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Third-Party Funding in Hong Kong Arbitration
Third-party funding is a mechanism whereby a third party, who is not a party to the arbitration, provides financial or other material support to one of the parties in exchange for a share of the proceeds of the award or a fee. Third-party funding can be seen as a way to enhance access to justice, reduce cost risks, and optimise capital allocation for parties involved in arbitration.
However, third-party funding also raises some legal and ethical issues, such as the potential for conflicts of interest, breaches of confidentiality, interference with the conduct of the arbitration, and challenges to the enforceability of the award. Therefore, different jurisdictions have adopted different approaches to regulate or permit third-party funding in arbitration.
Hong Kong, one of the leading arbitration hubs in Asia and the world, has recently undergone a significant reform in its legal framework for third-party funding in arbitration. This blog post will provide an overview of the evolution of third-party funding in Hong Kong arbitration, from its historical prohibition to its current permission and regulation.
The Historical Prohibition of Third-Party Funding in Hong Kong
Historically, Hong Kong followed the common law doctrines of maintenance and champerty, which prohibited third parties from supporting litigation or arbitration in return for a share of the proceeds. Maintenance refers to the improper support of litigation by a stranger without just cause or excuse, while champerty is a form of maintenance where the supporter shares in the profits of the litigation.
The difference between maintenance and champerty is that maintenance does not necessarily involve a profit-sharing agreement, whereas champerty does. For example, if a third party pays for the legal fees of a litigant without expecting any return, that would be maintenance. But if the third party pays for the legal fees and expects a percentage of the award if the litigant wins, that would be champerty.
The rationale behind these doctrines was to prevent abuse of justice, such as stirring up strife, speculation in lawsuits, or interference with the parties' freedom to settle. The doctrines applied not only to court litigation but also to arbitration, as confirmed by the Court of Final Appeal in Unruh v Seeberger [2007] 10 HKCFAR 31.
The prohibition of third-party funding in arbitration meant that parties who lacked financial resources or wanted to hedge their cost risks had limited options to pursue their claims or defences. Moreover, it put Hong Kong at a disadvantage compared to other arbitration-friendly jurisdictions, such as England and Singapore, where third-party funding was permitted and regulated.
The Reform of the Law to Permit Third-Party Funding in Arbitration
Given the changing landscape and needs of international arbitration, the Hong Kong Law Reform Commission (LRC) established a sub-committee in 2013 to review the position of third-party funding in arbitration. After extensive consultation and research, the LRC published its final report in October 2016,[1] recommending that Hong Kong law be amended to clarify that third-party funding for arbitration is permitted.
The LRC also proposed that a system of safeguards be established to address the potential risks and concerns associated with third-party funding. These safeguards included:
- A statutory definition of third-party funding for arbitration;
- A requirement for funded parties to disclose their funding arrangements;
- A provision for arbitral tribunals to take into account any funding arrangement when considering cost orders;
- A provision for arbitral tribunals and courts to order security for costs against funders;
- A provision for funders to be liable for adverse cost orders;
- A code of practice for funders to comply with certain standards and obligations;
- An advisory body to monitor and review the operation of the amended law and code of practice.
Following the LRC's recommendations, amendments to the Arbitration Ordinance (Cap 609) (AO) were enacted by the Legislative Council in June 2017 and took effect on 1 February 2019. The amendments provide that:
- The common law doctrines of maintenance and champerty do not apply to arbitration and related proceedings where the place of arbitration is Hong Kong or where services are provided in Hong Kong for arbitrations taking place outside Hong Kong;
- Third-party funding is permitted for arbitration and related proceedings subject to certain conditions and exceptions;
- Funded parties must disclose their funding arrangements to other parties, arbitral tribunals, and courts;
- Arbitral tribunals and courts have powers to make cost orders against funders and order security for costs from funders;
- Funders are liable for adverse costs orders unless they have expressly excluded such liability by written agreement with the funded party;
- Funders must comply with a code of practice issued by the Secretary for Justice;
- An advisory body is appointed by the Secretary for Justice to monitor and review the operation of the amended law and code of practice.
The Code of Practice for Third-Party Funding in Arbitration
The Code of Practice for Third-Party Funding in Arbitration (the Code) was issued by the Secretary for Justice on 7 December 2018 after consultation with stakeholders. The Code guides best practices and standards that funders are expected to comply with when providing funding for arbitration in Hong Kong. The main provisions of the Code are as follows:
- Funders must maintain access to a minimum of HK$20 million of capital and be able to demonstrate their ability to meet their funding obligations;
- Funders must enter into a written funding agreement with the funded party that sets out the key terms and conditions of the funding arrangement, such as the scope and amount of funding, the funder's return, the termination rights and consequences, and the allocation of liability for adverse costs;
- Funders must not seek to influence the funded party or its legal representatives to give control or conduct of the arbitration to the funder or act in breach of any applicable laws or rules;
- Funders must take reasonable steps to ensure that they do not create any conflicts of interest for themselves, the funded party, its legal representatives, or the arbitral tribunal, and must disclose any such conflicts that may arise during the arbitration;
- Funders must maintain confidentiality and privilege of all information and documents relating to the arbitration, subject to certain exceptions such as disclosure required by law or consented by the funded party;
- Funders must have effective procedures for addressing complaints from funded parties and cooperate with any inquiry or investigation by the advisory body.
The Code does not have the force of law, but a failure to comply with it may be taken into account by a court or arbitral tribunal when deciding any relevant question. The Code may also be amended occasionally by the Secretary for Justice after consultation with the advisory body.
The Current Status and Future Prospects of Third-Party Funding in Hong Kong Arbitration
The reform of the law and the introduction of the Code have marked a significant milestone in the development of third-party funding in Hong Kong arbitration. The new regime aims to strike a balance between facilitating access to justice and ensuring ethical standards and accountability. It also enhances Hong Kong's competitiveness and attractiveness as an arbitration seat in the region and globally.
However, as the new regime is still relatively new, there are some uncertainties and challenges that may arise in practice. For example:
- How will funders comply with the capital requirement and demonstrate their financial capacity?
- How will funders conduct due diligence on potential cases and assess their prospects of success and recovery?
- How will funders structure their funding agreements and returns to ensure fairness and enforceability?
- How will funders manage their conflicts of interest and confidentiality obligations?
- How will funders deal with complaints from funded parties and inquiries from the advisory body?
- How will courts and arbitral tribunals exercise their powers to order disclosure, security for costs, and adverse costs against funders?
- How will courts and arbitral tribunals enforce their orders against funders, especially those based outside Hong Kong?
These questions may require further guidance and clarification from the advisory body, the courts, or the arbitral institutions. Moreover, as third-party funding is a dynamic and evolving phenomenon, there may be new issues or developments that require constant monitoring and review. Therefore, it is important for all stakeholders, including funders, parties, lawyers, arbitrators, and regulators, to keep abreast of the latest trends and practices in this field.
Conclusion
Third-party funding is a valuable option for parties who wish to pursue or defend their claims or rights in arbitration. Hong Kong has taken a progressive step to permit and regulate third-party funding in arbitration, which reflects its commitment to promoting arbitration as an effective and efficient means of dispute resolution. However, third-party funding also entails certain risks and responsibilities that require careful consideration and management. Therefore, parties who are interested in obtaining or providing third-party funding should seek professional advice and guidance before entering into any funding arrangement.
- Third-party funding (TPF) lets a party get financial support for arbitration from an external source, in exchange for a share of the proceeds or a fee.
- Hong Kong, a leading arbitration hub in Asia, has recently enacted legislation to allow and facilitate TPF in arbitration and related proceedings, following a Law Reform Commission report in 2016.
- The article provides a brief overview of how TPF has evolved in Hong Kong
