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Damages-based agreements: an island of clarity in changing seas

Law firms entering damages-based agreements face a catch-22: they risk either being left out of pocket if the client terminates the retainer early or invalidating an agreement by including termination provisions to safeguard against this. A recent judgment from the Court of Appeal is a welcome island of clarity in a sea of uncertainty. However, while law firms can now take confidence in including protection against early termination by a client, important wider questions still remain.

Damages-based agreements (DBAs), where a law firm takes a share of damages in payment of their legal fees, have not been widely taken up by the legal community. The Damages-Based Agreements Regulations 2013 (SI 2013/609) (2013 Regulations), which were enacted to govern agreements of this nature, are considered to be poorly drafted. In relation to including termination provisions in DBAs, law firms have been left with a catch-22: they risk either being left out of pocket if the client terminates the retainer early or invalidating an agreement by including provisions to guard against this. This has undermined the rationale for introducing the 2013 Regulations in the first place; that is, to provide litigants with as many funding methods as possible in order to promote access to justice (see box “The introduction of DBAs”).

The 2013 Regulations have recently come under the Court of Appeal’s scrutiny in Zuberi v Lexlaw Ltd ([2021] EWCA Civ 16). The court’s judgment, to adapt an analogy used in it, is a welcome island of clarity in a sea of uncertainty. However, while law firms can now take confidence in including protection against early termination by a client, important wider questions still remain, including around the use of DBAs in hybrid funding arrangements.

2013 Regulations

As the court in Zuberi noted, the 2013 Regulations do not represent the draftsman’s finest hour. They have created considerable uncertainty in the legal profession; in particular, over whether they permit provisions dealing with early termination. It is for this reason that neither the Bar Council nor the Law Society has produced a precedent DBA. The Civil Justice Council Working Party acknowledged the issue in a report produced in August 2015 (www.judiciary.uk/wp-content/uploads/2015/09/dba-reform-project-cjc-aug-2015.pdf). Its recommendation, however, was simply that the grounds and manner of termination of a DBA, and the consequences of termination on either side, are best left to negotiations between the lawyer and the client.

The upshot is that law firms are concerned that a DBA that provides for early termination by the client may fall foul of the 2013 Regulations, rendering it unenforceable. This would mean that the client would not be liable for any time costs incurred to that point, representing what could be months, or even years, of work by the law firm. It is this issue that both the High Court and Court of Appeal grappled with in Zuberi.

The dispute in Zuberi

In Zuberi, Mrs Zuberi sought to bring a claim against a bank for the mis-selling of certain financial products. She retained Lexlaw Limited to act on her behalf and the parties entered into a DBA. If Mrs Zuberi was successful, Lexlaw would be entitled to 12% of any sums recovered plus expenses; if she was unsuccessful, Lexlaw would be entitled only to expenses. The bank later settled the claim and Lexlaw looked to recover its fee, totalling close to £130,000. Mrs Zuberi failed to pay and Lexlaw brought a claim against her for non-payment.

The case turned on a clause in the DBA that enabled Mrs Zuberi to terminate it at any time (which she did not) but, in doing so, she would be liable for Lexlaw’s costs and expenses to date. Mrs Zuberi argued that the DBA was unenforceable as this clause was in breach of the 2013 Regulations. Mrs Zuberi asserted that, on a literal interpretation, regulation 4 of the 2013 Regulations (regulation 4) prohibits the payment of an amount other than “the payment”, as defined in the 2013 Regulations, and that therefore any money payment, including a payment under the early termination clause, is prohibited.

Mrs Zuberi argued that the court should take a strict approach to the 2013 Regulations given that, at common law, a champertous contract remains contrary to public policy and is therefore unenforceable. She submitted that statutory permission for DBAs is an island of legality in a sea of illegality and so a DBA that does not comply with the statutory requirements is invalid.

The High Court, after analysing the 2013 Regulations and surrounding policy, held that a clause of this kind is unlikely to be precluded by the 2013 Regulations. Mrs Zuberi appealed.

Court of Appeal decision

The Court of Appeal unanimously dismissed the appeal. It reached this decision for a number of reasons, including that:

  • The factual premise underlying regulation 4 is that there are recoveries available for sharing. This view is supported by the definition of payment as a share of recoveries and the fact that the explanatory note to the 2013 Regulations states that regulation 4 deals with “the payment from a client’s damages”.
  • Policy documents underlying the 2013 Regulations support the view that the payment of a lawyer’s time costs and expenses on early termination of the retainer is not the intended target of regulation 4.
  • Provisions in the 2013 Regulations concerning employment matters contain express permission for the payment of time costs on termination and the other provisions in the 2013 Regulations should be read consistently with these.

However, while in agreement on these points, the court was divided on how broadly to interpret a DBA under the 2013 Regulations. The majority adopted a narrow interpretation of a DBA and held that only those provisions relating to the sharing of a settlement or damages amount to a DBA. Any provisions in a client retainer that relate to other time costs or expenses fall outside of the 2013 Regulations and are enforceable only as between the solicitor and the client; they are not part of the DBA. By contrast, delivering a strong dissenting judgment, Lord Justice Newey held that a broader definition of a DBA should be preferred, which would encompass the entire retainer and not simply those provisions dealing with the payment of recoveries.

Practical implications of Zuberi

The clear lesson from Zuberi is that provisions in a DBA that deal with payment in the event of early termination will not contravene the 2013 Regulations. This is welcome news for practitioners and clients alike. Practitioners can approach DBAs with more confidence, knowing that their firm’s time costs can be safeguarded if the client decides to part ways with them during the course of a matter. In addition, anything that may encourage the greater adoption of DBAs will generate more options for clients looking for funding for civil litigation: an issue perhaps more pressing than ever in the current economic climate.

What is arguably less clear for practitioners is the further ramifications of the court’s judgment. It follows from the majority’s narrow approach to interpreting a DBA that hybrid funding arrangements involving DBAs should be permissible. That is, a client and their lawyer may agree that a DBA applies on an agreed split of the client’s recoveries but, in addition, make separate provision for the payment of time costs. For example, a solicitor could accept a lower percentage recovery from the damages in return for the part-payment of fees throughout the litigation. Observing that this is the consequence of the majority’s judgment, Lord Justice Newey held that if such “concurrent hybrid DBAs” had been meant to be permitted, then surely additional legislative safeguards would have been introduced; for example, by providing for a reduced hourly rate basis or limiting the total amount recoverable.

The majority judges had the benefit of Lord Justice Newey’s judgment in draft and did not seek to alter their conclusions. Practitioners may therefore conclude that a concurrent hybrid DBA can be pursued with a client. However, practitioners would do well to consider the points raised by Lord Justice Newey and, for example, place a cap on the total amount recoverable by the law firm and for time costs to be on a reduced hourly rate. Practitioners may also consider whether to make provision for a concurrent arrangement where, for example, if a claim is successful, payment is confined to the agreed split of recoveries (that is, the DBA payment) but, if a claim is unsuccessful, time costs are paid on a reduced hourly rate. This would be similar in operation to a so-called “no win, low fee” conditional fee agreement.

Given the majority view in Zuberi, it is also arguably open to practitioners to have an arrangement where, on success, both the DBA payment and time costs are due to the law firm, but this would require careful consideration and discussion with the client. Bearing in mind Lord Justice Newey’s comments, practitioners may wish to consider mirroring the cap in the 2013 Regulations; that is, for the law firm’s total payment not to exceed 50% of the sums ultimately recovered by the client.

Not the last word

Given the split in approach by the court in Zuberi, it is clear that the 2013 Regulations need to be revised. In October 2019, proposals for revising the 2013 Regulations were published for consultation (www.qmul.ac.uk/law/research/impact/dbarp/). One of the proposed changes is to give express permission for the use of a hybrid arrangement where, if a client does not obtain a “financial benefit” (a term wider in scope than damages), the law firm would be able to obtain recoverable costs plus up to 30% of any irrecoverable costs. The proposals had a positive reception at the time of their publication, although there have been no further developments to date.

It is hoped that progress will be made in 2021. After all, while Zuberi is a step in the right direction, legislative change has the potential to offer a great leap forward in establishing DBAs as a genuine funding option for litigants. The risk otherwise is needing to await a Supreme Court decision to obtain greater clarity. Unless Mrs Zuberi is granted permission to appeal, this could be a long wait.

The introduction of DBAs
In the 1990s, the government introduced conditional fee agreements (CFAs) to promote greater access to the justice system for those who could not readily afford legal representation. CFAs are a form of litigation funding where the fees that a client pays their lawyer depend on the outcome of their case. Usually, a client will pay nothing or reduced fees if they are unsuccessful in bringing their claim. However, if they win, they will be liable to pay the lawyer’s fees in full in addition to a success fee expressed as a percentage uplift on the fees due. It was historically possible to recover this uplift from the losing party.
 
While CFAs grew in popularity, contingency fee arrangements were long prohibited at common law on the grounds that they were considered unlawful and against the rule of champerty; that is, the rule that a party not directly involved in litigation should not be able to share in the winnings. Sir Rupert Jackson, in his review of civil litigation costs, recommended the introduction of contingency fees, provided that they were suitably regulated, in order to promote access to justice. This was in conjunction with prohibiting the recoverability of success fees attached to CFAs. The resulting Jackson reforms, which came into force on 1 April 2013, included the introduction of damages-based agreements under section 45 of the Legal Aid, Sentencing and Punishment of Offenders Act 2012, which amended section 58AA of the Courts and Legal Services Act 1990, and the Damages-Based Agreements Regulations 2013 (SI 2013/609).
 
 

This article was first published on Practical Law.

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