing, for our legal system. The working group correctly emphasized that existing ethics rules—especially rules barring conflicts of interest and protecting client confidentiality—already require lawyers who accept third-party funding to maintain their independence and place their client’s interests above their own interests or the interests of a funder.

The two proposals differed primarily on whether the funding could be used for general firm purposes or only for use on the particular funded cases, the extent of the funder’s participation in the case, and whether clients must provide written informed consent. The working group also emphasized that the 2018 opinion was “neither binding precedent nor a required rule of practice; it is advisory,” and both competing proposals noted that by proposing revisions to Rule 5.4, they were not confirming that any current funding arrangement is impermissible under the current rule.

Rejecting Calls for Mandatory Disclosure

The working group’s recommendations about disclosure are just as consequential as its conclusions about Rule 5.4. Opponents of litigation funding are currently pursuing efforts at the federal and state levels to require the mandatory disclosure of litigation funding agreements at the outset of litigation, regardless of whether the defendant can establish that the funding agreements are relevant, proportional, and not privileged.

The working group spent 30 pages studying the issue, comprehensively reviewing the arguments for and against disclosure. The committee rejected the arguments in favor of mandatory disclosure of commercial litigation funding agreements in federal and state court litigation, concluding that mandatory disclosure should not be required. The working group went as far as saying that disclosure should not even be permitted on a case-by-case basis absent “special circumstances.” The committee withheld comment on whether disclosure is appropriate in the class action context, and it recommended routine disclosure of only the fact of funding and the identity of the funder in arbitrations, as opposed to court proceedings.

The working group’s conclusions about disclosure correspond with the emerging consensus among America’s jurists. A slew of decisions over the past several years have addressed defendants’ efforts to discover funding documents. The great majority of those decisions have rejected those discovery efforts, concluding either that the documents are irrelevant to the claims and defenses in the case, or are protected by the work product doctrine or the attorney-client privilege.

The working group concluded, after conducting one of the most in-depth committee studies of litigation finance in the U.S, that expanded access to funding will benefit clients and lawyers, that funding should not undermine attorney independence, and that commercial litigation funding documents should be immune from discovery in court absent special circumstances.

Claimholders should hope that judges and policymakers heed these recommendations when they consider proposed regulations of the litigation finance industry.

Author Information

William C. Marra is a portfolio counsel with Validity Finance, a litigation finance company headquartered in New York City.

Reproduced with permission from Copyright 2020, The Bureau of National Affairs, Inc. (800-372-1033) www.bna.com.