In states where champerty and maintenance are still banned, financing litigation could prove impossible if lawyers are unwilling to undertake the case on a contingency, as shown by a decision from North Carolina.
A litigation trust had sued former officers and directors in “titanic litigation” where Bankruptcy Judge J. Craig Whitley of Charlotte, N.C., said the costs were “already monumental.” Since her lawyers were unwilling to continue the suit entirely on a contingency, the trustee arranged for financing from a hedge fund.
In a Jan. 20 opinion where he said “the practice of litigation funding is in its infancy,” Judge Whitley refused to approve the financing because it was champertous.
Judge Whitley said that some states, like California and Connecticut, either now allow arrangements that would have been champertous or never adopted the prohibitions in the first place. North Carolina, he said, “has retained the proscriptions against champerty and maintenance.”
He described champerty and maintenance as occurring “when two or more parties make an arrangement to divide the proceeds of litigation between the owner of the chose in action and the party who either supports or acts to enforce the litigation.” The “key inquiry,” Judge Whitley said, is “whether that party ‘exercised control over the claim.’”
In the case at hand, the hedge fund would make advances once a quarter. From proceeds of successful litigation, the hedge fund would first recover its advances and then a specified percentage of the net. The trustee’s lawyers also would get a percentage of recoveries plus reduced time charges that would have been paid from quarterly advances.
Judge Whitley concluded that the funding agreement was champertous because the hedge fund could “control the litigation in a number of ways.” In addition to cutting off funding at any time, the hedge fund had the right to consult over the substitution of attorneys.
The primary flaw in the arrangement was the hedge fund’s right to decide every quarter whether to continue funding or not. Judge Whitley said the agreement allowed the hedge fund “to weigh whether its involvement continues to be a profitable endeavor and whether continued funding is in its, rather than the debtor’s creditors’, best interest.”