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Best Practices

5 Types of Fraud in Legal Funding

May 5, 2017
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5min read

This article opens our investigation into fraud, one of the biggest risks in legal funding. Unfortunately, the chance of fraud is a part of any financial business, and the statistics are unnerving:

According to one payments fraud survey underwritten by JPMorgan, nearly three-quarters of corporate treasury and finance professionals identified their companies as victims of attempted or actual payments fraud in 2016 (with checks continuing to be the most popular mode). It's a global phenomenon - in China, a whopping eighty-five percent of companies were reportedly hit by fraud in 2016, which is a mere four percent over the global average per that study.

Legal funding is no different. Fraud is among the top reasons why legal funding companies lose investments. The consequences are quite major, and, even worse, widespread.

With the prospect of fraud, legal funding becomes more expensive for people who legitimately need it. Many funders raise their rate of return to account for losses due to fraud, as well as accrue more costs to combat it (e.g. more time and money spent on underwriting and other tools for checking for fraud). It may also give rise to long-term, intangible issues for your business, such as the loss of investor confidence.

Funders should do everything in their power to avoid any and all fraud-related issues. Our objective with this article is to help you identify major types of fraud, in order to raise awareness and increase the knowledge of you and your employees. In a follow-up article, we will help you learn how to best anticipate and guard against fraud.

Five Major Types of Fraud in Legal Funding

We've identified five types of fraud prevalent in the legal funding industry, each of which affects funders to different degrees. Some instances of fraud can be averted by well-structured underwriting processes -- check out our latest article on the subject for tips -- while others may be more difficult to sniff out.  

#1 Plaintiff Withholding information

This is the simplest, most common, and most challenging to ID type of fraud.Plaintiffs may withhold information from their attornies and/or funding companies, which can result in unforeseen issues and potential downstream losses.

The withheld information can be subtle and very difficult to catch if either your underwriter or case manager isn't savvy or experienced enough to see it. For example, a plaintiff may leave important case details out, such as: how many people were in an automobile during an accident, pre-existing injuries or surgeries, prior liens or funding on a case, prior claims and subsequent accidents, or by subtly altering the timeline of events.

In a similar vein, a plaintiff may instead exaggerate his or her injuries to run up claims -- sometimes called "soft" or "opportunistic" fraud.

Even if these "details" don't derail the entire funding, they will, in any event, make your underwriting inaccurate, causing you to misvalue the asset.  

#2 Check fraud

Check forgery, bad check scams, and check cashing cons have been around for a long time, well before online banking and e-commerce made it possible to rob you electronically. Apparently, it hasn't gone out of style and remains one of the most popular forms of fraud. 

In the legal funding, fraudulent check activity can occur both when you fund the plaintiff and when you are set to deposit returns received after a successful settlement.

While not common, we've heard of plaintiffs who request a check be delivered to a friend or family member, only to call back later claiming that friend or family member cashed the check and ran off. After a little detective work, the funders of these plaintiffs discovered it was all a ruse.

Another variant is when you're receiving returns, whether from early plaintiff payments or the law firm.When you take the check to your bank and cash it, you're really only depositing it and withdrawing your own funds. When the forgery is discovered after your bank tries to process the check (which can take anywhere from one to five business days), your money is long gone, along with the plaintiff or attorney whose check you cashed!  

#3 Attorney fraud

Nearly every funder has a story to tell about being deceived by an attorney.

An attorney may tell you they no longer represent a client you have funded, or they may not (or may have conveniently "forgotten" to) tell you a case has settled and will not disburse funds owed to their lienholders.

We have even heard of situations in which attorneys forged client requests (or invented clients) and pocketed the funding money! This is a criminal offense, with grave consequences. Unfortunately, however, it does happen, and people sometimes get away with it.  

#4 "True" fraud

This type of "true" or "hard" fraud requires the plaintiff to be very, very savvy.

In a case of "true" fraud, a plaintiff, whose record is replete with fake accident or medical reports, seeks out an attorney, and, after selling him or her on a case, calls up a funding company for help. Obviously, if a funding company funds this deceitful plaintiff, the result is a complete loss for the funder.

If the plaintiff is extreme enough, he/she could even stage an accident (you've all the seen the dash-cam footage).          

#5 Bankruptcy fraud

A subset of #1 Plaintiff Withholding Information, bankruptcy fraud happens in a small proportion of cases, but it's important to mentioned. In an instance of bankruptcy fraud, a  plaintiff files for bankruptcy and does not inform his or her attorney or legal funder.

If the "date of loss" on a personal injury claim occurs before the bankruptcy is filed, for example, then the personal injury case may be considered part of bankruptcy proceedings.

Legal funding should not be part of a bankruptcy, and yet, as bankruptcy courts are unsure how to handle legal funding, they sometimes misclassify funders as creditors. This is all the more reason to be explicit in your contract, which should state that your company is "not a creditor in event of bankruptcy for [various] reasons."

Sometimes plaintiffs will seek funding, knowing that they are also planning on having or already have initiated a filing for bankruptcy, in which case the claim is probably already part of a bankruptcy proceeding. This only marks the importance of good underwriting and extensive research on the history of each case and plaintiff.  

Conclusion

Fraud, in its many forms, plagues every legal funding business, big and small alike. Knowing these 5 types of fraud is just the first step, stay tuned to learn more about fraud and its prevention.    

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