Champerty in New York and the Model Contract

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In my previous entry I argued that N.Y. Jud. Law § 489 permits assignments of cause of action as long as they do not violate a narrow set of prohibitions relating to fee skimming or pursuing litigation as an end itself.  I also noted that a 2004 amendment may immunize all transactions above $500,000 regardless of their purpose.  There is a final additional limitation to § 489 which I mentioned, but which needs to be explained in greater depth:  § 489 prohibits assignment of a “claim or demand.”  The Model Litigation Finance Contract (MLFC) assigns the proceeds of a claim.  Does this mean that § 489 is irrelevant for the MLFC?

Maybe.  First, it should be noted that no court has explicitly held that § 489 either does or does not extend to the proceeds of claims.  There are numerous decisions that establish the permissibility of the assignment of proceeds, and numerous decisions that interpret § 489.  But there are no decisions that apply § 489 to a case where the assignment at issue is the assignment of proceeds.

In the face of no clear precedent, one could take solace in the plain meaning of § 489.  Black’s Law Dictionary defines claim as a “demand for money, property, or a legal remedy to which one asserts a right.”  If one focuses on the transitive verb “demand,” then one could argue that the difference between an assignment of a claim and an assignment of proceeds is the difference between the assignment of a right to a legal judgment and the right to property resulting from a legal judgment.

Certainly New York, along with many other states, understood there to be a difference between a right to a judgment and a right to property resulting from a judgment.  This was the reason of the Court of Appeals allowed the assignment of the proceeds of a personal injury claim in Williams v. Ingersoll (1882) [89 N.Y. 508].  But it should be noted that this distinction has been rejected in many other state courts, and has been criticized as formalistic and incoherent even by New York courts.  See Grossman v. Schlosser (1963) [19 A.D.2d 893]

One primary reason that has been given for distinguishing between assignment of claims and proceeds is that the former transfers control over the litigation while the latter leaves control in the original claimholder.  To the extent that one believes that the purpose of § 489 was to combat certain evil consequences of maintenance and champerty—namely the transfer of control from parties to non-parties—then the focus on claims only in the law makes sense.  This is indeed how the Appellate Division understood § 489’s legislative purpose in Fahrenholz v. Security Mut. Ins. Co. (2004), where the assignment of proceeds from an insurance policy was assigned to a public adjuster.  But Fahrenholz is not a perfect case because the assignment was not for proceeds of litigation but of an insurance policy (albeit, the insurance policy was dependent on the litigation).

So far, so good:  A credible argument can be made, based on both the plain meaning of the statute and the legislative intent of the statute, that it should not apply to proceeds of litigation.  This reading is bolstered by the fact that the one decision of the Court of Appeals that directly upholds the assignment of proceeds of a personal injury case to a third-party “investor” doesn’t even mention or discuss any possible conflict with § 489.  See Leon v. Martinez (1994).

But there is a potential downside to the analysis of § 489 presented above.  All of the cases discussed above involve purely passive investment by the third party.  The legislative purpose of New York’s statutory scheme may be more important to the courts than the plain meaning of the statute.  An  MLFC that gave control to the third party could be held to come within the scope of the law, since the hallmark of having a claim is acting to enforce a right, which implies control.  The court might set a very high bar for establishing control—e.g. exclusive control—which would leave almost all MLFCs untouched by § 489.  But what if the court went the opposite direction and demanded that unless the investor had no incident of control, it would bring the contract within § 489?

In 1996 the Appellate Division gently chided the New York federal courts for missing the point of the law:  “§ 489′s prohibition is not on the bringing of an action after the assignment of a claim; it is on the assignment of a claim for the purpose of bringing an action ‘thereon.’”   Ehrlich v. Rebco Ins. Exch. This suggests that it may not matter if the assignment of the proceeds of a claim under an MLFC is prior or subsequent to the filing of the claim, or whether control is partial or complete; if the investment affects whether and how the claim is brought, it may run afoul of § 489.

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