New tax on litigation funders may chill access to justice for cash-strapped plaintiffs

What it does

This bill imposes a new federal tax on third-party litigation funders—companies or individuals that provide money to plaintiffs or law firms in exchange for a share of settlement or judgment proceeds. The tax rate is the top individual income tax rate plus 3.8 percentage points (roughly 27.8% under current law). The bill also excludes litigation-financing proceeds from the recipient's gross income while requiring withholding at the source, and treats litigation-financing arrangements as non-capital assets. The stated purpose is to discourage 'predatory' litigation funding, but the operative effect is to tax and regulate a growing financial sector that funds civil litigation.

Why we flagged it

The bill's core mechanism is a new excise tax on third-party litigation funders, paired with withholding requirements and asset-classification changes. While framed as anti-predatory, it functions as a direct tax on a specific financial sector and its transactions.

What the text implies

• The withholding requirement (50% of the applicable tax rate) creates a cash-flow burden on law firms and plaintiffs at settlement, potentially forcing early disclosure of funding arrangements and reducing negotiating flexibility.
• The exclusion of litigation-financing proceeds from gross income (Section 139J) while simultaneously taxing them under Section 5000E–1 creates a potential double-benefit for funders: they may claim the proceeds as non-taxable income while the funder pays tax, inverting normal tax incidence.

The full analysis lists 5 implications of this text.

Who stands to gain

U.S. Treasury (tax revenue); Law firms (reduced competition from alternative funding sources); Insurance companies (reduced litigation funding may lower settlement pressures)