Author: Lawyer Zhang Jingxinyue, PRC-qualified Lawyer | Singapore Registered Foreign Lawyer
Note: In cross-border cases, given the uncertain timeline from commencement to completion of dispute resolution and the costly arbitration fees required, many creditors are deterred even when their claims are meritorious. Amid the pandemic, this problem has become even more acute—companies face unprecedented economic pressure and cash flow shortages, and how creditors protect their interests has become a hot topic. In these circumstances, using third-party funding to reduce the costs and risks of corporate debt recovery can provide companies with a lifeline. As a result, in recent years, applications for this type of litigation funding in Singapore have been rising.
In 2017, Singapore introduced a third-party funding framework that allows third parties unconnected to the international arbitration to provide funding, assist claimants in bearing costs, and share part of the proceeds of a successful award as compensation or settlement proceeds. From 28 June 2021, Singapore’s Ministry of Law (MinLaw) expanded the third-party funding (TPF) framework to cover domestic arbitration proceedings, certain proceedings in the Singapore International Commercial Court (SICC), and related mediation proceedings.
This article by Zhongxin Law News aims to introduce the concept and application process of third-party funding in Singapore for the reference of parties and fellow lawyers in cross-border arbitration.
01 What Is Third-Party Funding?
Third-party funding refers to financial support provided by a person outside the case, where the party uses the funds to achieve a successful outcome and gives the funder a percentage of the amount recovered or such other consideration as agreed between the parties. Singapore’s third-party funding rules are set out in sections 5A and 5B of its Civil Law Act (Chapter 43). Their main effect is to abolish the offences of maintenance and champerty and to make clear that a third-party funding agreement does not contravene public policy or become illegal merely because it is a maintenance or champerty contract.
1. Third-Party Funding Involves Three Parties: the Party, the Funder, and the Lawyer
1. The Party
Many parties involved in cases are reluctant to commence arbitration because of the high costs of international commercial arbitration, or are unable to pay the high arbitration fees due to their own financial difficulties. Such parties often choose third-party funding to resolve their disputes, thereby pursuing their legitimate interests at lower cost and risk.
2. The Lawyer
Because the success of a case also depends on the professionalism of the instructing lawyer, funders are very cautious in their selection of lawyers. A funder may allow the party to choose its own lawyer, but will assess the corresponding risk when analysing the merits of the case and/or pricing the funding.
In third-party funding, the lawyer’s client remains the party, not the third-party funder. A performance obligation clause should be included in the third-party funding agreement, allowing the party to reclaim its claim if the lawyer fails to take action after the period stipulated in the third-party funding arrangement, so as to prompt the lawyer to diligently pursue recovery of the debt.
3. The Third-Party Funder
A third-party funder should have no direct interest in the case and should be an institution with a certain level of financial strength. In the legislation described above, Singapore introduced the concept of a “qualified third-party funder”, requiring that a “qualified third-party funder” have paid-up capital of no less than SGD 5 million or control assets of no less than SGD 5 million. This is intended to ensure that the funded party will not be left stranded if the funder is unable to perform its obligations during the arbitration.
Third-party funding may only be provided by professional institutions whose principal business is litigation/arbitration financing. If the requirements are not met (for example, the capital adequacy requirement is not satisfied), the funder will no longer qualify, and its rights under or arising out of the third-party funding contract will be unenforceable, including rights that are critical to the funder, such as the right to share in the proceeds after a successful outcome.
In essence, this funding is an investment activity by the third-party funder. Therefore, the funder cannot be regarded as a party to the case, should not replace or improperly influence the lawyer’s duties to the client, and should not undermine the client’s control over the proceedings.
Singapore’s Ministry of Law has the power to impose further regulatory standards on the definition of third-party funders, the nature of disputes that may be funded, and the manner in which funding may be provided.
02 Development of Third-Party Funding
In the past, third-party funding was expressly prohibited in Singapore, Hong Kong SAR, the United Kingdom, and other jurisdictions as common law offences such as maintenance and champerty. The main purpose was to prevent wealthy aristocrats from abusing judicial procedures, undermining procedural justice, and further enriching themselves by funding lawsuits brought by the poor. As times have changed, however, the rationale for third-party funding has become increasingly prominent. As the cost of pursuing legal rights—especially the costs associated with international arbitration—has increased, parties in a fully open commercial society naturally have a need to reduce the cost of protecting their rights and to transfer the risks of dispute resolution, while funders are also seeking investment opportunities to share in the specific returns by funding parties to cases.
Due to financial constraints, some litigants may give up pursuing their legal rights. The emergence of the third-party funding regime provides companies with an alternative channel to fund meritorious claims, further strengthens Singapore’s position as a centre for international commercial dispute resolution, and promotes the development of the legal industry here. This is also why Singapore has further relaxed its restrictions on third-party funding in recent years.
The effective implementation of TPF relies on professional legal finance companies. At present, the more well-known TPF companies include London-based Burford Capital (UK), Balance Legal Capital LLP (UK), Habour Litigation Funding (UK), Omni Bridgeway Limited (Australia), La Francaise IC2 (France), and Woodsford Litigation Funding (Singapore). The first TPF-funded arbitration case in Singapore was funded by Burford Capital.
In practice, international arbitration proceedings, including international investment arbitration and international commercial arbitration, are costly and lengthy, which has made more and more claimants aware of the value of financial leverage tools in monetising their claims and losses across time and space. This has created a practical need for the popularity and regulation of third-party funding in international arbitration. At present, TPF is available in major international arbitration centres such as London, New York, Singapore, and Hong Kong, and the legalisation of TPF also helps these international arbitration centres strengthen their own positions.
03 Benefits of Third-Party Funding
As to the benefits of third-party funding, the most important is that it makes litigation/arbitration possible where it would otherwise be financially impossible. It also provides creditors with an effective “off-balance-sheet” solution: legal fees will no longer affect cash flow, and the money can be used for core business operations. In a sense, a company’s legal department can be transformed from a cost centre into a profit centre, because the proceeds of a successful claim can offset the legal costs, while the risk of losing is borne by the third-party funder. The funded company therefore does not have to record litigation/arbitration fees as “contingent liabilities” of the company. In addition, because funders conduct detailed due diligence on a case before funding it, obtaining funding also shows that the funder has strong confidence in the case’s prospects of success, which is undoubtedly encouraging for the party.
04 The Third-Party Funding Process
Third-party funding is often used where a party is unable to pay the cost of recovering a debt. For example, if Company A has entered liquidation and its liquidator has assessed that Company A has no assets with which to pursue litigation/arbitration proceedings in respect of its receivables and other claims, the liquidator and creditors may be unable to recover debts for distribution without external funding. The liquidator may therefore enter into a funding arrangement with a third-party funder, without requiring creditors to contribute.
A party may apply for third-party funding at any stage of the dispute resolution process.
The application process in Singapore typically involves the following steps:
1. The Funder Establishes a Special Purpose Vehicle
The funder is required to establish a special purpose vehicle (hereinafter referred to as “SPV” or “project company”) as the contracting entity under the third-party funding contract, and the funder provides a guarantee for the SPV’s contractual obligations.
At the outset, it should be noted that if the funder does not guarantee the project company, the court will have concerns about the project company’s ability to perform under the funding contract, because the project company may well be suspected of being a shell company with no assets.
2. Obtaining Third-Party Funding
The process of obtaining third-party funding is relatively simple and efficient. Funders usually require a legal opinion (on the merits of the dispute), expert opinions (depending on the nature of the dispute), agreed funding documents setting out the specific terms of the funding, and an analysis of the ratio of costs to loss.
3. Due Diligence on the Project
First, the funder is most concerned with the likelihood of success and the expected recovery. Generally speaking, a funder will seek a satisfactory “rate of return”. Simply put, the “rate of return” refers to the ratio between the funder’s input of legal and other costs and the expected funds recovered. For example, if the funder considers a satisfactory rate of return to be 6-10, and the legal and other costs it may have to bear are estimated at USD 1 million, then the funder will only consider funding if the expected recovery reaches USD 6-10 million.
For the funder, the enforceability of a favourable award and the recoverability of funds are also crucial. They will conduct due diligence on the opposing party’s solvency and asset position and develop a strategy for enforcing the arbitral award.
4. Assignment of Rights
Company A’s claims to the receivables specified in the schedule and its right to sue the relevant debtors will be assigned to the funder’s project company, the SPV. At the same time, the scope of the assigned rights must be clearly defined, usually by reference to a list of potential defendants.
5. Payment of Funds and Return
First, the SPV makes an initial payment to Company A’s liquidator, after which the parties agree on a percentage split of the funds recovered.
The return can be structured in many ways. Generally, it is based on one of the following:
- A fixed multiple of the funded amount; or
- A fixed percentage of the total amount recovered.
Funding may be paid in instalments according to key milestones in the legal proceedings and settlement. If the litigation/arbitration is settled, the funder’s return is usually calculated only on the basis of the amounts that have already been paid.
Taking a total claim of USD 30 million as an example, for the first USD 10 million recovered, the funder’s project company, the SPV, will retain 60%, while the remaining 40% will be returned to Company A (for distribution by the liquidator among creditors). For any further amounts recovered in excess of USD 10 million, the SPV will retain only 50%. The fees charged by the funder are not detrimental or unfair to creditors; rather, they are mainly based on the liquidator’s reasonable commercial considerations.
6. Performance Obligation Clause
If the project company SPV does not take litigation or arbitration action to recover the debt within six months from the date of the funding agreement, Company A may buy back the assigned receivables for SGD 1. This means that if the funder fails to take action within six months, Company A will recover the litigation rights. During that process, the funder’s project company cannot commence proceedings in Company A’s name or apply for Company A to be joined as a party to any proceedings.
This is an important procedure because it allows the liquidator to retain the right to sue even if the funder does not commence proceedings. In addition, because the litigation entity in the recovery process is entirely the SPV, when the SPV sues Company A’s debtors, Company A will not be subject to any adverse litigation costs.
7. Progress Updates
The SPV must report the latest recovery progress to Company A’s liquidator on a quarterly basis. This is because the court considers that the liquidator has the right to control the proceedings after the assignment and can still supervise the progress of the debt recovery process.
8. Prohibition on Further Assignment of Rights
Finally, in exercising its rights, the SPV must not further assign the receivables and litigation rights to any other third party. The court considered the potential adverse impact on asset management policy, and this clause prevents third-party funding from becoming “litigation trafficking”.
05 Differences Between Third-Party Funding and Chinese Risk-Based Fee Arrangements
Unlike Singapore, which follows the common law system, China, as a civil law country, does not have rules expressly prohibiting maintenance and champerty. Article 54 of China’s Arbitration Law requires an arbitral award to state the allocation of arbitration costs, but does not otherwise provide rules on how arbitration costs are to be borne. Similarly, China allows agents and clients to enter into risk-based fee agreements in civil and commercial cases, which is regarded as providing a customary law logical basis for third-party funding of arbitration in China. At present, Chinese companies rarely need to obtain third-party funding for litigation/arbitration conducted in China; relatively speaking, they are more likely to seek third-party funding for their overseas projects and for arbitrations conducted in foreign jurisdictions.
In China, risk-based fee arrangements are more commonly used. Here, we examine the differences between China’s risk-based fee arrangements and the third-party funding regime, as follows:
1. Differences in Legal Regulation
In recent years, a number of countries and regions, including Singapore and Hong Kong SAR, have successively removed “maintenance” from criminal offences and tortious acts through legislative amendments or case law, and have cleared institutional obstacles to third-party funding in international arbitration through legislation or judicial decisions. Although Chinese law does not prohibit the use of third-party funding in arbitration, there are currently no laws or regulations specifically addressing third-party funding, and no cases involving third-party funding participation have been found on China Judgements Online.
2. Differences in Fee Models
Chinese risk-based agency fees are generally charged based on the amount ultimately realised by the client through the agent’s efforts, and that amount comes from another party. Article 13(2) of the Measures for Administration of Lawyer Service Fees provides: “Where risk-based agency fees are adopted, the maximum fee shall not exceed 30% of the subject matter stipulated in the fee agreement.” At the same time, an agreement between a law firm and a client to continue to take a percentage of the recovered amount as a risk-based agency fee upon settlement, withdrawal, or termination of the agency relationship is invalid.
By contrast, the fee model of third-party funding in Singapore generally follows the principle of party autonomy. It is usually based on a percentage of the original total claim amount, and no lawyer’s fees are charged in advance. This is the “no win no pay, win more pay more” model.
3. Differences in Scope of Application
China’s risk-based agency fee system prohibits lawyers from handling criminal cases, administrative litigation cases, state compensation cases, and group litigation cases on a risk-based agency fee basis. Its scope of application is limited to civil cases involving property relationships, and there are proviso clauses prohibiting risk-based agency fees in civil cases such as marriage, inheritance, and labour relations.
Singapore’s third-party funding mainly applies to the resolution of international arbitration disputes. The Civil Law (Amendment) Act 2017 of Singapore sets out the permitted scope of third-party funding, including international arbitration proceedings together with any ancillary litigation proceedings, mediation proceedings, and any enforcement proceedings related to an international arbitral award. In June 2021, the scope was expanded to include domestic arbitration proceedings, certain proceedings in the Singapore International Commercial Court (SICC), and related mediation proceedings.
Conclusion
At present, third-party funding in Mainland China is still at an initial stage of development. This is partly because there is relatively little practice of third-party funding in China, and partly because China has not yet provided for disclosure obligations in arbitrations involving third-party funding. In recent years, Hong Kong SAR has also recognised and established a third-party funding regime similar to Singapore’s. As discussed above, promoting the third-party funding regime helps arbitration meet the needs of the commercial community. At a time when major international arbitration institutions around the world are strengthening their guidelines and rules on third-party funding, China’s legislative and judicial organs, as well as its arbitration institutions, can make efforts at the legislative level, the arbitration institution level, and the level of relieving enterprises’ difficulties. They should adopt an open and inclusive attitude toward the rapidly developing system of third-party-funded arbitration and promote the alignment of Chinese arbitration with international arbitration.
As Singapore continues to advance its third-party funding regime, third-party funding can play a greater role in the Asian arbitration community, and third-party-funded arbitration will play an increasingly important role in international trade and international dispute resolution.
- For more information on applying for third-party funding in Singapore and on dispute resolution matters, please contact a professional consultant at Zhongxin Law News.
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This article is for informational reference only and does not constitute formal legal advice.
This article is general information and not legal advice. Specific matters require assessment by appropriately qualified professionals.