Australia: Litigation funding - a world gone mad or sensible reform? The Productivity Commission proposed reforms

Timely and affordable access to justice is critical in facilitating the efficient and fair resolution of civil disputes. As things presently stand in Australia, the cost of litigation prevents many individuals, and organisations, from accessing courts. Even alternative dispute resolution is often cost prohibitive.

Enter the litigation funding market, which has developed rapidly as a way of helping people overcome the cost barriers to accessing the courts.

In Australia, the funding market is dominated by a number of large, unregulated third party funders who usually enter into arrangements whereby they receive an agreed share of any amount recovered by the party they fund.

Somewhat controversially, lawyers and law firms are prohibited from entering these types of fee arrangements, known as contingency fees. Many have tried to find creative ways to get around the prohibition— seeking to use litigation funding in which they have a financial interest to finance cases in which they act for the applicant(s). This has been rightly disallowed as an 'end run' around the prohibitions.

If Australia is to allow lawyers to fund litigation in which they act, it seems legislative reform is needed. The Productivity Commission advocates just that in its 'Access to Justice' report released this week, along with other related measures and protections. This is a sensible reform long overdue.

THE PRODUCTIVITY INQUIRY REPORT – ACCESS TO JUSTICE

The Commission recommends sweeping reforms to promote access to justice and remedy a system that it says is " too slow, too expensive and too adversarial".

The Report analyses how litigation funding helps overcome the cost barriers to seeking resolution of disputes and redress of loss through litigation. Principal amongst the Commission's recommendations are:

• the removal of the current prohibition on lawyers and law firms charging contingency fees for most civil litigation matters; and
• the implementation of a licensing regime to regulate third party litigation funders.

CONTINGENCY FEE ARRANGEMENTS – LIFTING THE BAN

The Commission recommends lifting the ban on lawyers and law firms funding civil litigation they run themselves on the basis that contingency fee arrangements promote access to justice by striking an important balance between individual litigants who would otherwise be prevented from litigating complex matters and their better resourced opponents.

This recommendation is subject to important safeguards, including:

• maintaining the prohibition on contingency fee arrangements for criminal and family law matters;
• comprehensive disclosure obligations (as to the percentage of damages to be recovered by law firms and responsibility for liability for disbursements and adverse costs orders); and
• capping the percentage limit on a sliding scale (to prevent law firms gouging, or earning windfalls on high value claims).

As a further safeguard, the Commission recommends that the courts have discretion to award adverse costs orders against non-parties charging contingency fees, (the Victorian Supreme Court rules already make provision for costs orders against non-parties in some circumstances).

Critics of contingency fee arrangements argue that they perversely incentivise law firms, encourage litigants to pursue unmeritorious cases, and create conflicts for lawyers.

The Commission considers these risks are mitigated by the fact that law firms would have a strong financial incentive to reject unmeritorious cases, by ensuring that settlement acceptance is subject to client approval and by requiring comprehensive disclosure in respect of what constitutes a 'win' outcome.

In addition, the legal profession is well-regulated, and strong ethical and professional obligations also mitigate such risks.

In any event, the ban on contingency fees is difficult to justify in circumstances where third party litigation funding is a widely accepted mechanism for increasing access to justice, despite these funders being, at present, largely unregulated and often directly involved in decision-making regarding the litigation.

LICENSING THIRD PARTY FUNDERS

To address the current lack of adequate supervision of third party litigation funders, the Commission recommends implementing a mandatory licensing regime for third party funders which would involve:

• a requirement that all funders be licensed as financial service providers under the Corporations Act 2001 (Cth);
• a requirement that funders hold adequate capital to meet financial obligations to consumers and other parties (including costs liabilities); and
• comprehensive disclosure obligations.

CLASS ACTIONS

The Commission clearly considers that class actions are a mechanism providing important access to courts in matters which would otherwise never be pursued.

They go further, though, noting the stewardship role funders play in such actions — when they identify, contact and organise members of a class, in circumstances where it may otherwise be impractical for a group of claimants to organise themselves.

The Commission acknowledges the importance of litigation funders in assuming responsibility for liability for adverse costs orders which would otherwise be a strong disincentive in commencing class actions given non-representative group members are statutorily immune from costs orders ordered against a representative party.

The Commission argues that, while there are risks with litigation funding, appropriate management of those risks (by way of the reforms proposed) allows the benefits of such funding to be achieved while properly protecting those who may be targeted by such litigation.

THE CURRENT STATE OF PLAY

Australia has one of the most liberal class action regimes in the world, and the Australian litigation funding model has been adopted by jurisdictions including the US, Canada and the UK.

Yet, litigation funding in Australia is currently dominated by large third party funders who typically, and controversially, seek to retain between 20% and 70% of any damages or settlement sums awarded in a given case.

Against this backdrop, there have been recent efforts to circumvent the prohibition on contingency fees — these have rightly fallen spectacularly flat. Victorian Supreme Court decisions in Melbourne City Investments Pty Ltd v Treasury Wine Estates Limited (No. 3) [2014] VSC 340 and Bolitho v Banksia Securities Limited [2014] VSC 582 deal squarely with efforts to make an 'end run' around the ban on contingency fees. In Bolitho, Justice Anne Ferguson held that, as the law presently stands, the lawyers representing Banksia Securities were not fit to represent shareholders in the class action due to their conflict of interest arising from their financial interest in the litigation funder.

We would be remiss not to also note the clearly relevant (and relatively recent) availability of After the Event (ATE) insurance in the Australian market. ATE insurance covers adverse cost orders, and has long been available in the UK market. It can be purchased after a dispute has arisen or proceedings are contemplated, and premiums typically run about 25% to 40% of the amount of the policy limit. This will no doubt assist funders (including law firms) in managing their own risk and, more broadly, help assure that funds are there to cover any adverse costs orders. A full analysis of the impact of this insurance (and speculation as to how reforms might address it, for example, should premiums be a recoverable cost?) is beyond the scope of this article — suffice to say that it is an important development in this context.

THE WAY AHEAD

Allowing law firms to enter the litigation funding arena will increase competition in the litigation funding marketplace, and may force third party litigation funders to reduce their charges. More players will also mean more capital is available to fund class actions and other litigation, and potential litigants will have greater choice of litigation funding products. It is also well recognised that the main funders currently active typically fund only very large matters with an extremely lucrative potential return. This means there is a gap in the market — smaller but meritorious claims often go un-redressed due to the cost of access to courts. Allowing lawyers to enter the market will help to address this issue.

Making such changes alongside long overdue increased regulation of litigation funders will improve transparency and provide better assurance that costs will be properly met and decisions taken for the appropriate reasons.

Of course, many have observed that if Australia heads down this path, care is needed to avoid the problems or excesses perceived to exist in the US, where contingency fee arrangements are said to sometimes encourage unmeritorious litigation. Some of these outcries have been rather alarmist and misconceived.

While unmeritorious litigation is clearly undesirable, allowing contingency fees will not itself cause a flood of such cases — the Australian costs system and substantive laws are such that protections exist to appropriately discourage such an outcome.

Measured and sensible reform allowing law firms to enter the litigation funding arena and improving regulation of funders, in the context of our system and professional standards, is a logical step forward.

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