The question in this case is whether a litigation-financing agreement qualifies as a “loan” or a “cover for usury” if the repayment obligation arises from both the client’s recovery of the proceeds of the financed litigation and the attorney’s recovery of proceeds from other, unrelated litigations.
New York’s usury statute (General Obligations Law § 5-501) forbids charging interest on a “loan or forbearance of any money” in excess of the statutorily prescribed interest rate. That rate is currently 16 percent, and any contract that charges interest exceeding the statutory rate “shall be void.”
This case involves two types of New York–law-governed contracts offered by Fast Trak, a litigation financier, to a litigator named Richard Sax and his clients. First, Fast Trak signed “primary contracts” with Sax’s clients, in which it agreed to provide litigation funding directly to the clients and they agreed to pay Fast Trak a fixed amount if they prevailed in their cases. That fixed amount increased every six months, but the clients were not obligated to pay anything if they didn’t recover enough to make the repayments. Second, Fast Trak signed “secondary contracts” with Sax. Each secondary contract was linked to a primary contract, and obligated Sax to pay Fast Trak from attorneys’ fees he recovered in other cases if the primary contract had not yet paid out.
When Sax failed to make a repayment, Fast Trak sued him in federal district court in California. In response, Sax claimed that the primary and secondary contracts were usurious and thus void under New York’s usury statute. The district court rejected that defense and granted Fast Trak summary judgment.
On appeal, the Ninth Circuit held that it could not predict how the New York Court of Appeals would decide whether the usury law would forbid the primary and secondary contracts. The court explained that the repayment amounts under the primary contracts would be usurious if considered interest on a loan. But the court could not determine whether the contracts qualified as loan agreements under New York law.
A loan, the court recognized, ordinarily must be repaid “absolutely and at all events,” and the principal must “in some way be secured.” While the primary contracts did not require repayment in all events, the court acknowledged that the secondary contracts all but guaranteed that Fast Trak would receive the amount it advanced. Heeding the New York Court of Appeals’ guidance that courts must examine the real character of a transaction in determining that something is a loan, the Ninth Circuit recognized that the secondary contracts’ requirement that Sax essentially guarantee repayment might make the contracts into a “covers for usury”—contracts that are in substance a loan. Lacking any guidance from New York’s appellate courts on whether an arrangement like the one between Fast Trak and Sax and his clients would qualify as a loan or cover for usury, the court certified the question to the New York Court of Appeals.
The court also recognized that although New York’s usury statute provides that usurious contracts “shall be void,” at least one lower court in New York had modified the contract to reduce the interest rate to 16%—the maximum rate the usury statute allows. The Ninth Circuit thus asked the Court of Appeals to specify the proper remedy if it finds that Fast Trak’s contracts were usurious.
The Court of Appeals accepted the certified question.
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