Tackling Predatory Litigation Funding Act
- Sponsor
- Sen. Tillis, Thomas [R-NC]
- Committees
- Finance Committee (primary)
- Last action
- May 20, 2025
Bottom line
The "Tackling Predatory Litigation Funding Act" creates a new, high-rate excise tax on profits earned by third-party litigation funders, aiming to disincentivize certain types of litigation financing by making it less profitable.
What it actually does
This bill establishes a new excise tax on "qualified litigation proceeds" received by third-party litigation funders. It imposes a tax equal to the highest individual income tax rate plus 3.8 percentage points on profits derived from litigation financing agreements, and requires withholding of this tax at the source. The bill also explicitly excludes these proceeds from gross income for regular income tax purposes and removes them from the definition of capital assets.
Proponents argue
Proponents argue that third-party litigation funding can lead to predatory practices, inflate legal costs, and encourage frivolous lawsuits, thereby undermining the integrity of the justice system. They contend that taxing these proceeds at a high rate will curb speculative investments in litigation, reduce the incentive for funders to prolong cases, and ensure that those profiting from the legal system contribute equitably to public revenue.
Opponents contend
Opponents might argue that litigation financing provides crucial access to justice for individuals and small businesses who cannot afford lengthy legal battles against well-funded adversaries. They could contend that this tax would disproportionately harm plaintiffs by reducing the availability of funding, making it harder to pursue legitimate claims, and effectively creating a barrier to justice. They might also argue it's an overreach into private contracts and could stifle innovation in legal services.
The bill is relatively short but introduces complex tax provisions and definitions, requiring careful reading to understand its full implications.
Section 2(a), adding new Chapter 50B, Sec. 5000E-1.
Imposition of Tax on Qualified Litigation Proceeds
This provision creates a new tax specifically targeting profits that third-party entities make from funding lawsuits. The tax rate is set at the highest individual income tax rate (currently 37%) plus an additional 3.8 percentage points, making the total rate approximately 40.8%. This tax is applied at the entity level for partnerships and S corporations.
Supporters argue
Supporters argue this tax is necessary to capture revenue from a growing industry that currently operates with favorable tax treatment and to disincentivize practices deemed predatory or speculative within the legal system.
Critics contend
Opponents would argue that this tax is punitive, will reduce the capital available for litigation funding, and ultimately harm plaintiffs by making it harder to secure financing for their cases.
Tradeoffs
Balances the desire to regulate and tax a specific financial activity against concerns about potential impacts on access to justice and the efficiency of legal markets.
Section 2(a), adding new Chapter 50B, Sec. 5000E-2.
Key Definitions for Tax Applicability
This section defines who is subject to the new tax ("covered party") and what types of agreements trigger it ("litigation financing agreement"). A "covered party" is any third party (not an attorney) that receives funds from a litigation financing agreement, including foreign entities. A "litigation financing agreement" is a written agreement where a third party provides funds in exchange for an interest in the proceeds of a civil action.
Section 2(a), adding new Chapter 50B, Sec. 5000E-2(3)(C).
Exclusions for Small Agreements and Traditional Loans
This provision exempts certain types of agreements from being classified as "litigation financing agreements" and thus from the new tax. Specifically, agreements involving less than $10,000 for an individual civil action are excluded. Also excluded are agreements where the funder's return is limited to principal repayment, principal plus interest (at a rate not exceeding 7% or twice the 30-year Treasury yield), or reimbursement of attorney's fees. Agreements with related parties are also excluded.
Section 2(a), adding new Chapter 50B, Sec. 5000E-3(a).
Mandatory Tax Withholding at Source
This provision mandates that any "applicable person" (a named party or affiliated law firm) who controls or receives proceeds from a civil action must deduct and withhold 50% of the calculated excise tax from any payments made to a third-party litigation funder. This ensures that a portion of the tax is collected at the point of payment.
Section 2(c), adding new Sec. 139J.
Tax Treatment of Qualified Litigation Proceeds
This provision explicitly states that "qualified litigation proceeds" (the profits from litigation financing agreements) are not to be included in gross income for the purposes of regular income tax. This means that while these proceeds are subject to the new excise tax, they are not subject to the standard federal income tax.
This rule specifies that any gains, income, or profit from litigation financing agreements cannot be reduced or offset by any ordinary or capital loss in the taxable year when calculating "qualified litigation proceeds."
Section 2(a), adding new Chapter 50B, Sec. 5000E-2(4)(B).
Why it matters:Standard legislative practice for tax provisions to include specific rules for calculating taxable bases, but it has significant implications for funders' profitability.
Case for: Supporters would argue this prevents funders from using losses from other investments or unsuccessful litigation financing agreements to reduce their tax liability on profitable ventures, ensuring the tax applies to gross profits from successful litigation.
Case against: Opponents would contend that this rule unfairly targets litigation funders by disallowing standard business deductions for losses, making the effective tax rate even higher and potentially discouraging investment in the sector.
Estimated impact: Increases the effective tax burden on profitable litigation financing, potentially reducing net returns for funders.
This provision states that amounts typically excluded from gross income under section 104(a)(2) (damages for physical injury or sickness) and section 892(a)(1) (income of foreign governments) shall not be excluded when determining the amount of realized gain for "qualified litigation proceeds."
Section 2(a), adding new Chapter 50B, Sec. 5000E-2(4)(C).
Why it matters:Technical tax drafting to ensure specific types of income are included in the tax base for this new excise tax, regardless of their treatment under other parts of the Code.
Case for: Supporters would argue this prevents litigation funders from claiming exclusions intended for plaintiffs (like personal injury damages) or foreign governments, ensuring that the tax applies broadly to all profits derived from litigation financing, regardless of the underlying nature of the lawsuit's proceeds.
Case against: Opponents might argue that this provision could create complex accounting issues, especially regarding the allocation of proceeds, and could be seen as an aggressive interpretation of what constitutes "profit" for a funder, potentially impacting foreign investment in US litigation.
Estimated impact: Broadens the tax base for the excise tax, potentially increasing tax revenue and compliance complexity for funders.
This amendment adds "any financial arrangement created by, or any proceeds derived from, a litigation financing agreement" to the list of items excluded from the definition of a capital asset.
Section 2(b), amending Section 1221(a).
Why it matters:Standard legislative practice to amend relevant sections of the existing code to ensure consistent tax treatment.
Case for: Supporters would argue this ensures that profits from litigation financing are treated as ordinary income (or subject to the new excise tax) rather than potentially lower-taxed capital gains, aligning with the intent to tax these proceeds at a higher rate.
Case against: Opponents might argue that this reclassification removes a potential tax benefit for investors in litigation financing, further disincentivizing investment by treating these returns less favorably than other forms of investment income.
Estimated impact: Prevents litigation financing profits from being taxed at capital gains rates, potentially increasing the overall tax burden for funders if the excise tax were not in place, or reinforcing the distinct treatment under the new excise tax.