Third-Party Funding In Arbitration: Issues and Developments

By Muneeb Rashid Malik & Chetna Alagh

ARBITRATION, a binding voluntary alternative dispute resolution process by a private forum chosen by the parties, is now one of the principal methods of resolving disputes across the world. This is one of the consequences of the increased globalization of world trade and investment. Developments in the field of arbitration are on the rise and one of these developments is third-party funding (TPF). TPF refers to the financial support provided by an external party to a party involved in legal proceedings, typically in exchange for a share of the proceeds or a contingent fee. In international arbitration, the concept of TPF has been recognized as an important practice and its prevalence in the commonwealth countries, as well as in the United States, has sparked debates around the globe regarding its potential impact on the administration of justice. Third-party funding, a practice that has gained significant attention in recent years, has become an important and controversial subject of European Union (EU) Law. Numerous judicial pronouncements on the subject have made it an interesting topic to debate upon. In USA, lawyers are permitted to fund the entire litigation and take their fee as a percentage of the proceeds if they win the case. Third-Party Litigation Funding / Legal Financing agreements are also not prohibited. In UK, Courts and Legal Services Act, 1990 permits litigation funding agreements between legal service providers and litigants or clients, and also permits Third-Party Litigation Funding or Legal Financing agreements, whereby the third party can get a share of the damages.

The third-party funding in arbitration provided by external entities to parties can also be termed as financed arbitration. It has gained momentum in the last decade and has expanded its purview to different aspects of arbitration. Most frequently, it is being utilized to solve issues related to Mergers and Acquisitions. TPF is common in all types of commercial arbitrations, however, it poses some challenges when it comes to investment treaty arbitration. Many countries across the world have already adopted the idea of TPF. England and Wales are widely using TPF for resolving issues and are also referring to the doctrine of maintenance which means the support from a person in litigation without having any legitimate interest in the same. Singapore has also come up with the adoption of TPF with the abolition of the tort of maintenance and champerty. This has also given rise to the legalization of TPF in international arbitrations taking place in the country. A similar step has been taken by Hong Kong; however, many countries have not supported the idea of TPF due to transparency issues.

In solving the issue of transparency, many Institutions such as the International Centre for Settlement of Investment Disputes (ICSID), International Court of Arbitration (ICC) and other arbitration institutions have made an amendment to their rules which requires disclosure of TPF, if any. The ICC Arbitration Rules, 2021 state that each party must promptly inform the Secretariat, the arbitral tribunal and the other parties, of the existence and identity of any non-party which has entered into an arrangement for the funding of claims of defences and under which it has an economic interest in the outcome of the arbitration.

The interpretation of TPF in the European Union (EU) has faced a lot of criticism. It was in the year 2021 when Axel Voss, Member of the European Parliament, came up with a report that was submitted to the EU Legal Affairs Committee, related to the adoption of the Directive of the European Parliament and the third-party funding in litigation and arbitration. In the same year, a draft was published by European Parliament’s Legal Affairs Committee which was examined by the Economic Affairs Committee. During the analysis, it was found that TPF has been growing rapidly due to its collective actions. Also, the reference to the United Kingdom was made where TPF has been growing rapidly and is now a vital area for commercial disputes. Later, the German Federal Bank also made comments on the draft and suggested that TPF can facilitate the early delivery of justice instead of delays. In the initial report published in June, 2021, from which the resolution stemmed, the EU Parliament criticized the TPF industry as being a “profit-making enterprise, in which justice for the claimant may or may not be a by-product,” resulting in the potential “financial exploitation” of European citizens. While the resolution is only a preliminary step toward the enactment of an EU Directive on TPF, it has possible wide-ranging ramifications for the disputing parties in funded international arbitration.

The year 2022 has been the year of remarkable changes in the laws of the European Union. A resolution was adopted in September, 2022, aimed at protecting the EU members against the practice of third-party funding. This includes not only litigation but also national and international arbitration. It is mostly based on setting the cap, up to 40% for recovery by the funder and also sets the obligation for the payment of adverse costs and other disclosures. This step has been contradictory to the report that was published in the year 2021. However, these adoptions are also a result of changing rules of TPF in the ICSID model.

The pathway of TPF can be well determined through judicial pronouncements also. As, in the case of Akhmedova v. Akhmedov, it has been held by the English Court that TPF facilitates the process of delivering justice. However, the view was not the same in the Court of Ireland. In the case of Persona Digital v. The Minister for Public Enterprise, the concept of TPF was determined to be unethical. It was held that the inclusion of any third party having no separate interest is in contradiction with the tort of champerty. Later in the year 2021, in Merricks v Mastercard, the risks associated with TPF were predicted by the Competition Appeal Tribunal and it came out with potential ways in which the risks can be managed. The Tribunal stressed upon the sufficiency of funding and appropriate safeguards that would take care of the conflicts. In the general purview of international arbitration, several issues have already been addressed that will fuel up the protection strategy in the EU too.

India has no specific law related to TPF but the Indian law does not forbid TPF either. In Bar Council of India v. A.K. Balaji, (2018) 5 SCC 379, the Supreme Court observed that in India, Advocates cannot fund litigation on behalf of their clients but there appears to be no restriction on third parties (non-lawyers) funding the litigation and getting repaid after the outcome of the litigation. The concept of TPF has been given statutory recognition by various States like Gujarat, Madhya Pradesh, Uttar Pradesh, etc., in civil suits under the Civil Code of Procedure, 1908, through state amendments but TPF is still a novel concept in India which will surely gain popularity as well as recognition with the efflux of time.

While TPF comes with a plethora of benefits to the parties, lacking the essential resources to pursue a legal claim, it also poses various challenges such as the issue of confidentiality and privilege. The TPF process requires access to sensitive information to access its viability. This may lead to concerns in terms of confidentiality and privilege of attorney-client communications. Due to differences in history and legal procedures, the TPF market is still in the process of development and shows variations between countries. Lately, many investors have entered the TPF market and there is also a lack of information about its size and structure. These investors often operate as private entities or are affiliated with hedge funds or financial institutions.  As a result, information regarding their operations and the state of the market as a whole are scarce. Another major concern is the possibility that litigation funders may influence claim organizations taking part in legal processes only to further their financial interests. This can make people wonder about the claim organization’s decision-making process and its independence as well as transparency. Therefore, it may necessitate careful analysis and a precise definition of what constitutes extraordinary circumstances to reinforce the notion of maintaining a sizeable amount of the award for the aggrieved parties. Keeping in view the legislations in various countries, evolution of third-party funding cannot be disregarded as it is now a recognized as well as an emerging practice across the world. Regularization and legal recognition of TPF in countries where it has not received legal certainty, will help in bringing the best practices to the table and it will also become a game-changer for dispute resolution practice in the world.

• Muneeb Rashid Malik is an Advocate practicing before the Supreme Court of India and Chetna Alagh is a final-year law student at the University of Petroleum and Energy Studies, Dehradun. The authors can be reached at [email protected] and [email protected] respectively

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