Tuesday, December 7, 2010

Lawsuit Lenders Targeting Divorce Litigants: Conflict of Interest?

A few weeks ago, I wrote about the emerging trend of lawsuit lending in class action suits. There, private lenders would offer a class of plaintiffs a line of credit to fund complex class action suits which law firms otherwise could not afford to finance themselves. I voiced some concern about whether this could potentially pose a conflict of interest where the lender's interests were not aligned with the class' interests. After reading a new article about divorce lending in Saturday's edition of the NY Times, I am also convinced that divorce lending could present a conflict of interest between the divorce litigant and the lender, though for different reasons.

The Times article details a different twist on the class action lawsuit lending concept, whereby private lenders, instead of advancing funds to a class for litigation expenses, are lending funds to individuals who are seeking a divorce. The article profiles a private divorce lending firm called Balance Point Divorce Funding, which "offers to cover the cost of breaking up—paying a lawyer searching for hidden assets, maintaining a lifestyle—in exchange for a share of the winnings." The article describes that divorce lending, in comparison to lending in other areas such as mass tort or securities, satisfies a niche because "state laws uniformly require plaintiffs [in divorces] to pay lawyers upfront, rather than promising them a contingency fee." However, lenders like Balance Point do collect a contingency fee from the judgment to cover the advanced funds and provide the lender with a profit. This, compared to lenders who finance class actions and securities suits, where an agreed upon amount of interest is paid on the advanced funds. In other words, the divorce lenders can do what divorce lawyers cannot.

The Illinois Rules of Professional Conduct Rule 1.5(d)(1) says that "A lawyer shall not enter into an arrangement for, charge, or collect...any fee in a domestic relations matter, the payment or amount of which is contingent upon the securing of a divorce or upon the amount of alimony or support, or property settlement in lieu thereof..." An ethics opinion from the Louisiana Bar Association provides the public policy rationale for Louisiana Rule 1.5(d)(1), which is identical to Illinois': "If the contingency fee were allowed prior to the divorce or prior to setting the amount of child or spousal support, the lawyer’s interest in obtaining the fee could influence his advice on reconciliation issues, promoting divorce and hindering reconciliation, and his advice on setting the amount of support, thus creating a conflict of interest with a vulnerable client." PUBLIC Opinion 05-RPCC-002. In other words, lawyers are not allowed to collect contingency fees on divorce cases because it could lead to a lawyer acting self-interestedly by trying to obtain the highest judgment amount through protracted litigation instead of acting in the best interests of the client and expeditiously settling the divorce. Most would agree that this policy consideration is a sound way of ensuring that the client's interests are served before the lawyer's interests are served.

There is a danger that allowing private lenders like Balance Point to do what divorce lawyers cannot—that is, collect a contingency fee on a divorce judgement in exchange for advancing litigation costs—can lead to the same conflict of interest that Rule 1.5(d)(1) aims to prohibit. When lenders loan money to a class of plaintiffs, there are some potential conflicts that may arise when the lender is adverse to defendants. See my prior post. However, in that case, the lender is arguably just providing capital that a law firm would not have in order for the lawsuit to proceed as it would had the law firm been as well-capitalized as the lender. See Rule 1.8(e)(1) ("a lawyer may advance court costs and expenses of litigation"). Because it is not operating on a contingency fee, the lender in that case is uninterested in the amount of the final judgment against the defendant, so long as it receives repayment of the principal, plus interest. With divorce lenders, it is different. Their profit comes not from an agreed upon amount of interest (Balance Point does not charge interest on its loans), but from the difference between the loan and the percentage it receives from the final divorce judgment. Unlike the class action lender who is uninterested in the final judgment amount, the divorce lender is interested in the final judgment amount because the lender's profit ultimately derives from it.

The Louisiana Bar was concerned that allowing divorce lawyers to collect contingency fees would lead to lawyers drawing out cases to obtain larger judgments instead of expeditiously settling the matter. Divorce attorneys are therefore only allowed to be paid hourly, which encourages parties to reconcile early. But when a lender comes along who is willing to fund the lawsuit "until victory," suddenly there is a stream of money flowing into the lawyer's hands, which he may now use to protract the litigation (the articles describes a woman who was about to enter a divorce settlement because she was running out of money, when her lawyer suggested that she contact Balance Point). What we have then is a situation where the attorney and the lender, working together, are "promoting divorce and hindering reconciliation." In this instance, the promotion of the divorce enriches both the lender (through a larger divorce settlement) and the attorney (through more hours billed), at the cost of the plaintiff's interest in settling the matter expeditiously, which undermines the public policy reasons for creating a rule like Rule 1.5(d)(1).

1 comment:

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