Upheaval in the Litigation Funding Industry: UK Supreme Court Rules that many Litigation Funding Agreements are Unenforceable
9 min read
In a heavy blow to the litigation funding industry, the UK Supreme Court has held that many litigation funding agreements are damages-based agreements and must comply with the relevant regulatory regime.1 Funders will be urgently reviewing their funding agreements amid widespread concern that many will be unenforceable, in whole or in part, in their present form. For opt-out collective proceedings in the UK Competition Appeal Tribunal, DBAs are not permitted, so the decision is likely to have far-reaching consequences for both existing and future claims.
Introduction
Litigation funding involves a third-party funder, typically an independent commercial fund, financing all or part of the legal costs of a claim, in return for a share of any potential damages awarded. Litigation Funding Agreements ("LFAs") typically define such a return by reference to a percentage of any damages recovered, or a multiple of the amount advanced by the funder. Since historical common law restrictions on litigation funding have been relaxed, the litigation finance industry has grown rapidly in England and Wales, resulting in increased legislative and judicial attention.
The cases in hand are the so-called "Trucks" proposed collective actions in the UK Competition Appeal Tribunal ("CAT"), which are both follow-on damages claims arising out of a decision of the European Commission that certain truck manufacturers had entered into unlawful agreements in breach of European competition law. UK Trucks Claim Ltd ("UKTC") applied to the CAT to commence opt-out collective proceedings, with an opt-in claim in the alternative, on behalf of any person or organisation which, during the period of the cartel, purchased or leased one or more new trucks registered in the UK. The Road Haulage Association ("RHA") applied to the CAT to commence opt-in collective proceedings in respect of new and used trucks purchased in the UK and other European countries between 1997 and 2019. RHA's proposed collective proceeding involves more than 18,000 claimants and is estimated to be worth in excess of £2 billion.
To obtain a Collective Proceedings Order (a condition to allowing their claims to proceed), UKTC and RHA must satisfy the CAT that, amongst other requirements, they have adequate funding arrangements in place that comply with the applicable legislation. Therefore, UKTC and RHA entered into LFAs, with their funders set to receive a percentage of any damages awarded. They maintained that such arrangements did not constitute DBAs, which the Competition Act 1998 specifically prohibits from being used in opt-out collective proceedings before the CAT.2
DBAs are defined in s.58AA(3) of the Courts and Legal Services Act 1990 as "an agreement between a person providing advocacy services, litigation services or claims management services" by which the recipient of those services is to make a payment to the person providing the services (if the recipient obtains a financial benefit from the litigation), where the amount of the payment is "determined by reference to the amount of the financial benefit obtained".
The defendants to the Trucks cases challenged the lawfulness of the LFAs being utilised by UKTC and RHA, arguing that they were in reality DBAs, and did not satisfy the regulatory conditions to make them lawful.3 It was common ground that the LFAs did not meet those conditions; however, UKTC and RHA argued that they did not need to. The CAT and, on judicial review, the Divisional Court, agreed and found that the LFAs were not DBAs.
The question for the Supreme Court was whether the LFAs entered into by UKTC and RHA constituted DBAs. The LFAs in issue clearly did not pertain to the provision of advocacy or litigation services as the funders played no active role in the provision of either of these services. The crucial question was therefore whether the LFAs concerned the provision of "claims management services", i.e. "advice or other services in relation to the making of a claim"4 including "the provision of financial services or assistance". 5
The Supreme Court's Decision
In a landmark decision, the Supreme Court allowed the appeal by a majority of 4 to 1 (with Lady Rose dissenting) determining that, contrary to established industry practice and expectations, the LFAs were in fact DBAs.
The Supreme Court held that the words used in the statute to define "claims management services", read according to their natural meaning, were capable of covering the LFAs in this case. The wording "advice or other services in relation to the making of a claim" was wide, and crucially was never tied to the concept of active management of a claim. This interpretation was strengthened by s.4(3)(a) of the Compensation Act 2006, which includes a non-exhaustive list of services (including the provision of financial services) drafted in broad terms.
The Supreme Court considered that the relevant sections of the Compensation Act were intended by Parliament to give the Secretary of State extensive power to regulate this rapidly developing area. That finding led them to conclude that "the definition of 'claims management services' is meant to be wide and is not intended to be coloured by the notion of 'claims management'". 6
The Supreme Court therefore held that the LFAs entered into by UKTC and RHA are DBAs because the LFAs in question met all three elements of the statutory definition for a DBA. They: (i) were for the provision of claims management services; (ii) provided that UKTC / RHA were to make a payment to the funders if UKTC / RHA obtained a financial benefit in connection to the claim; and (iii) set the amount of the payment to the funders by reference to the amount of the financial benefit obtained (here, the funders were to receive a percentage of any damages ordered). Since it was common ground that the LFAs did not comply with the regime covering DBAs, the agreements were held to be unenforceable. Even if the LFAs had complied with the regime covering DBAs, they still would have been unenforceable to the extent that they related to opt-out collective proceedings (given the statutory prohibition on DBAs for opt-out collective actions). There are now no effective funding arrangements for the claims, which is a pre-requisite for a claim to be certified as a collective proceeding in the CAT.
Comment
Whilst the Supreme Court's decision is significant for the Trucks collective actions, the consequences of the judgment extend far beyond this case. As the Supreme Court recognised, "the implications of the issue in the appeal are significant" and "the likely consequence in practice would be that most third party litigation funding agreements would by virtue of [s.588AA(3) of the Courts and Legal Services Act 1990] be unenforceable as the law currently stands".7 Indeed, one funder estimated that "hundreds" of funded civil lawsuits in the English courts could be affected by the ruling.8
The litigation funding industry has been proceeding for years on the assumption that third-party funding arrangements, where the funder takes a passive role in the conduct of the litigation and is remunerated by receiving a share of any compensation recovered, are not DBAs. Funders generally assumed that such agreements were enforceable as ordinary binding contractual arrangements and did not have to comply with the conditions set out in the applicable regulatory regime. That assumption has been shown to be wrong.
Funders and clients alike will no doubt be reviewing closely their funding arrangements in light of this decision. It is not uncommon that funding agreements operate with the funder rewarded by reference to a percentage of any damages recovered or, in the alternative, a multiple of the amount advanced by the funder. Funders may now seek to rely on the multiple of the amount advanced; however, we may well see defendants arguing that arrangements that advance compensation in this way are also DBAs. The Supreme Court's judgment does not offer the level of comfort funders would be hoping for in respect of whether such funding arrangements are DBAs or not.
Funding organisations have been quick to downplay the impact of the decision on the funding industry, saying that, whilst disappointing, the decision "is not generally expected to impact the economics of legal finance and will not deter our members' willingness to finance meritorious claims. It will only affect how legal finance agreements are structured so that they comply with the regulations".9
Funders will nevertheless be concerned about sums already advanced under unenforceable arrangements and could face heavy losses where the basis of their recovery is no longer referable to the ultimate award of damages to the claimant. Funders may also seek to restructure their arrangements to comply with the DBA regulations; however, as noted above, even DBAs that comply with the relevant DBA regulatory regime are not permissible in opt-out collective proceedings in the CAT. If the risk / reward profile of any restructured funding arrangement is inadequate, either the claimant or funder may elect to abandon the claim altogether. This in turn will likely result in the claimant facing a substantial adverse costs claim. In instances where funding arrangements are unable to be restructured, defendants may also apply for security for costs.
Overall, the Supreme Court's decision will clearly cause substantial upheaval in that forum where LFAs like those scrutinised by the Supreme Court were the norm. It remains to be seen how the CAT will now manage claims that were certified on the basis that funding requirements were satisfied, when, with hindsight, such arrangements were unenforceable.
In terms of English-seated arbitrations, there is much uncertainty regarding the possible impact of the Supreme Court's decision. The regulatory regime that governs funding arrangements in England and Wales is complex and it is generally unclear whether it specifically applies to arbitration.10 Consequently, in the absence of judicial guidance on this point, arbitration practitioners and funders will likely adopt a conservative approach to the Supreme Court's decision and seek to structure / restructure their funding agreements accordingly.
1 R (on the application of PACCAR Inc and others) v Competition Appeal Tribunal [2023] UKSC 28.
2 S.47C(8) of the Competition Act 1998.
3 Including satisfying the requirements set out in the Damages-Based Agreements Regulations 2013.
4 The term "claims management services" is defined by reference to s.4(2) of the Compensation Act, as "advice or other services in relation to the making of a claim".
5 Under s.4(3)(a) of the Compensation Act, "other services" includes, in particular, "the provision of financial services or assistance".
6 [67].
7 [13].
8 [243].
9 A joint statement between the International Legal Finance Association and the Association of Litigation Funders of England and Wales.
10 S.58AA(7A) of the Courts and Legal Services Act 1990 states "the definitions of 'advocacy services' and 'litigation services' (as they apply for the purposes of this section) 'proceedings' includes any sort of proceedings for resolving disputes (and not just proceedings in a court), whether commenced or contemplated".
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