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In 2002, the New York state bar association said attorneys financing a lawsuit with borrowed money may pass the interest costs onto their clients.

At the time, the litigation finance industry was in its infancy, and the question of whether it was ethical to pass along charges was mostly academic.

No longer.

In the years since, outside investors — including banks and hedge funds — have poured hundreds of millions of dollars into lawsuits, a practice the Center for Public Integrity described in a recent collaboration with The New York Times. Total investments in lawsuits at any given time are now an estimated $1 billion. Most states now allow attorneys to borrow money to fund their cases, and also to bill clients for interest charges on the borrowed money.

Most plaintiff’s lawyers who have accepted money from third-party lenders to fund their cases defend the practice, arguing that they are at a financial disadvantage to corporate defendants and that the money allows more people a day in court. But conversations with more than two dozen New York attorneys who have taken out loans show mixed views about billing clients for interest fees.

“It seems to me that if you are being billed $50,000 or $100,000 for an expert witness, that’s what you should pass along on to the client,” said Stephen Fearon, a New York lawyer who usually represents passengers in lawsuits against airlines. “Not interest charges.”

Others said they had no problem with passing along financing charges to clients but had never done so, for fear of scaring off clients. “I’m in a referral-based business,” said Jeffrey Guzman, a Manhattan attorney who frequently borrows to fund his cases.

Still others said they had never heard of passing through interest costs.

“I’ve never passed along financing charges,” said Charles Rock, a personal injury lawyer in Newburgh, N.Y who has borrowed to fund his cases. “I don’t know anyone who has.”

The confusion extends to the judiciary. At a recent hearing on whether Napoli Bern Ripka, the law firm representing thousands of 9/11 rescue workers who sued the city and other defendants for health costs from breathing in pulverized rubble, could pass along $6 million in interest costs to clients, New York federal district judge Alvin Hellerstein said he had never heard of the practice, “nor encountered it in 38 years of practice, before I became a judge.”

Borrowing expensive, disclosure rules unclear

Lawyers borrow because litigation is expensive and the length of time between paydays is uncertain.

Over the life of a case, plaintiff lawyers typically rack up thousands of dollars in bills, from the cost of hiring expert witnesses, to photocopying and filing fees, to travel.

In most personal injury lawsuits, the attorney will pay those expenses upfront, and then pass them to a client after a settlement or a trial win. But borrowing is expensive, too. Rates on lawyer loans typically exceed 15 percent per year, and can climb to 50 or 60 percent, depending on the lender — and the desperation of the attorney seeking the money.

Given the price tag on borrowing, it isn’t surprising that lawyers would want someone else to bear the financial burden. And, in New York in most other states, lawyers are allowed to require their clients do so, provided that they inform them in advance, and that the interest charges are “reasonable.”

What isn’t clear is to what degree an attorney must disclose details of a loan in advance. In an August hearing on the 9/11 fees, Judge Hellerstein questioned whether the plaintiffs, some of whom had complained that they were shocked to find the interest cost charges on their settlement statements, were properly informed.

But he also suggested that the lawyers, who are set to win more than $150 million from case, which plaintiffs recently approved, were getting plenty of money already and didn’t deserve any more. He told the firm to swallow the financing charges.

The rescue workers, Judge Hellerstein said, “want to have the fruits of this settlement not diminished by an effort of lawyers to finance much of the way that they work this case.”

How widespread?

Judge Hellerstein’s decision to disallow the financing costs in the 9/11 case shed light on a practice that has received little scrutiny. Even legal scholars who have studied the industry don’t know the scope of the practice.

“We really have no idea what is going on nationally,” said Bradley Wendel, a Cornell University Law School professor who testified at the hearing on behalf of law firm Napoli Bern. “It is a very covert practice. Firms don’t want to talk about it.”

Last week, the American Bar Association announced it formed a working group to study a myriad of issues involving third-party investment in lawsuits, including the practice of passing financing costs to clients.

Gauging the fallout, then, is difficult, and is further complicated by what happened next in the 9/11 case. The judge never issued a written decision. A few days after a court hearing on the issue, the lawyers at Napoli Bern withdrew their fee application, meaning that legal scholars are left guessing from the judge’s statements at the hearing what his justification would be for disallowing the costs to be passed along.

“One possible result is that lawyers who intend to take out large loans and pass along interest costs to clients will be more explicit about it,” said Anthony Sebok, a professor at Benjamin N. Cardozo School of Law.

Lucian Pera, a Memphis lawyer who represents lawyers and litigation finance companies on ethics matters, said that if he were advising Napoli Bern or another lawyer seeking to pass along interest charges to a client, he would recommend more complete disclosure.

The contract should plainly say that the client may be billed for financing costs, and should give some idea of what those costs and financing rate might be, he said. Even if the attorney doesn’t know in advance the exact charges, the matter can be discussed with the client once financing terms become clear, he said.

That goes for single-client car accident cases, as well as big lawsuits with 10,000 plaintiffs, such as the 9/11 case, he said.

“Good lawyers let clients know the status of their case,” Pera said. “It’s not some wild hocus-pocus academic notion that you need to tell your clients in advance that you are borrowing $30 million dollars.”

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