UK: An Introduction to Litigation Funding: Insolvency

The Impact of the PACCAR Judgment 

Litigation funding has been very high profile over the past 12 months following the Supreme Court decision in R (on the application of PACCAR Inc) v Competition Appeal Tribunal and others [2023] UKSC 28 (‘PACCAR’) and widespread coverage of the sub postmasters’ battle for compensation and the Post Office IT Horizon Enquiry.

The PACCAR judgment was somewhat unexpected when first handed down on 26 July 2023, resulting in much speculation as to the way forward for third party litigation funding.

The consensus before the decision in PACCAR was that the regime under s.58AA of the Community and Legal Services Act 1990 (‘CLSA’) and the Damages Based Agreements Regulations 2013 (‘the Regulations’) did not apply to funding agreements such as those in that case.

It was held by a majority of four to one in the Supreme Court that the provision of financial services constitutes ‘claims management services’ and that a litigation funding agreement is a Damages Based Agreement (‘DBA’) which will be unenforceable unless it complies with the Regulations.

The decision in PACCAR has minimal impact on the finance of insolvency litigation, because claims are for the most part capable of assignment in insolvency so funding agreements are much less of a feature than in litigation by solvent parties.

PACCAR is not concerned with assignment by Insolvency Practitioners of a cause of action under their statutory powers. On assignment, the claim is advanced by the assignee as Claimant or Applicant. Payment is made by the assignee to the Insolvency Practitioner, in contrast to a funding agreement where the funded party makes payment of an agreed share of the proceeds of the claim to the funder.

For the most part, the need for funding arises is restricted to office holder claims in bankruptcy which are not capable of assignment.

If a funding agreement is unenforceable because it does not comply with the Regulations, that does not render the agreement void. The effect of section 58AA(2) CLSA is to render a non-compliant DBA unenforceable, not void. It remains a valid agreement. Historic completed funding agreements have been performed. It would not be in the interest of creditors for an Insolvency Practitioner to seek a remedy in unjust enrichment based on unjust factors of failure of basis or mistake as such application is most unlikely to succeed. On a completed case, the obligations have already been performed without either party having had to enforce them and the payments made under the agreement were made voluntarily on the basis of the agreed obligations. The Insolvency Practitioner has taken the benefit of funding, received the proceeds (and possibly distributed) pursuant to an agreement freely entered into at a time when both parties to the agreement believed it to be enforceable. The court expects an Insolvency Practitioner to act fairly and there is a long line of authority to this effect going back to the Rule in ex parte James in 1874. On the other side of the coin, there are completed funded cases which have not resulted in recovery and the funder will have sustained losses in their own and adverse costs. It would not be commercially sensible for a funder to make any attempt to seek to claw back those costs.

Insolvency claims continue to be assigned for value under purchase agreements in accordance with powers set out in the Insolvency Act 1986 to enable realisations to be made for the benefit of creditors. Where the claim cannot be assigned, such as an office holder claim in bankruptcy, or where the parties prefer a funding agreement rather than assignment, third party funders amend the terms of their funding agreements to comply with the Regulations. Depending on the standard terms of a current funding agreement, and in particular where the share to be paid to the funder never exceeds 50%, the amendments required are not extensive.

Third party finance remains an important resource to enable Insolvency Practitioners to realise claims for value at no risk to the office holder or to the estate. The statutory powers to assign under the Insolvency Act 1986 are not impacted by the decision in PACCAR and assignments are not fettered by the judgment.

The Post Office IT Horizon Enquiry 

The ongoing Post Office IT Horizon Enquiry and the TV dramatisation of the sub postmasters’ claims for compensation have shone light on how third party funding can enable claims to be brought which would otherwise be stifled due to lack of funds. Funding addressed the inequality of financial strength between the sub postmasters and the Post Office. This inequality also applies in insolvency where there is a very particular need for third party finance. Typically, there are minimal or no funds left in the insolvent estate, a state of affairs often brought about by the former directors who may well be the targets of claims. The actions of a misfeasant director in the months and years prior to the company entering into administration or liquidation can ensure that the office holder when appointed is left without a fighting fund. Where there are funds, creditors may not be keen on those monies being placed at risk in litigation. Third party finance can enable claims, whether against former directors or large institutions such as banks to be pursued which otherwise would not see the light of day, whilst also de-risking the office holder and the insolvent estate. Lawyers acting for the assignee or for the Insolvency Practitioner under a funding agreement can be paid for their work as the claim progresses rather than working on a contingency basis. An initial consideration on entering into the purchase or funding agreement provides an immediate cash injection into the estate. In a well-structured purchase or funding agreement the funder assumes all risk and the insolvent estate receives a minimum of 50% of the net realisation with a ratchet increasing the estate share on larger claims. The Insolvency Practitioner or insolvency lawyer seeking insolvency litigation funding should consider:1. The financial strength of the funder, does it have a balance sheet which will meet all own and adverse costs and defeat any security for costs challenge?

2. Will the funder provide a complete indemnity to the estate and the IP, or does it require the IP to take out ATE insurance?

3. Will the funder agree that the IP’s choice of solicitors are instructed, whether the claim is funded or purchased?

4. Will the funder pay lawyers for their work or require them to work on a conditional basis?

5. The expertise and track record of the funder, does it have the necessary skill and experience to assess and price risk and to work with external lawyers to run litigation in a proportionate and effective manner?

6. Does the funder have a nationwide network connecting with IPs and insolvency lawyers throughout the UK?

7. Is the funder recognised in the insolvency industry, and does it have the reputation of always following through on claims?

Consideration of these factors will facilitate an informed decision and optimise returns to the insolvent estate.