Third-Party Funding in Litigation and Arbitration

Litigation and Arbitration is a tedious process undertaken by a party to enforce their rights. It not only involves a lot of time but can also be an expensive affair. Further, in a legal battle against wealthy defendants/respondents with deep pockets the petitioner/plaintiff must have sufficient resources to sustain the proceedings. Here comes the role of third party who can finance the party with shallow pockets in their legal endeavor. Such party is otherwise unconnected with the proceedings, and they choose to fund the proceedings in a dispute in return for a financial gain, likely out of the damages awarded to the party funded.

Considering that approximately Rs. 30 crore is spent on litigation in India it attracts a lot of money from people who are interested in taking the risk. Further, arbitration proceedings which are time specific as per the Arbitration and Conciliation Act, 1996 ensures that a timely resolution to the dispute is done which further provides a lucrative opportunity to people looking to invest as a third-party financer or litigation financer.

Who are third-party funders?

1. Third-party funding is when someone completely unrelated to the legal issue provides funds to a party to proceed with litigation or arbitration in exchange for an agreed return. This funding usually covers the legal fees and other expenses incurred in undertaking the arbitration and litigation. If the funded party is ordered to pay the other side’s costs and provide security, then this third-party funder will comply with the order.
2. There are specialized third party funders, insurance companies, investment banks, hedge funds and law firms have entered the market.  
3. There is no one structure that is followed by third-party funders. There is a variety of structures available, e.g., portfolio funding where funders provide a funding package that covers a portfolio of cases.
4. The question that may arise is why a third party will be willing to fund litigation or arbitration for another person. It is because the funder has a vested interest in the award being received. He will be getting interest. Since, the funder is willing to take the underwriting risk in case the party he is funding loses he is likely to take an interest rate higher than the banks.

Can a lawyer be a third-party funder?

1. Third-party funding is not prohibited by Indian Law. However, there is a lack of clarity as to who can assume the character of a third party. It is clear from the decision of the Supreme Court in the Bar Council of India v. AK Balaji case that the Bar Council of India rules bars an advocate from stipulating a fee contingent on the results of the litigation or from agreeing to share the proceeds thereof. Rule 21 of the Bar Council of India Rules restricts practices in the nature of champerty or maintenance and prohibits an advocate from buying or trafficking in or stipulating or agreeing to receive any share or interest in an actionable claim.
2. Even though Indian law doesn’t explicitly prohibit a lawyer from funding a litigation/arbitration. But a conjoint reading of Rule 18, Rule 20, Rule 21 and Rule 22 would strongly suggest that advocates in India cannot fund litigation on behalf of their clients.[1] Further, it is noted by the Supreme Court that partnership with non-lawyers for conducting legal practice is not permitted in India.[2]

Benefits of implementing third-party funding

1. It will act as a means of facilitating access to justice.
2. It will provide access to legal resources.
3. The third-party funders will act as middlemen between the victim/party and the lawyer.
4. Third-party funders will provide underwrite facility to the party in case their claim fails.
5. It will provide a level playing field to the parties.
6. It is legalized in many other jurisdictions with carefully curated laws to restrict misuse and hence India can do the same by learning and adopting the provisions in other jurisdictions.

Challenges in implementing third-party funding

1. Such permission is likely to hinder the free and fair proceedings of a case by creating third-party influence that can lead to biased-ness.
2. Further, access to larger funding can disturb equal footing between the parties and the party with deeper pockets will get an opportunity to harass and prolong the matter for an undue amount of time.
3. Certain doubts have been raised about implementing third-party funding but there is a clear understanding that a lawyer cannot fund litigation/arbitration because he is barred by Advocates Act.

Legal Position of Third-Party Funding in India

1. Ram Coomar Candoo v. Chunder Cando Mukherjee[3] it was held that a fair agreement to supply funds to carry on a suit in consideration of having a share in the property, if recovered, is not opposed to public policy and not illegal. However, such agreements ought to be carefully watched, when extortionate, unconscionable or made for improper objects, they ought to be held invalid.
2. Further, the concept of third-party funding is even statutorily recognized for civil suits under Order XXV Rule 1 of CPC which states that the courts are empowered to secure costs for litigation from a financier by asking it to become a party and disposing of the costs in court.
3. Supreme Court in the case of In Re GA Senior Advocate Case[4] wherein it was noted that a third-party funding agreement where the returns are made contingent on the outcome of the case is not per se illegal unless the third-party itself is the advocate. Hence, the bench prohibited legal practitioners from being the third-party itself that undertakes to finance the process on a contingency fee or success-based fee.
4. Rule 20 of the Advocates Act, 1961, provides that an advocate shall not stipulate for a fee contingent on the results of litigation or agree to share the proceeds thereof. Such a restriction is imposed so that advocate’s ability to act objectively and in a detached manner as an officer of the court and in a manner to not hinder the administration of justice is not affected.

Legal Position of Third-Party Funding in Abroad

1. Australia allowed dispute financing in the mid-1990s.
2. Singapore has recently passed an amendment to its Civil Law Act legalizing third-party funding for arbitration and associated proceedings.
   1. Singapore has passed legislation waiving the requirement for work permits for foreigners rendering arbitration services in Singapore and removing restrictions on the nationality of counsel and arbitrators involved in arbitrations in Singapore.
   1. Singapore also provides incentives in the form of tax exemptions for income derived by non-resident arbitrators for arbitration work carried out in Singapore.
   1. Tax exemption of 50 percent for qualifying law practices on their incremental income that arises out of international arbitration cases which culminate in Singapore or in which substantive hearings have been held in Singapore.
3. Similarly, Hong Kong recently legalized third-party funding for arbitrations and mediations.
   1. There are no restrictions on foreign law firms engaged in arbitration and no requirements are imposed on the nationality and professional qualifications of advisers to parties.
4. The Paris Bar Council has also indicated its support for third-party funding.
5. In Sweden, any person with full legal capacity without constraints of nationality or professional qualification is permitted to act as an arbitrator.
6. Other legislative efforts have focused on creating a conducive environment for arbitration through favorable regulatory measures and tax incentives.

Different scenarios must be considered by the Legislators while drafting rules:

1. To ensure that the third party is not related to a law firm or a lawyer and prevent a breach of Bar Council of India Rules.
2. Way to deal with the situation that the party being funded does not want to continue with the litigation/arbitration anymore. In that case, how does the third party get to recover its benefit or does it form part of underwriting only?
3. Measures to increase transparency in legal proceedings such that the judge/arbitrator as well as the other party is aware that there is a role of third-party funding and up to what extent.
4. It needs to be considered that arbitration provides for privacy between the parties and the arbitrator, i.e., they can choose to have the discussions, documents, and other related things be kept confidential, however, if the third party is seeking funding, they might demand access to the document to ascertain the probability of winning the case.
5. To consider whether such a practice will bring about betting and wagering in a noble profession like law.
6. How will the law distinguish between Indian and third-party funders? How will the law differ?
7. Measures to prevent transactions in the nature of black money.

Conclusion

The simple reason for restricting and prohibiting lawyers from developing a vested interest in litigation and arbitration is to render neutral legal services as an officer of the court. It is difficult to ensure that the third-party funders which are investors, insurance companies, investment banks, and hedge funds are not related to law firms or law companies and lawyers. Considering that the third-party funders have a vested interest in the proceeding after funding they will take charge of deciding who the lawyer would be representing the party. This incentivizes the third-party funder to do a detailed analysis of the success ratio of lawyers based on which gets them empaneled on their list and gets these lawyers appointed for the cases they are funding. Likewise, this will also motivate the lawyers/law firms to get empaneled with third-party investors. This will promote undertaking actions indirectly which are not allowed directly.

The legislators have to consider the possibility of likely association between third-party investors and law firms or lawyers while drafting rules and regulations allowing third-party funding in litigation and arbitration. Will disclosure of non-association with a legal party be sufficient? The legislators need to decide on the regulatory procedure for these third-party funders and punishment in case of breach of the underlying principle that the lawyer/law firm should not be associated with third-party funding.

[1] Para 34, Bar Council of India v. AK Balaji case.

[2] Para 36, Bar Council of India v. AK Balaji case.

[3] 1876 SCC Online PC 19.

[4] (1955) 1 SCR 490.