When billionaire Peter Thiel, a co-founder of PayPal, admitted to financing $10 million in legal bills for Hulk Hogan's lawsuit against Gawker Media, this disclosure publicly exposed a growing practice in the legal industry: The use of alternative litigation financing (ALF).

Third-party lawsuit funding isn't new. But according to the 2016 Litigation Finance Survey conducted by global finance firm Burford Capital, ALF use quadrupled  between 2013 and 2016 — a similar timeframe within which the Hulk Hogan (legal name: Terry Bollea) case was filed (October 15, 2012) and decided (March 21, 2016), following a six-week trial.

In view of this growing trend, attorneys must minimize legal malpractice and disciplinary exposure through a solid understanding of the American Bar Association Model Rules of Professional Conduct. In a recent edition of PROfessional Counsel, CNA Risk Control Representative Matt Fitterer details the risks, ethical concerns and other pitfalls associated with third-party financing relationships.

Before referring a client to a funder

First, get familiar with ALF entails. Typically, it is similar to a situation in which an attorney works on a contingency fee basis, with litigation costs financed upfront, while awaiting a portion of the judgment at a future date. Notably, ALF is not:
 

• A claim assignment, as the claimant remains a party to the case while the funder is not made a party
   
• A traditional loan, as all funds advanced are non-recourse and the funder is only paid in the event of a recovery
   
• Advances on a structured settlement, as all funds are disbursed prior to any judgment.
   

Second, ensure that the transaction is legal. States are divided on whether ALF is permissible, as the practice may run afoul of champerty, barratry or maintenance prohibitions, which may prevent outside parties from supporting litigation for a share of the award. If your jurisdiction permits ALF, ensure that the agreement is structured in a way that doesn't violate state law.

Getting down to ethics

Ethical issues can vary depending on the circumstances of the ALF arrangement, and may include consultation, funding referrals, additional fees, document sharing and control.

Consultation: As long as the transaction is legal, you may inform a client about ALF. However, the information must also include candid advice to the client on whether ALF is in the client's best interest. Typically, an ALF contract is structured so that the funder's stake in the recovery increases over time.

While ALF eases the financial burden of litigation at the outset, it can impose pressure on the client to accept a premature settlement offer. Discuss with the client the downsides of ALF and ensure that the client understands the terms of the ALF contract. Obtain the client's signed acknowledgement of this discussion to help avoid potential malpractice allegations.

However, if your role as an attorney extends further and you represent the client in negotiations with the ALF provider, you likely acquired a "pecuniary interest adverse to the client" and must comply with the requirements of Rule 1.8(a), ABA Model Rules of Professional Conduct, which demands that the attorney verify that the terms are fair to the client, advise the client to seek independent legal advice and provide the client with an opportunity to secure such advice. Again, obtain the client's written, informed consent to both the contract's terms and the attorney's role in negotiations.

Referrals: You may direct a client to a designated financing source, but you have a duty to ensure that the funder will provide your client with quality service. In addition, if you have a pre-existing relationship between yourself and the funder, you must disclose the relationship to the client. Moreover, don't refer your clients to funders whom you suspect are incompetent. Such a practice can leave you vulnerable to a malpractice liability lawsuit.

Note that you are prohibited from accepting anything in exchange for a referral — no fee or other benefit — as that would constitute a conflict of interest.

Additional fees: Cases suitable for ALF are generally charged on a contingency fee basis. Whether you charge an additional fee for services related to ALF depends upon the scope of your engagement letter. An engagement letter with a narrow scope may not permit or encompass ALF-related services, and will require an addendum, signed by the client, to address the additional work you performed.

Document sharing: The funder may request documents and other information to help him or her gauge the potential merits, duration and damages of the claim on an ongoing basis. While essential from the funder's perspective, this action poses a substantial professional liability risk to you. No information, not even the client's identity, should be disclosed to the funder without the client's informed, written consent. And if you obtain written consent of the client, don't share documents without entering into a non-disclosure agreement with the funder.

Control: Draft any ALF contracts to include language disclaiming any right held by the funder to influence decisions pertaining to the underlying case, including the decision to terminate the attorney-client relationship. The decision to settle — and for what amount — belongs to the client, regardless of the funder's stake or interest in the award. In the event of a funder-client dispute regarding the settlement, it's a best practice to withhold funds from both parties until the dispute is resolved.

Proceed with caution when entering into ALF agreements with clients. By keeping a close eye on local statutes and abiding by the rules of professional conduct, you will be able to manage the ethical risks presented by ALF.

To learn more about alternative litigation financing, download Matthew Fitterer's article in CNA PROfessional Counsel: "More Money, More Problems: Overcoming the Risks of Alternative Litigation Financing."