The City Bar’s recommendation is significant because it represents yet another high-profile body rejecting the U.S Chamber of Commerce’s arguments regarding litigation funding, a guest columnist writes for the Law Journal.

A key New York City Bar Association ethics committee’s proposal that New York amend its legal ethics rules to explicitly permit litigation finance agreements between lawyers and funders could be a watershed moment for the litigation finance industry.

If the proposal is accepted, New York would become the latest—and the largest—jurisdiction to join a growing chorus of states that are amending their ethics rules to clarify that litigation funding is a permissible and welcome feature of our legal system. And if New York, the country’s largest legal market, were to lead on this issue, other jurisdictions would likely soon follow, creating a positive cascade effect for litigation funding and access-to-justice initiatives.

At issue is Rule 5.4 of the New York Rules of Professional Conduct, which says lawyers may not “share legal fees” with nonlawyers. The New York City Bar Association’s Professional Responsibility Committee recommended this month that New York amend Rule 5.4 to explicitly clarify that lawyers may assign their interest in fees to a nonlawyer, so long as the lawyer gives the client notice and opportunity to inquire prior to any such assignment.

The recommendation follows a growing trend across the nation. In 2020, Arizona’s Supreme Court abolished the state’s version of Rule 5.4 entirely for the stated purpose of “promot[ing] business innovation in providing legal services at affordable prices.” Around the same time, Utah’s Supreme Court created a “regulatory sandbox” that allows licensed lawyers to experiment with nonlawyer ownership. And Washington D.C.’s Rule 5.4(b) has long allowed certain forms of non-lawyer ownership of law firms.

In one sense, the City Bar committee’s recommendation is unremarkable. As I have recently explained, New York courts have repeatedly reaffirmed the legality, propriety, and benefits of litigation funding. Two separate state court judges have written opinions stating that third-party funding allows “lawsuits to be decided on their merits, and not based on which party has deeper pockets or stronger appetite for protracted litigation.” The City Bar committee likewise emphasized that “there is now a long history of court decisions enforcing” lawyer-funder agreements.

Yet in other ways, the committee’s recommendation could be a crucial domino.This is because some critics of litigation funding still invoke Rule 5.4 to charge that funders create conflicts of interest and meddle with attorney-client independence. Most notably, the U.S. Chamber of Commerce’s Institute for Legal Reform recently released a report claiming that efforts to pare back Rule 5.4 would “significantly decrease the quality of legal representation” including by “creating inevitable conflicts of interest among lawyers [and] clients” and by “making the settlement of lawsuits more difficult, inefficient, and expensive.”

The chamber has the explicit goal of curtailing litigation finance, a tool that helps cash-poor litigants pay their lawyers and win their cases.

The City Bar’s recommendation is significant because it represents yet another high-profile body rejecting the chamber’s arguments. Indeed, the committee dismissed as ill-conceived “paternalism” the suggestion that “one type of financing has the power to corrupt a lawyer’s professional ethics more than any other financial arrangement with a nonlawyer.”

The history here is especially remarkable, for in  July 2018, the City Bar’s professional ethics committee issued a controversial opinion suggesting that litigation funding agreements between funders and law firms might violate Rule 5.4. That opinion caused a stir, leading the association to convene a working group that effectively repudiated the 2018 ethics opinion and called for amendments to Rule 5.4. And now, a separate committee of the City Bar has itself proposed amendments, which will be sent to the New York State Bar Association, and ultimately New York’s appellate courts, for approval.

Of course, even without widespread amendments of Rule 5.4, the litigation funding industry is fast becoming a mainstay of our civil justice system. A recent survey by Westfleet Advisors, a litigation finance consultancy, found that $2.7 billion was committed to new deals last year, with two-thirds of funding agreements occurring between funders and law firms. (Rule 5.4’s ambit is limited to agreements between funders and law firms; no one argues that agreements between funders and claimholders implicate Rule 5.4.)

Nevertheless, more explicit approval would further dispel any doubts about the propriety of litigation funding. This would invite more law firms to accept third-party capital that can help the firms innovate and offer better, more affordable legal services to their clients, bringing the transformative power of the capital markets to one of its last redoubts in America, the legal industry.

This should in turn increase access to the courts and make our legal system more rather than less efficient, as both New York City’s professional responsibility committee and the Arizona Supreme Court have recognized.

Indeed, it is no coincidence that litigation funding is going mainstream, and efforts to modify and repeal Rule 5.4 are gaining steam, as a growing body of scholarship is concluding (contrary to the Chamber’s assertions) that litigation funding expedites case resolution, reduces litigation spend, and lowers the cost of legal services.

Consider, for example, the claim that litigation funding promotes frivolous litigation. Funders typically invest in 5% or less of the opportunities—only the strongest claims—because funders that back weak cases will soon go out of business. Indeed, there is a growing recognition that funding more likely deters weak cases, because funders effectively screen meritless cases from ever getting filed in the first place. After all, if two or three litigation funders refuse to fund your case, will you want to invest your own resources into the matter? Probably not.

The City Bar committee’s recommendation is a welcome and potentially watershed step towards increasing acceptance of litigation funding – which should in turn increase meritorious litigants’ access to the courts.

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William Marra is a director at Certum Group, where he leads the litigation finance strategy, and a lecturer at the University of Pennsylvania Carey School of Law, where he co-teaches a course on litigation finance.

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Reprinted with permission from the April 17, 2024 edition of the New York Law Journal © 2024 ALM Global Properties, LLC. All rights reserved. Further duplication without permission is prohibited, contact 877-256-2472 or [email protected].