Investing in Lawsuits
Should It Be Allowed?
Champerty is the practice of investing in a lawsuit. At one
time it was made illegal or was highly restricted in England
and the United States, but it has been making a comeback as the
laws change step-by-step. Technically the U.S. practice of attorneys
working for a percentage-based contingency fee can be called
champerty. This is because the attorney (or his firm) is essentially
financing the case in exchange
for a variable return. They are betting on a big settlement or
large damage amount awarded by the court or jury.
Contingency fees in other countries are not always like this.
In fact, the U.S.-style
contingency fees were first allowed in England about a year ago.
More common is the "pay if you win" model, where a
set fee or hourly rate is paid the attorney only if he wins the
But the system here has developed well beyond just having
law firms carry the cost of litigation for plaintiffs. Now there
are companies that loan the money to the law firm or plaintiff
in order to finance a lawsuit. Of course they get paid well if
the lawsuit succeeds.
The reason that champerty was originally outlawed is that
it had a tendency to corrupt the legal process. Two hundred years
ago in England, for example, a man with a weak lawsuit might
go to a well-known and powerful political figure or baron and
ask for him to invest. The assumption was that juries and judges
would be more inclined to side with the plaintiff's side when
the powerful person was joined to the lawsuit in this way. In
other words, verdicts were being bought by powerful people who
then made a nice return on their investments. The practice was
outlawed to prevent abuses like this.
Times change, and the law started to change again. The biggest
change was facilitated by
Supreme Court decisions in the 1960s which held that civil rights
organizations had the right to further their aims by investing
in relevant lawsuits. Poor workers, for example, who might be
wronged by a large employer because of their race, might not
have the money to sue. But a civil rights group could step in
and finance the case, taking a percentage of the proceeds to
cover their costs and perhaps bolster their bank accounts.
Now that ability to invest in lawsuits has gone even further.
Many states have reduced restrictions and allow companies to
invest in lawsuits. Most of the instances where this is done
are legal liability suits, or what are called "slip and
fall" cases. Companies make loans to plaintiffs' attorneys
and typically charge interest rates of 20% or more. Several large
outfits are getting into the game now, and are making loans totaling
tens of millions of dollars annually.
It is speculated that as the industry grows, it will provide
funding for lawsuits which would not have otherwise happened.
A recent article
in Bloomberg Businessweek reports on one case where a company
invested $6 million in a breach-of-contract lawsuit. The plaintiff,
a real estate developer, paid the investor $18 million when the
case was concluded. With returns like that, champerty might cause
a growth in lawsuits in the coming years.
It is possible that these changes are encouraging frivolous
lawsuits. But some proponents of the changes suggest that investors
are likely to invest only in lawsuits with valid claims, since
they can lose a lot when a case fails. In fact, the Business
Week article also reported on the millions of dollars in financing
provided in 2010 to keep the lawsuit against Chevron alive. The
suit was being pursued on behalf of indigenous groups in Ecuador,
and may not have gone forward without the money provided. About
a year later the judge awarded the plaintiffs $18.2 billion dollars
(the award is still being contested).
Allowing investing in lawsuit creates some problems perhaps,
but it also means the little guy might have a chance against
the big guy.
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