As we have noted in prior posts, there appears to have been an uptick in the funding of litigation by third parties, a practice that has rightly been questions as opportunistic, overly secretive, contrary to notions of standing and fair play, and as a practice that may lead to increased unnecessary litigation. Back in April 2021, the United States District Court for the District of New Jersey proposed a new local rule, Local Civil Rule 7.1.1, to require  disclosure of certain information regarding third-party litigation funding.

The Proposed Rule would require disclosure of the funder’s identity, including the name, address, and, if applicable, its place of formation; whether the funder’s approval is required for litigation and settlement decisions and, if so, the nature of the terms and conditions of that approval; and a brief description of the nature of the funder’s financial interest.

Consistent with caselaw on the issue, the Proposed Rule also provides that the parties may seek additional disclosures of the terms of the agreement after showing that a) the funder does have the right to make material litigation or settlement decisions; b) the interests of the named parties or proposed class are not being protected (such as conflicts of interest); or c) additional discovery is necessary to any issue in the case. E.g.,  In re Valsartan N-Nitrosodimethylamine (NDMA) Contamination Prod. Liab. Litig., 405 F. Supp. 3d 612, 615 (D.N.J. 2019).

Comments were submitted by many last month, including on behalf of the U.S. Chamber Institute for Legal Reform (“ILR”) and New Jersey Civil Justice Institute (“NJCJI”), which noted that at present, much of the third party financing activity in the District of New Jersey is occurring in secrecy because there is generally no procedural or evidentiary rule requiring disclosure of the use of such funding.  The groups noted that by identifying persons/entities with a stake in the outcome of the litigation, the contemplated disclosures would allow courts and counsel to ensure compliance with ethical obligations regarding conflicts. Disclosure may also reduce the likelihood of unethical fee-sharing between lawyers and non-lawyer funders consistent with Model Rule of Professional Responsibility 5.4, which has been adopted in New Jersey and other states.

The proposed amendment would satisfy defendants’ entitlement to know their accusers – i.e., who is really on the other side of an action. Disclosure of such funding – including the nature of the financial interest at stake – would also level the playing field in cases in which a plaintiff seeks to make the size or wealth of a corporate defendant a key theme in the litigation… the misleading David vs. Goliath narrative at trial.

The contemplated disclosures are also highly relevant to the all-important issue of settlement. A party that must pay a third party funding entity a percentage of the proceeds of any recovery may be inclined to reject what might otherwise be a fair settlement offer in the hopes of securing a larger sum of money. Indeed, litigation funding makes it harder and more expensive to settle cases. These disclosures would allow both courts and defendants to more accurately evaluate settlement prospects and to better calibrate settlement initiatives. Further, according to these groups, transparency would allow courts to structure settlement protocols with greater potential to succeed.

The proposed disclosure rule would provide courts and parties information about whether third party finding companies are exercising control or influence over litigation. The companies frequently dismiss such concerns by asserting that they do not control litigation strategy, note the comments. However, the few  agreements that have come to light demonstrate that, unsurprisingly, funding entities actually do exercise various forms of control and influence over the litigation matters in which they invest. E.g., Boling v. Prospect Funding Holdings, LLC, 771 F. App’x 562, 579 (6th Cir. 2019).

The proposed local rule would enable courts to determine whether funding arrangements are running afoul of state-law prohibitions against champerty – the legal doctrine that may bar someone from funding litigation in which he or she is not a party. Some states still have this rule.  The contemplated disclosures are also highly relevant in purported class actions, particularly in evaluating Fed. R. Civ. P. 23(a)(4)’s adequacy-of representation requirement.

The disclosure of such funding arrangements would also be important information to  have on the record in the event that a court determines it should shift costs or impose sanctions or levy costs. The comments note that Federal Rule 26(b)(1) states that the scope of discovery shall be “proportional to the needs of the case, considering . . . the parties’ resources . . . [and] whether the burden or expense of the proposed discovery outweighs its likely
benefit.”  Unlike an average plaintiff, a TPLF entity’s business purpose is to raise funds to prosecute and profit from litigation. Thus, the existence of third party funding is relevant to the proportionality element of the scope of discovery.