There was a time in the U.S. when individuals paid medical expenses out of their own pocket. Then came the rise of employer-sponsored health insurance plans after World War II, followed by the creation of Medicare and Medicaid. Now, public and private insurance covers over 70% of healthcare costs.

There are signs that the same thing might be happening in the legal market, at least with regard to litigation costs. With insurance and litigation funding being used in increasingly creative ways, there are more and more options for parties who want to reduce the out-of-pocket burden of prosecuting or defending lawsuits. Given the financial industry’s propensity to fully exploit any opportunity, it’s plausible that it’s only a matter of time before third-party funding dominates the litigation process.

There is nothing new about a third party paying a client’s legal fees. A driver who is sued in a car accident will likely be defended by a lawyer hired and paid by their insurance company. The plaintiff in that lawsuit will hire a lawyer who takes the case on a contingency, essentially meaning that the lawyer is fronting the legal fees and expenses. In addition to motor vehicle accidents, the insurer-contingency lawyer model dominates many other areas of litigation, including personal injury (“slip-and-falls”) and employment claims.

In both cases, to be sure, the legal representation is not “free.” The clients are paying for it through their insurance premiums or by giving up a percentage of their recovery. But the decisions that clients make are markedly different when someone else is paying the bills than if they had to pay a lawyer out-of-pocket by the hour.

On the plaintiff side, the rise of litigation funding in the U.S. has increased litigants’ options. For those unfamiliar, litigation funding is when a third party provides funds to a plaintiff or their law firm to cover a portion of the legal fees and expenses of a lawsuit (or portfolio of lawsuits). The third-party funder is then repaid their investment, plus a return, out of the proceeds of the judgment or settlement. Such litigation funding takes much of the burden off the contingency lawyers, who previously paid themselves and expenses out-of-pocket or through personally guaranteed credit lines.

Commercial litigation funding has grown steadily over the past decade, with assets under management at third-party funders reaching $15.2 billion in 2023. Beyond the size of the market, the breadth of litigation funding seems to be expanding. While many third-party funders focus on very large cases, with tens of millions of dollars at stake, there are other funders who will invest in cases worth less than $1M. Neither is litigation funding limited to the traditional plaintiffs’ bar, such as personal injury and mass tort lawyers. Many large corporations are starting to take advantage of such funding for their affirmative claims, and the types of claims that can be funded vary widely (contract, patent, consumer fraud, etc.).

Both the insurance and the litigation funding industries seem to be continually identifying new opportunities for investment in litigation, and others are getting into the act. For example:

• Insurers have started offering “judgment preservation insurance,” whereby they take on the risk that a successful verdict will be overturned on appeal. Such insurance can be an alternative to litigation funding; or more intriguingly, can be used by litigation funders themselves to hedge against losing their investment to appeal. In fact, there is a nascent model called insurance-backed litigation funding that can be applied beyond judgment preservation.
• A secondary market for litigation funders, where the original funder sells some of its portfolio, has been growing. Such a market frees up liquidity for new deals.
• Legal vendors are starting to offer deferred, non-recourse services, either directly or in partnership with litigation funders. Through such arrangements, plaintiff’s lawyers can defer certain expenses – such as deposition transcripts and eDiscovery costs – until settlement.

None of these developments should be surprising. There are few limits to what the financial industry can do in the litigation space. Insurance regulations allow for great flexibility in what an insurer can offer. Specifically, many states specifically allow for a product called legal expense insurance, which is a vastly under-utilized structure. For example, one company offers legal expense insurance that covers fees when the primary property insurer denies a claim.

In addition, alternative business structure (“ABS”) laws in Arizona and Utah allow non-lawyer funding of law firms, which further opens the door to outside financing arrangements (on both the plaintiff and defense side). And when litigation funding doesn’t work for regulatory reasons, a combination of asset-based lending and special purpose vehicles can be used.

It should be noted that all of this can be done well within the confines of the ethical regulations. With just a bit of creativity, almost any litigation funding challenge seems solvable. And the financial industry is, if anything, very creative.

Of course, this all begs the question of whether third-party funding is good or bad for the clients. As with most complicated issues, the clear answer is…both.

As for the positives, litigation is cost-prohibitive for the vast majority of individuals and businesses in the U.S. Without insurance, contingency fees or litigation funding, most parties would simply be unable to try to enforce their rights. Expanded third-party funding (for both plaintiffs and defendants) seems like a good path to making the courts more accessible.

Of course, litigants are also more likely to engage in unnecessary fights when someone else is footing the bill. We have seen this in lawsuits where insured defendants have little incentive to settle, as well as questionable claims that might not have been brought were it not for the outside funding. Also, as we have seen in the healthcare system, third-party payers tend to increase costs even further (making healthcare services even more out of reach for the patient/client).

Regardless, the increased use of insurance, litigation funding, and related financing mechanisms seems inevitable. This is America, after all. Is it really so hard to imagine a world where every marriage license comes with an offer for divorce legal expense insurance?