European Law Institute publishes principles governing third party litigation funding

The European Law Institute (ELI) last week published its Principles Governing the Third Party Funding of Litigation, which are intended to constitute a "blueprint for guidance, decisions or light-touch regulation" of the burgeoning market in third party funding internationally.

The report sets out principles which identify and provide guidance on key issues relating to the conduct of funders and funded parties, with the aim of ensuring that the funding market operates fairly and to the benefit of all parties. It stipulates a suggested minimum content for funding agreements and provides sample wording to deal with particular issues. It also includes commentaries discussing the application of the principles in the context of special types of proceedings, such as consumer litigation, arbitration and insolvency proceedings.

As noted in the report, the principles are intended to offer an alternative to both codes of conduct and prescriptive regulation of the funding market. They do not carry any sanction for non-compliance. That is left to individual jurisdictions, which (the report notes) may wish to incorporate the principles into legislation or regulation to provide the necessary enforcement mechanisms. Otherwise the potential benefits of the principles will depend on parties being aware of them and able to follow the guidance they provide in negotiating a "robust and fair" funding agreement.

The ELI report is of particular interest as the team behind it was co-led by Mrs Justice Cockerill, who is also a member of the Civil Justice Council (CJC) working group that is currently conducting a review of the litigation funding sector. That review is looking at various important issues affecting litigation funding in England and Wales, including whether and how third party funding should be regulated, whether there should be a cap on funders' returns, and the court's role in controlling the conduct of litigation supported by third party funding. The CJC's interim report was due to be published by summer 2024, and is expected imminently.

The ELI report identifies four core objectives which it says lie at the heart of the search for the legitimate and effective use of third party funding, and which the principles set out in the report are intended to further. These are:

• Facilitating and increasing access to justice
• Identifying and meeting valid concerns about third party funding
• Levelling the playing field internationally between the parties
• Informing regulatory or legislative responses and assisting courts

In this blog post we do not set out the principles in full, but have summarised some of the most significant aspects and how they compare to the approach taken in the Code of Conduct for members of the Association of Litigation Funders of England and Wales (the "ALF Code").

Principle 4: Promotional materials

This principle states that a funder must ensure any promotional materials it provides are "comprehensive, clear and not misleading". As a minimum, they should include a prominent statement that a party considering entering into a funding agreement should first seek independent legal advice (from a lawyer with no connection to the funder). They should also include a list of sources of information (such as the ELI principles) on the relevant issues.

The requirement for clear promotional materials is consistent with the ALF Code, which requires that a funder's promotional literature must be "clear and not misleading".

The ALF Code also requires the funder to take reasonable steps to ensure the funded party has received independent legal advice before entering into the funding agreement, but it considers this obligation to have been satisfied if the funded party has taken advice from the solicitor or barrister instructed in the dispute. The ELI report expresses the view that this is an "unsafe model", particularly where those lawyers may have a financial conflict of interest due to portfolio funding or repeat instructions from the funder.

Principle 5: Transparency

This principle deals with transparency to the funded party, as well as the opponent in the proceedings and the court itself.

It sets out the minimum information that should be provided to the funded party before entering into the funding agreement, namely the identity of the funder, the source of the funds, and details of any conflicts of interest. The "funded party" is intended to include those with the benefit of the funding as well as those who are direct parties to it – though it is not clear whether that would include represented parties in opt-out collective proceedings.

It goes on to say that all other parties to the litigation, and the court, must be informed that the litigation is being funded by a third party, and the identity of the funder, once the funded litigation has commenced (or within 14 days of execution of the funding agreement, if the agreement is entered into after the litigation has commenced). There is no equivalent requirement in the ALF Code, and in the UK there is ordinarily no requirement to disclose funding arrangements apart from in the context of collective proceedings in the Competition Appeal Tribunal.

Principle 6: Conflicts of interest

This principle states that funders should take appropriate measures to ensure conflicts do not arise, and the funding agreement should set out clearly the steps the funder is taking to avoid actual or potential conflicts.

The commentary in the report notes that two main areas of concern have been highlighted in relation to conflicts: (i) funder’s conflicts through other business (including, where relevant, the business of the ultimate source of funds); and (ii) the scope for conflicts amongst the legal team, eg whether a solicitor/barrister can have an interest in a funder, whether the agreement motivates the funder or lawyer to prioritise settlement over pursuing the case to trial, and the risk that the lawyer might favour the funder’s interests ahead of the client’s due to the wish for repeat business.

The report sets out sample wording that might be included in a funding agreement to deal with the issue.

The ALF Code states that a funder will not take any steps that cause or are likely to cause the funded party’s solicitor or barrister to act in breach of their professional duties, but is otherwise silent on the question of conflicts of interest.

Principle 7: Capital adequacy

This principle notes that third party funders have a responsibility to plan and manage their finances effectively so that they are able to meet their financial commitments when they become due and payable. It sets out various approaches that funding agreements may take in relation to capital adequacy, and states that as a minimum all funding agreements should require the funder to maintain the capacity to fund the sum or stages specified in the agreement.

The report sets out sample wording that might be included in a funding agreement, including a requirement for the funder to maintain sufficient financial capability to meet all reasonably foreseeable aggregate liabilities arising under all of its funding agreements in the next 24/36 months. The minimum requirement under the ALF Code is 36 months.

Principle 8: Funders' fees

This principle sets out various matters that should be explained to the funded party before entering into the funding agreement, including what the funder will fund, whether there is any cap on the funder's commitment, the reasonably foreseeable expenditure the funded party will have to bear, and whether the funder will cover any liability for security for costs and/or adverse costs.

The principle states that it is not sufficient that these matters are included in the funder’s standard terms or conditions: they must specifically be explained to the funded party, and the funder should seek express confirmation that the funded party has understood the relevant matters and still wishes to proceed.

The funding agreement must also set out the factors which inform the agreed basis for the funder's fees. The report lists a range of factors which feed into the question of what level of fee is justifiable, including (among other things) whether the dispute involves a high risk of loss, the expected timeline, the procedural hurdles and consequent costs, and issues as to enforceability.

The ELI report notes that views are highly polarised on the question of overall returns to funders and whether there should be some limit on the amounts that can be charged. It states that, in view of the "very different factors which apply in relation to different types of proceedings and litigants", and the intention that the principles should be universally applicable, the report does not adopt a prescriptive approach, focusing instead on clarity as to fee structures and the provision of information.

That is broadly similar to the approach in the ALF Code, which contains (more limited) requirements for the provision of information but no restriction on the funder's return.

Principle 10: Case management / control

This principle states that the funded party shall (save in exceptional cases) be the ultimate decision-maker in relation to the funded proceedings, and any derogation from that principle must be clearly stated in the funding agreement. It adds that the funding agreement should specify whether and (if so) how the funder is to be involved in or have control of litigation decisions or be involved in decisions relating to settlements. It should also include a dispute resolution clause for any disputes in respect of the funder's rights to be involved and the acceptability of settlement offers.

The principle also recognises the funder's right to be informed of the progress of the proceedings, any reports/statements of factual or expert witnesses, how its funds are being spent, and the level of its costs liability or potential costs liability under the funding agreement.

The report notes that there is a "vibrant debate" as to whether it is appropriate for a funding agreement to require the funder's consent to any settlement, and that many commentators and jurisdictions take a firm approach that the funded party must have ultimate control, with the funder taking no active part in such decisions. Even short of control of settlement, there is also a great deal of contention as to whether it is appropriate for a funder to have control in the sense of a significant influence on the litigation process more generally.

As noted above, the ELI report does not seek to prevent a funder from controlling proceedings or settlement, where that is permitted by the applicable law, but it sets the default position that the funded party should be the ultimate decision-maker, with any derogation from that starting point clearly agreed, delineated and recorded in the funding agreement.

That appears to be a slightly more liberal approach than is taken by the ALF Code, which provides that a funder will not seek to influence the funded party's solicitor or barrister to "cede control or conduct of the dispute" to the funder (ie with no apparent ability to derogate from that requirement in the funding agreement). However, the ALF Code does provide that the funding agreement shall state whether (and if so how) the funder may "provide input" to the funded party's decisions in relation to settlements.

Principle 11: Termination

This principle states that the funding agreement should not give the funder a broad discretionary right to terminate, but any rights to terminate should be clearly set out in the agreement and their consequences explained to the funded party prior to entering into the agreement.

This is consistent with the ALF Code, which limits the circumstances in which the funding agreement may give the funder a right to terminate to the following: if the funder reasonably ceases to be satisfied about the merits of the dispute; if it reasonably believes the dispute is no longer commercially viable; or if it reasonably believes the funded party is in material breach of the funding agreement.

The ELI report includes sample wording for funding agreements to address this issue.