In brief - High Court finds that litigation funding agreement is a credit facility, AFSL not required
The High Court has found that a litigation funding agreement is a "credit facility" and that litigation funders are therefore not required to hold an Australian Financial Services Licence (AFSL) in International Litigation Partners Pte Ltd v Chameleon Mining NL (Receivers and Managers Appointed)  HCA 45. (Please see also our earlier discussion of the NSW Court of Appeal's decision in Recent developments in litigation funding in Australia and the UK.)
However, new legislative changes currently under consideration threaten to reverse this outcome.
Litigation funder makes payment directly to miner's solicitors
On 28 October 2008, Australian mining company Chameleon Mining NL (Chameleon) entered into a deed with Singaporean litigation funder International Litigation Partners Pte Ltd (ILP), pursuant to which ILP undertook to fund litigation commenced by Chameleon in the Federal Court of Australia. Rather than providing payment to Chameleon for its legal fees, ILP provided payment directly to Chameleon's solicitors.
The funding deed provided that a change of control in Chameleon would allow ILP to terminate the agreement and would trigger an obligation by Chameleon to pay an early termination fee to ILP. A change of control in Chameleon subsequently occurred, but Chameleon refused to recognise ILP’s entitlement to the early termination fee.
If funding deed is a financial product, funder needs an AFSL
Chameleon argued that the funding deed was a financial product which ILP had entered into in the course of its "financial services business" for which it was required to hold an AFSL. If the funding deed was found to be a financial product and ILP therefore required to hold an AFSL (which it did not), Chameleon would have a basis under Part 7.6 of the Corporations Act 2001 (Cth) to rescind the agreement (section 925A) and in turn ILP would be unable to enforce the funding deed or rely upon it against Chameleon (section 925E).
Is litigation funding a financial services business?
In order to determine whether ILP was required to hold an AFSL for the purposes of entering into the funding deed, it was first necessary for the Court to decide whether ILP carried on a "financial services business". In their joint judgment, French CJ, Gummow, Crennan and Bell JJ traced through the relevant Corporations Act provisions defining the acts that constitute "financial services" along with the specific inclusions and exclusions.
The Corporations Act definition of "financial services" includes "dealing in a financial product". The definition of "financial product" is a "facility", being a contract, agreement, understanding or scheme through which a person makes a financial investment, manages financial risk and/or makes non-cash payments.
Credit facilities excluded from "financial product" definition
The Corporations Act excludes credit facilities from the definition of "financial product". ILP argued that the funding deed was specifically excluded from the definition of a "financial product" for the purposes of Chapter 7 of the Corporations Act on the basis that it fell within the definition of a "credit facility".
If the court accepted this argument, it would mean that ILP had not engaged in a "financial services business" and was not therefore required to hold an AFSL for the purposes of entering into the funding deed.
Chameleon found to have no grounds to rescind agreement
The court discussed the Revised Explanatory Memorandum to the Financial Services Reform Act 2001 (Cth), which provided that the definition of a "financial product" did not extend to credit facilities, and to the extent that credit facilities involved consumer credit, they would be regulated by consumer credit legislation rather than the Corporations Act.
The court noted that under the Corporations Regulations 2001 (Cth), the term "credit" is defined as meaning a contract, arrangement or understanding under which payment of a debt to the credit provider is deferred, and as including "any form of financial accommodation". Its provision for any period will be a "credit facility".
The court found that the funding agreement was therefore a "credit facility" on the basis that it was for the provision of a form of financial accommodation of Chameleon by ILP, notwithstanding that ILP paid for Chameleon’s legal costs directly to Chameleon's solicitors. On that basis, ILP was not required to hold an AFSL and Chameleon therefore had no grounds upon which to rescind the agreement.
Litigation funding schemes carved out from definition of managed investment schemes
Our earlier article Litigation funding - legislative relief arrives discusses the effect of the July 2012 Corporations Amendment Regulation 2012 (No. 6) which, among other things, carves out litigation funding schemes from the definition of a managed investment scheme, and exempts any party providing a financial service in relation to a litigation funding scheme from obtaining an AFSL.
Such amendments were necessary in light of the 2009 decision of the full Federal Court in Brookfield Multiplex Limited v International Litigation Funding Partners Pte Ltd (2009) 180 FCR 11, which found that funded class actions fall within the Corporations Act definition of managed investment schemes, meaning that the funders of such actions would have been required to comply with the extensive requirements applicable to managed investment schemes and the obligations imposed upon AFSL holders by section 912A(1) of the Corporations Act.
Some funders had in any event opted to "play it safe" and obtain AFSLs despite the current absence of a mandatory requirement to do so, such as IMF (Australia) Ltd which has held an AFSL since 2005.
High Court's finding in Chameleon Mining may be reversed
A further draft of the Corporations Amendment Regulation 2012 (No. 6), on which consultation is currently being sought, may reverse the High Court's finding in Chameleon.
Most importantly for the purposes of this article, the draft Regulation includes litigation funding arrangements within the definition of a "financial product". This therefore excludes such arrangements from being classed as "credit facilities".
The current tension between the legislative and judicial stances with respect to the status of litigation funding arrangements is set to continue for the immediate future.