Third-Party Funding in Arbitration: Benefits and Risks

I. Introduction

In recent years, third-party funding (“TPF”) has evolved from a relatively novel mechanism into a widely recognized feature of the international arbitration landscape. It refers to the practice whereby an entity that is not a party to a dispute finances all or part of a party’s legal costs in return for a share in the recovery if the funded party is successful. This practice, while originally developed in the context of litigation finance in common law jurisdictions, has found particular resonance in arbitration, especially due to the high costs typically associated with international arbitral proceedings. The rise of TPF reflects broader trends in the globalization and commercialization of dispute resolution. Parties increasingly seek to manage litigation and arbitration expenses in a more strategic and financially viable manner. Yet, despite the considerable advantages that TPF can offer, its use also raises complex legal, ethical, and procedural issues. These include concerns about transparency, impartiality, conflicts of interest, and cost allocation.

This article explores the dual nature of third-party funding in arbitration. It will examine, first, the principal benefits of TPF from the perspective of access to justice, risk allocation, and case strategy. Subsequently, it will turn to the risks and challenges posed by the use of TPF, particularly in the absence of consistent regulation. The discussion concludes by highlighting emerging best practices and suggesting directions for future regulatory development.

II. The Mechanics and Legal Basis of Third-Party Funding

Third-party funding arrangements typically involve a contractual agreement between the claimant and a professional funder. The funder undertakes to cover legal fees, expert costs, and arbitration-related expenses. In return, it receives a pre-agreed percentage of any damages or settlement awarded in favor of the claimant. If the claim fails, the funder generally bears the loss and receives no remuneration. Although most common in commercial arbitration, TPF has also gained traction in investment arbitration. Given the high stakes and prolonged nature of investor-state disputes, funding arrangements can serve as critical tools for investors, particularly small and medium-sized enterprises, that may lack the financial capacity to pursue claims against sovereign respondents. There is no uniform legal regime governing TPF. In some jurisdictions (e.g., Singapore and Hong Kong), specific legislative frameworks have been developed to regulate and authorize its use in arbitration. In others, such as the UK, the practice has developed through case law and self-regulation by industry bodies like the Association of Litigation Funders. Institutional arbitration rules, such as those of the ICC, ICSID, and LCIA, increasingly address TPF by imposing disclosure obligations or acknowledging its relevance in cost decisions.

III. Advantages of Third-Party Funding in Arbitration

1. Access to Justice and Procedural Equality

Perhaps the most compelling argument in favor of TPF is that it facilitates access to justice. Many claimants, particularly those operating in capital-constrained environments, are deterred from initiating arbitration due to the high costs of legal representation and expert evidence. By covering these costs, third-party funders enable such claimants to bring meritorious claims that would otherwise remain unpursued.

TPF can also promote procedural equality. In situations where there is a significant financial imbalance between the parties—for example, where a small company seeks to assert its rights against a multinational corporation—funding allows the weaker party to participate meaningfully in the proceedings and access the same caliber of legal services as its opponent.

2. Risk Management and Financial Certainty

From a corporate governance perspective, TPF transforms legal disputes from unpredictable cost centers into manageable business decisions. Claimants can mitigate the downside risk of losing a case while preserving liquidity and avoiding the need to divert internal financial resources toward dispute resolution. This is particularly valuable for publicly listed companies that seek to avoid negative impacts on their balance sheets. Moreover, in jurisdictions where legal fees are not recoverable, or where enforcement prospects are uncertain, TPF can provide an attractive option to mitigate financial exposure.

3. Case Validation and Strategic Input

Reputable funders typically conduct rigorous due diligence before agreeing to finance a claim. This process includes legal, factual, and financial assessments that, in many cases, exceed those conducted internally by the claimant’s own legal team. As such, a funder’s decision to invest in a claim can serve as an independent validation of its merits. In addition to funding, some funders offer strategic support, drawing on their experience in similar disputes. While they do not assume control of the litigation, their involvement may improve the efficiency of case management, promote early settlements, and foster disciplined litigation strategies.

IV. Risks and Challenges Associated with Third-Party Funding

1. Conflicts of Interest and Arbitrator Impartiality

One of the most serious concerns with TPF is the risk of conflicts of interest. Arbitrators may have undisclosed relationships with funders or their investors, particularly in cases where the funder is a repeat player in the arbitration market. The existence of a funding agreement thus raises the question of whether arbitrators must make broader disclosures regarding their professional connections. To address this, several arbitral institutions have amended their rules to require disclosure of TPF. For instance, Article 11(7) of the 2021 ICC Rules obliges parties to disclose the existence and identity of any third-party funder with an economic interest in the outcome of the case. This ensures transparency and enables arbitrators to assess whether any potential conflicts exist.

2. Control and Influence over Proceedings

While funding agreements typically state that the funder will not interfere in legal strategy, in practice, some degree of influence may be exerted—especially in high-value or complex disputes. Funders may reserve rights to be consulted on settlement offers or to approve changes in counsel. In extreme cases, this can lead to tensions between funders and funded parties or raise concerns about the independence of legal representation. This raises fundamental questions about party autonomy and the integrity of the arbitral process. Most arbitral tribunals and institutions currently do not regulate the content of funding agreements, leaving the issue to contractual freedom and professional ethics.

3. Security for Costs and Impecuniosity

The involvement of a third-party funder often triggers applications for security for costs. Respondents may argue that the claimant, relying on external funding, may not be able to pay adverse costs awards. While tribunals increasingly recognize the existence of TPF as a relevant factor in such applications, the standard for granting security remains contentious. Some tribunals require proof that the claimant is impecunious and that enforcement would be difficult without security; others consider the mere presence of TPF sufficient to shift the burden of proof. Furthermore, the question arises as to whether funders themselves should be liable for adverse costs. In the absence of express contractual terms or institutional rules, this remains a gray area.

4. Confidentiality and Privilege

Arbitration is often valued for its confidentiality. However, the sharing of case materials with funders may risk waiving legal privilege or compromising confidentiality obligations. This is particularly problematic in jurisdictions where the doctrine of common interest privilege is narrowly construed or not recognized. To mitigate these risks, careful drafting of non-disclosure agreements and funding contracts is essential. Nonetheless, the boundaries of confidentiality in the context of TPF remain uncertain, especially in cross-border disputes involving multiple legal systems.

V. Regulatory Developments and Emerging Norms

In response to the growing use of TPF and the challenges it presents, several arbitral institutions and jurisdictions have introduced regulatory measures:

• The ICC (2021 Rules) requires disclosure of the existence and identity of funders.

• The ICSID Arbitration Rules (2022) mandate that parties disclose funding arrangements and allow tribunals to order further information if necessary.

• UNCITRAL Working Group III is actively working on reforms in the investor-state dispute settlement (ISDS) regime, including transparency in third-party funding.

• Jurisdictions such as Singapore and Hong Kong have amended their laws to permit and regulate TPF in arbitration, subject to registration and compliance requirements.

Despite these advances, a global standard for regulating TPF remains elusive. This lack of uniformity can lead to uncertainty, forum shopping, and procedural disparities. There is a growing consensus among practitioners that a soft law instrument—such as guidelines or model rules issued by organizations like the IBA or UNCITRAL—could provide useful harmonization without undermining party autonomy.

VI. Conclusion

Third-party funding is now firmly entrenched in the practice of international arbitration. Its benefits are evident: it promotes access to justice, enables effective risk management, and contributes to a more balanced arbitral playing field. At the same time, it presents legal and ethical challenges that require careful consideration, particularly in relation to transparency, conflicts of interest, and control over proceedings.

As the arbitration community continues to adapt to the realities of funded disputes, regulators, tribunals, and practitioners must work collaboratively to strike an appropriate balance—encouraging innovation and commercial flexibility while preserving the fairness, independence, and integrity of the arbitral process.

Bibliography

1. ICC Rules of Arbitration (2021), Article 11(7)

2. ICSID Arbitration Rules (2022), Rule 14

3. UNCITRAL Working Group III, Reports on ISDS Reform

4. Strong, S.I., “Third Party Funding in International Arbitration: Strategic Considerations and Best Practices”, NYU Journal of Law and Business, Vol. 16, No. 1

5. Steinitz, M., “Whose Claim Is This Anyway? Third-Party Litigation Funding”, Minnesota Law Review, Vol. 95

6. von Goeler, J., Third-Party Funding in International Arbitration and its Impact on Procedure (Kluwer, 2016)