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Third-party litigation funding, also known as litigation finance or legal finance, represents one of the most significant developments in the legal industry over the past two decades. This practice involves external investors providing capital to fund legal proceedings in exchange for a portion of any monetary recovery obtained through settlement or judgment. What began as a niche financial product has evolved into a multi-billion-dollar industry that is reshaping how legal disputes are financed and resolved.
The concept challenges traditional assumptions about who can and should pay for litigation, democratizing access to justice while simultaneously raising important questions about ethics, regulation, and the proper role of commercial interests in the legal system. Understanding third-party litigation funding requires examining its mechanics, benefits, risks, and the ongoing debates surrounding its use.
How third-party litigation funding works
At its core, third-party litigation funding involves a contractual arrangement between three parties: the claimant (plaintiff), the funder, and typically the claimant’s legal counsel. The funder provides capital to cover legal expenses, case costs, or living expenses for the claimant during the litigation process. In return, the funder receives a predetermined share of any monetary recovery if the case is successful.
The funding agreement is typically structured as a non-recourse arrangement, meaning that if the case is unsuccessful, the claimant has no obligation to repay the funder. This shifts the financial risk from the claimant to the funder, who must carefully evaluate the merits and potential returns of each investment opportunity.
Types of funding arrangements
These are the most common arrangements when it comes to third-party funding:
- Single-case funding: The most straightforward arrangement involves funding a single lawsuit from inception through resolution. The funder provides capital for attorney fees, expert witness costs, discovery expenses, and other litigation-related costs.
- Portfolio funding: More sophisticated arrangements involve funding multiple cases simultaneously, allowing funders to diversify risk across different matters, practice areas, and jurisdictions. This approach can provide more stable returns and reduce the impact of any single case failure.
- Law firm funding: Some arrangements involve providing capital directly to law firms to support their operations or specific practice areas. This can include funding for case expenses, attorney salaries, or general working capital.
- After-the-event (ATE) insurance: Often used in conjunction with litigation funding, ATE insurance protects against adverse cost orders, providing additional financial security for both claimants and funders.
Due diligence process
Litigation funders employ rigorous due diligence processes to evaluate potential investments. This typically involves:
- Legal merit assessment: Experienced attorneys and legal consultants review case documents, analyze applicable law, and assess the strength of legal arguments and defenses.
- Damages analysis: Financial experts evaluate the quantum of potential damages, considering factors such as lost profits, market harm, and available recovery methods.
- Collectability analysis: Funders assess the defendant’s ability to pay a judgment or settlement, examining financial statements, asset holdings, and insurance coverage.
- Case management evaluation: The track record and capabilities of the legal team are scrutinized, as successful outcomes often depend heavily on attorney skill and experience.
- Economic modeling: Sophisticated financial models are used to project potential returns, considering various scenarios and probability weightings.
Market participants and structure
So now that you have a better understanding of what third-party funding entails, let’s take a closer look at who these investors are and how they function:
- Litigation funders: The litigation funding industry includes several categories of participants, each with different investment strategies and risk profiles.
- Institutional funders: Large, well-capitalized firms such as Burford Capital, Omni Bridgeway, and Therium manage hundreds of millions or billions of dollars in assets. These firms typically focus on high-value commercial disputes and can provide substantial funding for complex, multi-year litigations.
- Boutique funders: Smaller, specialized firms often focus on particular practice areas, geographic regions, or case types. They may offer more personalized service and faster decision-making but typically have more limited capital resources.
- Hedge funds and private equity: Some traditional investment firms have entered the litigation funding space, either directly or through specialized subsidiaries, bringing additional capital and financial expertise.
- Family offices and high net worth individuals: Wealthy individuals and family investment offices sometimes invest in litigation funding, either through established funds or direct investments.
Legal service providers
The growth of litigation funding has spawned an ecosystem of specialized service providers including:
- Brokers and intermediaries: Firms that connect claimants with appropriate funders, often providing initial case assessment and negotiation support.
- Due diligence providers: Specialized consulting firms that conduct legal, financial, and technical analysis for funders.
- Case management companies: Organizations that provide ongoing monitoring and reporting services throughout the litigation process.
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Benefits of third-party litigation funding
So, now that you have a clearer picture of the what, who and how, let’s take a look at the “why?”
Access to justice
The most frequently cited benefit of litigation funding is improved access to justice. Many individuals and businesses with meritorious claims lack the financial resources to pursue complex litigation against well-funded opponents. Litigation funding levels the playing field by providing the capital necessary to mount an effective legal challenge.
This is particularly important in cases involving:
- Individual plaintiffs facing large corporations.
- Start-up companies challenging established competitors.
- Insolvency practitioners pursuing claims on behalf of bankrupt estates.
- Class action lawsuits where individual class members lack resources.
Risk transfer and financial flexibility
Litigation funding allows claimants to transfer the financial risk of unsuccessful litigation to professional investors. This can be especially valuable for businesses that need to preserve capital for operations rather than tying up resources in uncertain legal proceedings.
The non-recourse nature of most funding arrangements means that claimants can pursue their legal rights without risking financial ruin if the case is unsuccessful. This can lead to more rational decision-making about whether to pursue or settle claims.
Enhanced case quality
Professional litigation funders bring significant expertise to case evaluation and management. Their involvement often results in:
- More thorough case preparation and strategy development.
- Access to top-tier legal counsel and expert witnesses.
- Better case management and cost control.
- More realistic settlement negotiations based on professional risk assessment.
Economic efficiency
From an economic perspective, litigation funding can improve the efficiency of legal markets by:
- Encouraging the pursuit of meritorious claims that might otherwise go unpursued.
- Deterring frivolous litigation through rigorous screening processes.
- Providing market-based pricing for legal risk.
- Reducing the settlement pressure on claimants caused by financial constraints.
Risks and concerns
Of course, this type of litigation funding is not right for everyone. Here are a few reasons why you would be better off finding alternative strategies:
Control and independence issues
One of the primary concerns about litigation funding is the potential for funders to exert inappropriate control over litigation strategy and settlement decisions. While most funding agreements explicitly preserve the claimant’s control over key decisions, the economic relationship can create subtle pressures and conflicts of interest.
Critics worry that funders may:
- Pressure claimants to reject reasonable settlement offers in pursuit of higher returns.
- Interfere with attorney-client relationships.
- Prioritize their own interests over those of the claimant.
- Create conflicts when funding multiple parties in related disputes.
Cost and return issues
Litigation funding is expensive capital, with funders typically seeking returns of 20-40% or more on successful cases. Critics argue that these high returns may not be justified by the actual risks involved and that they reduce the net recovery available to claimants.
Additionally, the structure of many funding agreements can lead to situations where funders receive disproportionate returns on highly successful cases, potentially creating perverse incentives.
Lack of regulation and transparency
The litigation funding industry operates with relatively little regulation in most jurisdictions. This lack of oversight raises concerns about:
- Inadequate disclosure requirements.
- Potential conflicts of interest.
- Consumer protection issues.
- Market manipulation or abuse.
The private nature of most funding agreements also limits transparency, making it difficult for courts, opposing parties, and the public to understand the full scope and impact of third-party interests in litigation.
Impact on settlement dynamics
Some critics argue that litigation funding can distort settlement negotiations by:
- Reducing claimants’ incentives to settle early.
- Creating asymmetric information between parties.
- Introducing additional complexity and parties to negotiations.
- Potentially increasing overall litigation costs and duration.
Is it right for you?
Determining whether or not third-party litigation funding is appropriate for your case boils down to the following factors:
- You have a strong case but insufficient resources to pursue it.
- The defendant has deep pockets but you’re facing financial pressure to settle cheaply.
- You’re a business that needs to preserve capital for operations.
- You’re pursuing a high-value claim against a well-funded opponent.
- The case is complex and likely to involve substantial expert and discovery costs.
A few red flags that could indicate this type of funding isn’t in your best interest:
- The funder won’t provide clear terms or rushes you to sign.
- You’re being asked to give up control over settlement decisions.
- The funding terms seem excessive relative to the case risk.
- Multiple funders have rejected your case after due diligence.
The decision ultimately comes down to whether the cost of funding (both financial and in terms of reduced control) is justified by your need for capital and risk transfer. Most people benefit from consulting with both their attorney and a financial advisor before making this choice.
The bottom line
Third-party litigation funding represents a fundamental shift in how legal disputes are financed and resolved. While the industry has faced criticism and regulatory challenges, it has also demonstrated significant benefits in terms of access to justice and economic efficiency.
As litigation funding becomes more mainstream, it is essential that all participants in the legal system understand its implications and work together to ensure that it serves the broader interests of justice and economic efficiency. The future of litigation funding will be shaped by how well the industry responds to current challenges and adapts to evolving legal and regulatory environments.
* JG Wentworth does not provide pre-settlement/lawsuit funding services. All leads are brokered to unaffiliated third party providers by Peachtree Funding Northeast, LLC.
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