New York judge says litigation funder not liable for usury
Edward Machin, Commercial Dispute Resolution, April 13, 2012
A third-party funder that charged over 40% interest on five litigation financing agreements did not commit criminal usury, a judge in New York State has ruled. Edward Machin reports.
In her decision of 29 March, Suffolk County Supreme Court Justice Emily Pines dismissed claims by Long Island personal injury firm Kelly Grossman & Flanagan that the 40% interest it had been charged on a series of financing agreements by Quick Cash Inc amounted to usury.
Its application dating to biblical times, usury prohibits the lending of money at excessive interest rates. New York criminal law dictates that anything above 25% will trigger the criminal offence.
Citing the original five client agreements – worth USD 663,750,000 – and their mention of ‘the borrower’ and ‘the lender,’ Kelly Grossman & Flanagan said the payments it received were loans subject to New York usury laws.
The firm further claimed that the agreements’ language was amended from ‘loan’ to ‘advance’ in order to “mask the obvious fact that [Quick Cash] was covering for the lending of funds at a criminally usurious rate.”
Non-recourse advances do not fall under usury laws, and are to be determined, Justice Pines explained, by their “true character under all circumstances, rather than by [their] title.”
In the present case, she found that the contracts’ language “was not ambiguous, and the intent of the parties is clear, as demonstrated by the plaintiffs' express acknowledgment, as sophisticated attorneys, in each contract that a non-recourse agreement for a cash advance was entered into and not a loan.”
The judge further distinguished the transactions as “an ownership interest in proceeds for a claim, contingent on the actual existence of any proceeds.”
She added: “Had [the] respondents been unsuccessful in negotiating a settlement or winning a judgment, [the] petitioners would have no contractual right to payment. Thus usury does not apply to the case.”
Selvyn Seidel, chairman and founder of Fulbrook Management, a New York and London-based funder, says the decision is “yet another case in the United States which takes for granted that third-party funding is perfectly valid.”
He adds: “Not a judicial word was said to challenge that predicate. That, in my view, reflects what is happening in the market and the industry.”
Christopher Bogart, co-founder of Burford, the world’s largest institutional funder, likewise says the ruling can be seen as helpful for the burgeoning industry, in that “any time a court or legal ethics body considers the question of litigation funding, and comes out in a way that isn’t negative, I view that as a good thing.”
Bogart nonetheless remains quick to distinguish the funding of personal injury claims – as in the Quick Cash dispute – from the high-value commercial cases that Burford and its contemporaries almost exclusively finance.
“The usury laws do not tend to be applicable to the kind of transactions we do,” he explains. “We’re just not in the market for claims that would be affected.”
To boldly go...
Seidel, who co-founded Burford in 2009 before going on to launch Fulbrook, says “the more boldly” the line between consumer and commercial cases is drawn, “the better off each industry will be.”
He notes: “Indeed, without knowing more details, it seems a bit of a spectacle to see an experienced law firm [Kelly Grossman & Flanagan] claim that its contract should be violated because that contract is not only illegal.”
For Chris Dorman, a partner at New York State law specialists Phillips Lytle, Justice Pines also came to the correct result, “and while I can somewhat understand why the law firm would try to run the argument it did, I think the outcome was fairly predictable.”
He adds: “Usury can be a major concern for lenders. If settlements are brought on a non-recourse basis, and a substantial rate of interest is charged, the lender should be very sensitive to the usury law, because if it turns out the agreement is classified as a loan you could get yourself into a lot of trouble.”
Calling the Quick Cash decision “perfectly sensible,” Christopher Bogart highlights an intriguing aspect of human nature that applies to funding arrangements irrespective of size: so-called borrowers’ remorse.
“At the outset people are happy to have the financing,” he says. “Later down the line, when it comes time to part with the money, some people would prefer not to. It’s a common dynamic.”
He adds: “Non-recourse lending is good from a policy perspective, given that it doesn’t impinge at all on the consumer’s asset base. It simply goes to the question of this one asset, i.e. the litigation claim.”
The Quick Cash ruling will no doubt represent a further blow to the US Chamber of Commerce, whose advocacy group – the Institute for Legal Reform (ILR) – has long opposed the growth of litigation funding.
Scévole de Cazotte, vice president of international initiatives at the ILR, previously told CDR that his organisation’s attitudes to third-party financing stem from the US system being increasingly “riddled with abuses and problems that are generally associated with the influx or interest people have in putting money in lawsuits.”
He explained: “We’re worried about third-party litigation funding because it’s very reminiscent of that fundamental tenet of investing in lawsuits.
“It’s the idea that you can make money from litigation, and with litigation finance it's no longer just a law firm or lawyers investing – you suddenly have hedge funds or very large investments interests coming into the litigation sphere.”
Senior litigation partner at Skadden in Washington, DC, John Beisner, is of a similar view, saying the Quick Cash case is “indicative of the ongoing problems the industry is facing.”
He adds: “In this case the funder prevailed, but the fact that there was a dispute about it in the first place suggests to me that a lot of these funding arrangements just don’t work.”
Beisner calls for a “pause so as to look at whether the judicial system wants to go down this path,” given that third-party funding will have a “very distorting effect on the judicial system as we know it.”
Acknowledging the industry’s growth in recent years, both in the US and further afield, he nonetheless says “this space has not been occupied outright, so we shouldn’t stick our heads in the sand and not worry about it.”
He continues: “I don’t think that litigation funding is currently so pervasive that it’s become a critical aspect of the legal system, so there is ample time to undertake a well-considered process to decide what should and should not be permitted.”