GAO’s Report On Litigation Funding: Intriguing, But Unlikely To Propel Immediate Change

In December, the United States Government Accountability Office (GAO) released a report entitled “Third-Party Litigation Financing:  Market Characteristics, Data and Trends.”

The report describes (1) characteristics of and trends in the commercial and consumer TPLF markets, (2) data gaps in the markets, and policy options to address them, (3) potential advantages and disadvantages of TPLF for users and investors, and (4) regulation and disclosure of TPLF in the U.S. and selected foreign countries.  The broad-ranging report is a generally helpful and balanced overview of the state of the funding industry, both from a factual and policy perspective.

Why was the report produced?

The GAO is an independent, non-partisan agency that works for Congress and typically analyzes how taxpayer dollars are spent, and research on litigation finance arguably sits outside GAO’s typical wheelhouse.  GAO produced the report at the request of three Republican legislators: Sen. Chuck Grassley, Rep. Andy Barr, and Rep. Darrell Issa presumably attributable to their interest in regulating the space.  For example, Sen. Grassley and Rep. Issa have repeatedly introduced legislation to require mandatory disclosure of funding agreements in federal class action lawsuits and in federal multi-district litigation proceedings.   The resulting report does not draw conclusions about the need for regulation.

What did the authors find?

The GAO employed a comprehensive approach.  They convened a round-table of twelve industry experts, consulted three industry associations, reviewed literature, and discussed policy issues with other federal agencies.  The resulting report is even-handed. It begins by noting the growth of the industry over the past decade. Explanatory factors cited include the relaxation of state champerty laws and the growing familiarity of businesses with the commercial litigation finance model. The authors lay out the differences between commercial and consumer funding, and take care to distinguish between these distinct sectors when discussing the regulatory landscape.

Market Data

While the authors tried to collect data about the size of the industry, they faced some difficulty in obtaining comprehensive data about commercial funding. This is due to the lack of a central repository for such data and the absence of any public reporting requirement for privately held funders (i.e., the majority of the industry).

The report lists various possibilities for expanding the available data, drawing on suggestions from the experts interviewed. Potential data collectors identified include arbitration institutions and courts, as well as state and federal regulators. The authors do not offer an opinion on how effective these options might be or whether they are necessary.  However, they make clear that none is a simple fix. For example, no single entity would have contact with, nor authority over, all participants in the funding market. 

Advantages/Disadvantages of Funding

The report summarizes some key advantages and disadvantages of third-party funding. Advantages highlighted include leveling the playing field for financially-constrained plaintiffs, allowing plaintiffs to monetize their claims, and enabling claimholders to share risk with the funder. Disadvantages cited include cost to funded parties, potential deterrence of settlements, and increased costs for defendants. From an investor perspective, the authors note the advantages of potentially high returns uncorrelated to equity markets, offset against the disadvantage of potentially higher risk of loss of the investment.

Regulation of Funding

The authors note that the industry is not specifically regulated at the federal level, though federal laws of more general applicability will sometimes be relevant—for example, publicly traded funders must comply with the SEC’s registration and reporting rules. Various states regulate the consumer litigation funding market, in some cases imposing fee caps. However, the state restrictions are typically inapplicable to commercial funding agreements.

As for disclosure rules, the report notes that the U.S. Chamber Institute for Legal Reform’s years-long advocacy of a nationwide funding agreement disclosure obligation has been unsuccessful. Limited disclosure rules—not including an obligation to produce the actual funding agreement—have been adopted by some courts, including the Northern District of California and the District of New Jersey.

The authors close with some comparative analysis of the regulation of third party funding in three foreign jurisdictions: Australia, England, and Canada. Although they find different nuances in each country, the broad picture described is largely similar to the American status quo. As in the United States, market sizing in these jurisdictions is challenging due to data limitations. None of these countries extensively regulates commercial litigation funding. There is no universal requirement to disclose funding agreements, though disclosure may be required under certain circumstances, especially in the context of class actions. Where funding agreements are disclosed, courts take care to facilitate redaction of commercially sensitive provisions, such as the funding budget.

Impact of the Report

It remains to be seen what impact the report may have on policy debates about third-party funding regulation. To the extent the requestors may have hoped for ammunition for their campaign to require funding agreement disclosure, the contents of the report likely came as a disappointment. A neutral reader would conclude that the American regulatory framework is broadly in step with that of other jurisdictions, none of which has embraced legislation comparable to that promoted by the requestors.

The question of access to data about the industry is perhaps the most interesting. Imprecision around the exact size of the industry, which has grown in influence, implies better data collection could be beneficial. On the other hand, the relative dearth of data is not unique to the American market, and as the report illustrates, there is no single, straightforward mechanism to compel comprehensive disclosures.