New Zealand embraces litigation funding
by Rhys Harrison QC*
The battle has been won – litigation funding is here to stay.
The evolution of litigation funding reflects the increasing complexities of our society and its collective demand for accountability wherever those responsible for performing prescribed duties are alleged to have inflicted loss or damage by acting negligently or recklessly.
Increasingly, however, those who seek financial recourse cannot pay for it. Government-funded civil legal aid has proven unsatisfactory except in family law cases. It is necessarily a cumbersome and limited avenue of financial support.
Litigation funding has filled a gaping void, but only in the limited class of cases where the financial aggregation of individual claims makes funding financially viable. The vast majority of those who cannot afford the cost of litigation are not attractive to funders. So the underlying problem of access to justice remains.
Litigation funding has grown under a different, less-visible guise in recent years through the increasing prevalence of contingency funding arrangements between lawyers and clients. These arrangements frequently place the lawyer in a position where they acquire a direct financial interest in the result and thus of conflict with their client.
New Zealand unregulated
Litigation funding in NZ is largely unregulated. Its operation hangs loosely on one statutory provision, applicable to class actions [NZ High Court Rules 4.24]. NZ judges have had to develop their own rules for regulating the application of litigation funding and then only for class actions.
The NZ courts considered the threshold question of whether litigation funding arrangements were an abuse of process – by 2010 the Court of Appeal in Saunders v Houghton [PDF 260KB] had decided that, while there is a risk that commercial funding could lead to oppressive litigation, the risk could be managed by High Court approval of arrangements and supervision.
There is no impediment in law to financing litigation for profit. However, the Supreme Court has added an important qualification – litigation funding arrangements can be reviewed within the court’s supervisory function if they amount to an assignment of a bare cause of action or are otherwise shown to offend public policy [Waterhouse v Contractor’s Bonding Ltd  1 NZLR 91].
The Supreme Court also affirmed it is not the role of the courts to act as general regulators of litigation funding arrangements to scrutinise:
(a) the level of control held by the funder over terms on which claims may be settled
A related issue question was whether funded proceedings should be permitted on an ‘opt in’ or an ‘opt out’ basis:
The Court of Appeal in Ross v Southern Response [PDF 1,080KB] has now settled that question in favour of the ‘opt out’ argument. Access to justice is the governing public policy factor along with facilitating an efficient use of judicial resources.
An important practical consideration is the ‘opt-out’ approach will likely result in an increase in the numbers of a class who participate. In Ross, there were 3,000 potential members of the aggrieved class. By contrast, an ‘opt in’ arrangement significantly limits an institutional defendant’s exposure.
The absence of a regulatory framework is unsatisfactory. There are some advantages arising from the broad flexibility inherent in addressing claims on a case-by case-basis. But it is also costly and leads to uncertainty as the parties’ frequently wrangle over procedural issues. It causes delay, adds to expense, and creates uncertainty for funding arrangements.
Numerous attempts have been made to formalise NZ’s litigation funding regime. In 2009, the Rules Committee drafted a comprehensive bill but its progress into litigation was halted. However, good sense has now prevailed. Both the Law Commission and the Rules Committee are considering the issue with the objective of providing an ordered set of rules to codify and expand the existing body of law.
However, it is possible the NZ Parliament will follow Australia’s lead and require a higher level examination of litigation funding’s place in the wider societal landscape.
Litigation funding arrangements are not limited to class actions. Other significant claims are:
These developments have a major effect on insurers, not just those in the position of direct liability under contractual relationships for property damage, but also, more significantly, as liability indemnifiers of directors and officers of companies, local authorities, professional bodies (particularly auditors and lawyers associated with failed companies) and product liability indemnifiers.
The procedural cost burdens of dealing with opt-in or opt-out claims are high. An aggregation of claims builds its own momentum and insurers, like other well-resourced institutional defendants, must confront the expectations of agreeing to fund large settlements irrespective of the merits. Trials split on liability and damages are expensive. Insurers may have to think laterally and introduce their own internal dispute resolution provisions outside the formal court processes.
Legislation has been introduced in Australia. Since 22 August 2020, all litigation funders are required to hold Australian financial services licences and, where necessary, to comply with managed investment scheme rules. It is important however, to keep this in perspective. The percentage of class actions filed in the Federal Court of Australia was less than 1% of all causes of action (ALRC Report 134, Dec 2018 [PDF 2,728KB]), although this figure would be arguably misleading because such claims are likely to commit a much greater proportion of the court’s hearing resources.
Funding models in Australia take several forms. The class actions are also of a wider scope.
The Australian regulation reflects Federal Government policy that prefers businesses to focus on remaining in business rather than “fending off class actions funded by unregulated and unaccountable parties”. The core criticism is that unmeritorious class actions are often funded with inadequate compensation shared between plaintiffs and funders. The response has been obvious. Funders characterise the government’s policy as an attack on access to justice, pointing out that continuous and open disclosure is fundamental to market integrity and should not be diminished.
Parliament has now set up a Joint Committee on Corporations and Financial Services, with a reporting date of 7 December 2020, to provide a report within terms of reference including:
The Law Council of Australia (LCA) has submitted to the Parliamentary Enquiry into Litigation Funding and the Regulation of the Class Action Industry that contingency fee arrangements should not be supported, on the premise that potential marginal gains and access to justice are outweighed by risks to the ethical duties of lawyers and the potential effects that compromising these duties might have on the interests of class members.
Nevertheless, LCA supports litigation funding as a model for promoting access to justice, spreading the risk of complex litigation and approving the efficiency of litigation by introducing commercial considerations which will aim to reduce costs. LCA favours regulation by authorising increased oversight by the courts, particularly common fund orders (CFOs). In LCA’s experience, competitive pressure introduced by the CFO regime has had a positive downward impact on commissions charged and increased the transparency of litigation funding arrangements.
It is only a matter of time before NZ moves to a more regulated model for litigation funding, despite research showing only 36 class actions have been brought in NZ since the 1980s, with just four funded by third parties. The Law Commission Paper and the Rules Committee’s Report will provide the foundation for legislative intervention.
However, the wider issues raised by the Australian parliamentary enquiry are likely to feature. NZ will have to ask itself the same questions. For example, what impact will litigation funding have on future damages awards and what will be its economic effect?
It is worth considering Australian jurisprudence in this area. Some deeper philosophical issues inherent in class actions and litigation funding were brought to the fore by the High Court of Australia decision in BMW v Brewster. At the hub was the statutory validity of CFOs.
CFOs were a generally accepted judicial response to the perception that free riders, those who had not specifically opted into a proceeding as a member of the claimant group, could share in the benefits of a successful outcome without having to contribute to the costs. CFOs satisfied the funders commercial imperative because they were spared the cost and inconvenience of book building, signing up potential group members to a funding arrangement.
In general, CFOs provide for the amount of litigation funder’s remuneration to be fixed at a proportion of any moneys ultimately recovered; for all group members to bear a proportionate share of liability; and for liability to be discharged as a first priority from recoveries.
The High Court heard two appeals, BMW v Brewster and Westpac Banking Corp v Lenthall. The question was whether federal and state legislative provisions empowered courts of primary jurisdiction to make CFOs. The lower courts, confirming practices widely applied, endorsed making CFOs early in representative proceedings. The lower courts had relied on a statutory provision giving a court a wide power to “make any order the court thinks appropriate or necessary to ensure justice is done in the proceeding”. The lower courts had construed this provision as entitling them to make CFOs so justice was done in the proceeding.
However, a majority ruled to the contrary, finding the statutory provision only “related to justice as between the parties to the proceeding”. The litigation funder was not “a party”. It was beyond the purpose of the legislation for the court to make an order at the outset, to assure potential funders of a sufficient level of return on their investment to secure support for the proceeding. In the majority’s view, the only real rationale for a CFO was to ensure the litigation’s commercial viability from the funder’s perspective. That had nothing to do with ensuring justice was done – that is justice between the parties.
The majority saw no principled reason for redirecting the amount recovered by a unfunded member to a funder with which the member had no legal relationship. In the majority’s view, the occasion for making such orders was at the end of the proceeding.
There are obvious problems with the remedy proposed by the majority. Without a guaranteed return from a significant award of damages or settlement, a litigation funder will not participate, especially where the amount of each claim is small. Their success depends on the aggregation of claims.
Some problems with the majority’s approach are highlighted in Justice Edelman’s dissenting judgement. He was satisfied CFOs were “appropriate or necessary to ensure justice is done” by requiring those who obtain the benefit of a litigation funding service, including the benefit of risk and cost incurred by the funder, to bear a proportionate share of the reasonable remuneration for the service.
The High Court’s decision will likely cause funders to revert to the problematic practice of book building. Perceived advantages of a CFO were to obviate the expense and difficulty involved in building a book or encouraging participation in class actions.
However, the majority in Brewster was unimpressed by this argument, noting it was not the court’s function to “ease the commercial anxieties of litigation funders or relieve them of the need to make decisions as to whether a class action should be supported based on their own analysis of risk and reward”.
This statement sounds fine in principle. But the inevitable consequence will be the unlikelihood of a funder continuing or the litigation proceeding, That result would be antithetical to the objectives that lay at the forefront of the reasoning in Ross – opt out orders ensure the gross return on a judgement or a settlement is available to be pooled to meet all legal costs.
The majority’s rationale in Brewster raises fundamental concerns that go to heart of the ability of our judicial system to deliver justice in a particular case. Is it right that a financial institution – if it has breached its legal duties to customers – should be able to retain the huge financial benefit of its wrongdoing at the expense of customers who individually cannot afford the cost of pursing their legal rights?
On the other hand, is it right that the funder of a relative handful of disaffected owners of BMW vehicles could build on the base of that minute number of claimants and obtain a direct financial benefit from pursuing claims for other owners who have shown no interest in participating?
Justice Gordon’s observations are apposite. Is the lack of interest due to a disinterest on the part of the vehicle owners, whose vehicles’ defective airbags had been replaced? Or was it because the funder had undertaken little book building, appreciating that the level of disinterest so far suggested those book building costs were likely to be wasted and irrecoverable? A CFO would spare the funder those costs and guarantee a “handsome rate of return from the aggregate of damages which may ultimately be recovered”.
The judgements in Brewster throw up often irreconcilable philosophical differences about the justification for and effect of litigation funding. One is the dominant objective of preserving access to justice and efficiency of resources together with ensuring an equality of bearing the costs burden of all who may benefit from funded litigation through the clean mechanism of CFOs. Opt out orders go a long way to meeting those same objectives.
The other is the underlying theme of the majority’s reasoning, combining a degree of contractual purity or principle, disquiet about lending judicial support to the commercial imperatives underpinning a litigation funder’s participation and a sense that those imperatives were driving the litigation, particularly in the BMW proceeding, and invoking unspoken notions of champerty and maintenance.
* This is an edited version of a paper delivered by Rhys Harrison QC to the NZILA half-day online conference.
NZILA would like to thank its conference sponsors:
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