High Court clarifies limits on class action Common Fund Orders

Funding framework clarified 10 min read

The High Court has delivered a significant ruling that clarifies when and how Common Fund Orders can be made in class actions. This decision is particularly relevant to litigation funders, class action practitioners and solicitors operating under the Legal Profession Uniform Law, as it confirms that while CFOs for funders are permitted at the conclusion of proceedings, the Court has drawn a firm line against similar arrangements for solicitors, reinforcing the nationwide prohibition on contingency fees outside Victoria’s Group Costs Order regime.

In this Insight, we consider the impact of the High Court's decision in Kain v R&B Investments Pty Ltd¹ (Kain) on litigation funding for class actions.

Key takeaways 

• CFOs for funders are within power at settlement or judgment: the High Court confirmed that the Federal Court has power to make a Common Fund Order (CFO) (allowing deductions from group members' recoveries to remunerate third-party funders) at the conclusion of proceedings, but not at commencement. The High Court's 2019 decision in BMW Australia Ltd v Brewster² (Brewster) on this point stands.
• No power to make CFOs for solicitors: the High Court unanimously held that the Federal Court does not have power to make a CFO at settlement or judgment in favour of a solicitor, as it would be contrary to the prohibition on contingency fees in the Legal Profession Uniform Law.
• Potential for reform: outside of class actions commenced in the Supreme Court of Victoria, contingency fee-style arrangements are prohibited and any change to that position will require legislative intervention. The availability of contingency fees in Victoria is likely to see it remain an attractive jurisdiction for class action filings.

The litigation funding landscape and refresher on key concepts

The High Court's decision in Kain relies on the following concepts which are key to the economics of class action funding:

• Prohibition on contingency fees: in Australia, lawyers are prohibited from charging contingency fees. That is, law practices cannot enter into costs arrangements for their legal fees to be calculated by reference to the amount of an award or settlement in a case.³
• Legality of third-party litigation funding: in 2006, the High Court determined that this prohibition does not apply to third-party litigation funders of class actions, and confirmed the legality of third-party litigation funding agreements under which the funder agrees to pay the plaintiffs' legal fees in exchange for a percentage of any settlement or damages awarded at the conclusion of the proceedings.⁴ This led to the proliferation of third-party funding in class actions in Australia.
• CFOs: orders that require all group members to contribute to a litigation funder's commission out of their claim proceeds, regardless of whether the group member entered into a contractual agreement with the funder. CFOs were historically made at two points:
  • at commencement of proceedings: CFOs were made at commencement under the 'gap-filling' power.⁵ However, in 2019 the High Court handed down its decision in Brewster, determining that the Federal Court is not empowered by the 'gap-filling' power to make CFOs at the commencement of a representative proceeding.
  • at settlement (or judgment): until the decision in Kain, it was unclear whether the decision in Brewster only concerned the Federal Court's lack of power to make a 'commencement CFO', or whether it extended to prevent CFOs at the time of settlement or judgment. In 2023, the Federal Court determined that its power to make orders that are 'just' in the context of settlement or judgment extends to a power to make 'settlement CFOs'.⁶
• Funding Equalisation Orders (FEOs): a court order that spreads the funder's fees or commission payable by those group members who have entered into a funding agreement across all group members to facilitate equal contribution to the litigation costs and avoid 'free riding' in funded proceedings.
• Solicitors' Common Fund Order (Solicitors' CFOs): a CFO made in favour of the applicant's solicitors (ie the lawyers' commission is calculated as a percentage of the settlement proceeds).
• Group Costs Order (GCO): an order only available in the Supreme Court of Victoria which allows the plaintiffs' legal costs to be calculated as a percentage of the amount of any award or settlement that may be recovered in the proceeding. GCOs are made pursuant to an express power in s33ZDA of the Supreme Court Act 1986 (Vic).
• No-win, no-fee: a conditional costs arrangement between the applicant and their solicitors whereby legal fees will only become payable if the action is successful. Unlike a Solicitors' CFO or GCO, under a 'no-win, no-fee' arrangement, lawyers are paid through time-based billing (subject to an uplift permitted under the Legal Profession Uniform Law).

These concepts have developed over time, as illustrated below.

Background to High Court appeal 

Two competing class actions were brought against Blue Sky Alternative Investments Ltd, two of its former directors and its auditor alleging they engaged in misleading or deceptive conduct, breaches of accounting and auditing standards, and breaches of continuous disclosure obligations.

The class actions were consolidated in March 2023 and the two plaintiffs' legal representatives sought approval from Justice Lee to distribute notices to group members about an amendment to their cost agreements that would include a right to recover a Solicitors' CFO. Justice Lee referred the following question to the Full Court of the Federal Court:

Is it a licit exercise of power, pursuant to statutory powers conferred within Pt IVA of FCA Act, or otherwise, for the Court, upon the settlement or judgment of a representative proceeding, to make an order … which would provide for the distribution of funds or other property to a solicitor otherwise than as payment for costs and disbursements incurred in relation to the conduct of the proceeding?

(the Reserved Question).

The legislative framework 

The Reserved Question required consideration of the relevant sections of the FCA Act, namely:

• s33V(2), which provides that in approving the settlement of a representative proceeding, the Federal Court may make such orders as are 'just' with respect to the distribution of the settlement funds.
• s33Z(1)(g), which provides that in determining a matter in a representative proceeding, the Federal Court may make any order the court thinks is 'just'.
• s33ZF(1), which contains a general power of the Federal Court to make any order it thinks is 'appropriate or necessary to ensure that justice is done' in the proceeding.

The Full Court's decision

We have previously reported on the Full Court's decision in R&B Investments Pty Ltd (Trustee) v Blue Sky (Reserved Question)⁷ in our Insight. In short, in that decision the Full Court held it had power under s33V(2) to make a Solicitors' CFO, rejecting arguments that Solicitors' CFOs:

• gave rise to impermissible conflicts of interest or professional conduct obligations;
• were contrary to the statutory prohibition on legal practices charging 'contingency fees' under s183 of the Legal Profession Uniform Law (NSW) (LPUL); or
• could never be 'just' under the relevant sections of the FCA Act because they are contrary to public policy against contingency-based fees for lawyers. 

Overview of the High Court's decision

On appeal to the High Court, the question for determination in Kain was:

Can the Federal Court make orders under the class actions regime under the FCA Act, upon settlement to judgment in a class action, to approve a 'funding commission calculated as a percentage of the sum recovered in favour of a litigation funder or the applicant's lawyers'?

That is, does the Federal Court have power to make:

• a 'settlement CFO' or 'judgment CFO'?; or
• a Solicitors' CFO?

Court can make 'Settlement CFOs' and 'Judgment CFOs'

All judges of the High Court considered that the Federal Court has power to make both a 'settlement CFO' (under s33V(2) of the FCA Act) and a 'judgment CFO' (under s33Z(1)(g) of the FCA Act). The plurality (Justices Gordon, Steward, Gleeson and Beech-Jones) considered that the language of ss33V(2) and 33Z(1)(g) did not impose limits on the kind of distribution that may be ordered under those sections, beyond that such orders will not be made unless they are 'just'.⁸ Similar comments were made by Chief Justice Gageler, Justice Edelman and Justice Jagot, each writing separately.⁹

As to whether a 'settlement CFO' or 'judgment CGO' would be 'just' at a conceptual level, the plurality did not provide guidance. However, Chief Justice Gageler stated that, '[w]hat is "just" for the purposes of [ss 33V(2) and 33Z(1)(g)] can encompass recognising and compensating from the settlement or judgment to be distributed amongst group members those whose effects have resulted in coming into existence of the settlement or judgment that is to be distributed amongst group members'.¹⁰

Brewster stands

In coming to that conclusion, the plurality and Justice Jagot made clear that there was no need to overturn the decision in Brewster. The decision in Brewster did not address, let alone resolve, the question of whether ss33V(2) and 33Z(1)(g) of the FCA Act provided the power to make a CFO at the point of settlement or judgment. It said only that the Federal Court did not have power to make a CFO at commencement under s33ZF(1). Accordingly, there was no basis in Kain to re-open the decision in Brewster.¹¹

Justice Edelman reached a different conclusion on Brewster. His Honour considered that the lack of power to make a 'commencement CFO' found in Brewster was now 'dead letter' law, because the Federal Court had developed 'informal techniques' to circumvent that issue (eg by judges indicating at early case management hearings that they may be favourably disposed to making a settlement CFO in due course if the occasion arises).¹² Justice Edelman considered that 'Brewster should be left as a dead letter and not extended to the power to make CFOs upon settlement or judgment'.¹³ We note that in Brewster itself, Justice Edelman disagreed with the majority on the question of power.¹⁴

No 'Solicitors' CFOs'

Despite determining that the Federal Court had power to make a 'settlement CFO' or a 'judgment CFO', all judges of the High Court determined that that power did not extend to the power to make a Solicitors' CFO. Their Honours considered that to do so would be contrary to the prohibition on law practices entering into arrangements to charge 'contingency fees' (ie an amount calculated as a percentage of a total settlement or judgment sum) under s183 of the LPUL.

Though writing separately, the tenor of the High Court's reasoning was the same: the power under ss33V(2) and 33Z(1)(g) must be interpreted in the context of, and consistently with, the LPUL, as given effect by state laws.¹⁵ In this context, a Solicitors' CFO can never be interpreted as 'just' under ss33V(2) and 33Z(1)(g).¹⁶ There is no inconsistency between the FCA Act and the LPUL, because the FCA Act operates in the context of the state laws regulating the legal profession. Critically, the High Court did not accept that there was any distinction between amounts payable for 'risk services' and 'legal services' provided by a law practice: contingency fees for both are covered by s183 of the LPUL.

However, their Honours acknowledged that the prohibition on contingency fees in s183 was subject to further legislative intervention. The plurality did so by reference to the legislative entitlement to a GCO in the Supreme Court of Victoria,¹⁷ while Justice Edelman stated that '[i]n principle, there is no longer any reason why the powers to make a CFO upon settlement or judgment… cannot be exercised in favour of solicitors', save that coherence with s183 of the LPUL in NSW precludes the application of those powers to solicitors. In light of this, '[f]uture development of any power to make an SCFO is that state must be left to occur as a matter of legislative innovation'.¹⁸

Implications

The High Court's decision in Kain provides greater certainty as to what the Federal Court will be able to order in respect of funding arrangements:

• 'Settlement CFOs' and 'judgment CFOs' are available. While this may be seen as a 'win' for class action promoters, those CFOs will be made in circumstances where the total settlement or judgment sum (and the rate of return for the funders) is known. It also means the funder will have less certainty as to whether a CFO will be granted until the end of the case. It remains to be seen whether courts will be more willing to limit funders' commissions where they are disproportionate, in the interests of ensuring the order is 'just'. For now, though, the availability of the order is certain.
• 'Commencement CFOs' remain off the table (at least in name): Brewster remains good law, though there is a question as to whether it has any practical effect if judges are willing to give 'informal indications' early in proceedings of whether they are disposed to grant a CFO at settlement or judgment.
• 'Solicitors' CFOs' are off the table. Kain establishes that solicitors subject to the LPUL are not entitled to a Solicitors' CFO, and we expect that same prohibition will apply to solicitors practising in other jurisdictions (with the exception of Victoria's GCO regime), as they are subject to provisions equivalent to s183 of the LPUL. In the absence of legislation amending the status quo, a law practice funding a class action in any jurisdiction other than the Supreme Court of Victoria will need to do so on a 'no-win, no fee' basis.

In the Federal Court, the decision in Kain may limit the proliferation of class actions that are too risky for a funder, and too expensive to justify a 'no-win, no-fee' arrangement. However, the availability of GCOs in Victoria (for funders and solicitors) will mean it will remain an attractive jurisdiction for class action promoters irrespective of whether another jurisdiction is the more appropriate forum (see our Insight), and leaves open a greater number of viable funding options for class actions.