Assessing the Standing of Third-Party Funders within the Insolvency Framework
Part I: Introduction
Third Party Funding (TPF) is an arrangement where a funder, who is not a party to the dispute, provides monetary support to one of the parties. If the funded party’s claim is successful, the funder typically receives a portion of the amount awarded or recovered. While TPF is not illegal in India, courts continue to exercise caution in its regulation. This scrutiny primarily falls under Section 23 of the Indian Contract Act, 1872, which prohibits agreements that are contrary to public policy. The position of law on validity of TPF in India was neatly summed up in Tomorrow Sales Agency Private Limited vs Sbs Holdings (2023). While initially conceptualised as a mechanism to ensure that parties pursuing legitimate claims are able to afford the cost of dispute resolution, it has now become a convenient alternative to financing disputes themselves.[1] Consequently, the funder’s primary incentive in such arrangements is financial gain.[2] With its rising popularity, multiple ancillary questions regarding TPF arise. While there has been considerable discourse on the issue of ‘interim finance’ and third parties implicitly funding the insolvency process, little has been said about claims of third-parties funding other disputes of the party going through insolvency, and how this fits within the insolvency framework.
For instance, a third-party funder (funder) provides financing to a party in a dispute, and while the case is sub-judice, the claimant enters insolvency. In the event of a successful claim, it is unclear if the waterfall mechanism i.e. the order in which assets are to be distributed if the insolvency fails and the company has to be liquidated, envisioned under the Insolvency & Bankruptcy Code (IBC) will be applied to distribute the proceeds, or if the funder’s contractual rights take precedence. While true that insolvency proceedings are collective in nature, and hence to protect the collective interest of all creditors, Sec. 14 of the IBC imposes a moratorium on “institution of suits or continuation of pending suits or proceedings”,[3] this does not apply to all proceedings. In Power Grid Corporation Of India Ltd. vs Jyoti Structures Ltd, the Delhi High Court (HC) clarified that Section 14 of the IBC does not apply to the proceedings which are in the benefit of the Corporate Debtor (CD). Purposively interpreting the IBC, the HC clarified that the object of the IBC was to protect the debtor, and if such an exception is not made, it would prevent the debtor from recovering money due to it, further adding to its financial corpus, and be directly contrary to the object of the IBC. Thus the question that this article seeks to answer is located precisely within these confines i.e. the recourses available to such third-party funders, where insolvency proceedings have already been initiated against the party they were funding.
In Part II of the article, the author discusses the categorization of third-party funders, and if they can be termed as financial creditors. Building on this, in Part III, the author touches upon the role of such funders, envisioned in the IBC regime, dissecting their ability to admit such claims and their eligibility to participate in the Committee of Creditors. Finally, in Part IV, the author concludes by briefly touching upon international approaches to TPF, stressing that India must move beyond judicial precedent to adopt a clear and comprehensive regulatory framework.
Part II: Categorization of third-party funders
In this part, the author focuses on the categorization of such funders within the IBC regime. This categorization is pertinent for multiple reasons. Firstly, it determines if such a claim can be admitted. Once Corporate Insolvency Resolution Process (CIRP) commences, the interim Resolution Professional (RP) constitutes the CoC of financial creditors of the debtor. If funders can be a part of the CoC again hinges on if such funders can be categorized as financial creditors. Lastly, it determines their position if the company enters liquidation.
1. TPF as Financial Creditors
The Insolvency Law Committee’s Report of February 20, 2020, in assessing whether a person who has received security from a third party will be considered a financial creditor examines if provision of security can amount to ‘financial debt’ under Section 5(8) of the IBC. The author replicates this approach to answer the question at hand.
A financial creditor is an entity to whom a ‘financial debt’ is owed, as defined u/s 5(8) IBC. The SC in Jaypee Infratech Limited v. Axis Bank Limited (2020) established a restrictive interpretation of the definition of financial creditor. It was held that to be considered a financial creditor, there must be an actual financial debt owed by the corporate debtor. Thus, assessment if a party qualifies as a financial creditor under the IBC, depends on the nature of the sum/money extended to the corporate debtor, and if such a sum is a ‘debt’. Debt is broadly understood as a sum of money due by contract. In this context, the SC in Global Credit Capital Ltd. v. SACH Marketing Pvt. Ltd. (2024), held debt to stem from a liability tied to a “claim” under the IBC. In essence, TPF arrangements are contingent liability contracts, where the liability crystallizes into an actual obligation only when a favourable decree is obtained. Thus, funding extended to a party, that later enters insolvency broadly qualifies as ‘debt’.
The SC in Anuj Jain v. Axis Bank (2020), in addition to the nature of the contract, outlined the following threshold establishing a sum to be a financial debt; (i) disbursal of funds, (ii) consideration for time value, and (iii) the disbursement must be to the corporate debtor or its agent directly.[4] Essentially, the lender expects repayment of the principal along with an additional amount as compensation for the time that the funder parted with its monies (interest) and for the risk of default. In such a scenario, the repayment obligation is fixed and arises regardless of the outcome of any event. However, a TPF arrangement is usually structured on a non-recourse basis i.e. if the litigation fails and no money is recovered, the funder absorbs the loss, and there is no guaranteed return. Thus, this model fundamentally differs from the concept of a financial debt as defined under the IBC. Attention must also be paid to the court’s analysis in Swiss Ribbons Pvt. Ltd. v. Union of India (2019), which highlighted additional criteria to distinguish between financial and operational creditors. This includes the quantum of the sum of money extended, repayment schedule, risk and control.
2. TPF as operational creditors
It is clear that given the fundamentally distinct nature of third-party funders, they cannot be categorized as financial creditors. However, it may be hasty to categorize them as operational creditors merely because they are not financial creditors. A bare reading of Sec. 5(20) IBC reveals that such funders do not fall under the ambit of operational creditors too. Any money owed, which arises due to supply of goods or services, or are statutorily payable, is an operational debt. Even on a purposive interpretation, an “operational debt” is intended to arise from the day-to-day functioning of a business that are essential to its regular operations. TPF arrangements thus do not necessarily fall under operational debts.
3. Taking a cue from treatment of interim financiers?
In the absence of clarity on the issue of categorization, it may be worthwhile to look at the treatment of claims of interim financers. Much like TPF arrangements, which are made to fund litigation or arbitration, interim finance contracts are entered to finance the insolvency process. A key difference between the two is that while TPF arrangements are entered into by the corporate debtor, interim finance is raised by the RP, with the approval of the CoC, if formed. Such costs are a part of the insolvency resolution process cost u/s 5(13) IBC, which finds itself on the top of the waterfall mechanism u/s 53 IBC. Notably, Sec. 5(15) IBC explicitly defines interim finance as a ‘financial debt’, which when read in conjunction with Sec. 5(7) IBC implies that interim financers are indeed financial creditors. Other than the statutory interpretation of Reg. 2(1)(ea) of the CIRP Regulations, 2016 which defines interim finance as any ‘financial debt’, the court held that interim financing meant raising funds with an obligation of repayment, which gives it the “commercial effect of a borrowing”. Additionally, given that interim finance is crucial to keep the CD as a going-concern, classifying interim financiers as financial creditors incentivizes funding. If lenders advancing this finance are not assured of repayment, they are less likely to extend this debt, which frustrates the very objective of the Code. Thus, while interim financers are third-party funders in essence, their treatment cannot be replicated in case of third-party funders.
Thus, the specific categorization of third-party funders, in such circumstances remains unclear, and requires clarification.
Part IV: Role of Third-Party funders in the Insolvency process
In this part, the author delves into how the categorization of third-party funders, or rather the ambiguity around it affects their role in the insolvency process. The author touches upon – a) initiation of insolvency and admission of claims and b) third-party funders’ ability to join the Coc.
This ambiguity in categorization of TPFs most significantly impacts initiation of insolvency. This question of initiation only arises for funders if their right to payment arises before the funded-party enters insolvency. Sec. 6 IBC categorically allows only financial or operational creditors and the corporate debtor itself to initiate insolvency. It also envisions distinct mechanisms and procedure for each of these parties. Sec. 6’s restrictive approach is deliberate, to ensure the IBC regime is not used as a debt recovery tool.[5]
In the event the payment obligation arises after insolvency of the funded party has already begun, a third-party funder can admit its claim provisionally, and once the payment obligation crystallizes i.e. a decree is obtained in the favour of the CD, this amount can be modified by the RP. As held notably in Tata Steel BSL Ltd. v. Varsha (2019), a creditor is entitled to admit their sub-judice claims too. Such claims can be routed through Sec. 14(1) & (2) of the IBBI (Insolvency Resolution Process of Corporate Persons) Regulations, 2016 (IBBI Guidelines), which allow creditors to submit the ‘best estimate’ of the amount while admitting their claim, and then modify it when additional information is available. In fact, such claims have a ‘nil’ valuation also, as held in State of Haryana v. Uttam Strips Ltd. (2020). However, NCLT in Ultra Tech Cement Ltd. v. Minita D. Raja held that all such claims must be flagged as contingent in the information memorandum. As for the nature of the proceeds, in Committee of Creditors of Essar Steel India Limited Vs. Satish Kumar Gupta & Ors (2019) the SC held that the Committee of Creditors (‘CoC’) has the power to decide how any incoming profits during CIRP should be distributed in the Resolution Plan. Further, Regulation 12(2) of the CIRP Regulations, 2016 provides that a creditor can also submit the proof on or before the ninetieth day of the insolvency commencement date. It must be noted that in all cases cited, the general relationship is that the party entering their claim is the judgment creditor i.e. the party who directly benefits from the decree or order, and is directly a party to the litigation, not a third-party funder. This however is unlikely to affect the application of the provisions cited, as they are not limited solely to parties to the litigation but apply broadly to any creditor with a valid claim, including by extension, entities like third-party funders.
While there is no explicit statutory guidance on their ability to join the CoC, given the fundamental differences in the nature of ‘debt’ extended by a funder and that by a financial creditor, they are not likely to be categorized as financial creditors. Since the IBC follows a creditor-in-control regime for the most part, the CoC ordinarily only constitutes financial creditors of the CD. Constituted by the interim RP, it is the primary decision making body for the company, when it is in insolvency. Thus, purposively understanding the IBC regime, it would not make commercial sense for funders to be a part of the CoC, as their right to payment is not tied to the CD as a whole, but merely to the judgement proceeds. To illustrate this, one may note the difference between the treatment of a loan extended for the purpose of litigation and a TPF arrangement. In the former, when the CD borrows a sum of money from the creditor for funding a litigation/arbitration, the contract would envision a fixed interest rate, along with the absolute obligation to pay back the entire sum. Here, the result of the litigation is immaterial to the creditor. Essentially, this positions the lender squarely within the ambit of a financial creditor under the IBC, as the claim arises from a time-value of money consideration and is not contingent on any specific asset or event. Whereas in case of TPF arrangements, the obligation to pay only materializes if the litigation/arbitration yields successful results. Thus, it would not make commercial sense for such a creditor to have access to a pool of assets. Since the CoC controls critical decisions affecting all creditors, its composition is limited to financial creditors whose claims are linked to the viability of the CD as a whole. Funders under TPF arrangements have no such stake. Conversely, these funders themselves would likely prefer not to participate in the CoC, as their interest is limited to the outcome of a specific litigation, not in the restructuring or realization of the CD’s general asset pool. Thus, allowing such funders to be part of the CoC would not only lack legal basis under the IBC but would also undermine its commercial intent, which is to empower creditors with a financial stake in the corporate debtor’s overall viability.
Part V: Conclusion
As the IBC regime matures, increasingly nuanced questions are emerging regarding the treatment of specific claims. With the growing prevalence of TPF arrangements in insolvency proceedings, there is a pressing need for clearer regulatory guidance on how these mechanisms intersect. Much like India, most guidelines in the UK around TPF also come from judicial precedents. However, the Civil Justice Council in October 2024 released an interim report on the UK funding market, with a final report due in the summer of 2025. The government has also hinted at possible legislative intervention stating that it would be “looking at all available options to bring clarity to all interested parties“. Moreover, the European Law Institute also released Principles Governing the Third-Party Funding of Litigation to “constitute a blueprint for guidance, decisions or light-touch regulation of the burgeoning TPLF market.” Singapore too passed the Civil Law (Third-party Funding) Regulations in 2017, which not only stipulates for prospective funders to meet certain requirements, but also prescribe relevant disclosure requirements.
Jurisdictions like the UK and Singapore that legitimised TPF much later, already have preliminary guidelines in place, whereas India has no explicit laws that regulate or even validate TPF, barring state amendments to Order XXV Rule 1 Code of Civil Procedure, 1908.
In Maharashtra, Gujarat, and Madhya Pradesh, specific rules have been introduced empowering courts to implead third-party litigation financers and require them to provide security for potential costs. If the financer refuses to join as a plaintiff, they lose any right to claim an interest in the suit property. The court may also implead them as a defendant and direct them to deposit security for future costs.
The increasing growth of the TPF ‘industry’ in India calls for clear and comprehensive regulations, drawing from global practices, to ensure legal certainty in this growing space.
* The author is a V Year Law student at MNLU, Mumbai.
[1] Kaira Pinheiro and Dishay Chitalia, ‘Third-Party Funding in International Arbitration: Devising a Legal Framework for India’ (2021) 14(2) NUJS Law Review 2 https://nujslawreview.org/wp-content/uploads/2021/10/14.2-Pinheiro-Chitalia.pdf accessed 17 April 2025
[2]See Robert D. Martorana, ‘Benefits and Challenges of Third-Party Litigation Funding’ (Remo Litigation Finance, 10 February 2025) https://www.remolitfin.com/blog/benefits-and-challenges-of-third-party-litigation-funding accessed 17 April 2025; Hughes Hubbard & Reed LLP, ‘What is Third Party Funding? How Is It Used in International Arbitration?’ (Client Advisory, 6 March 2024) https://www.hugheshubbard.com/news/third-party-funding-in-international-arbitration accessed 17 April 2025
[3] UNCITRAL Legislative Guideline, p. 83, para 25.
[4] Also see Nikhil Mehta & Sons and Ors. V AMR Infrastructures Ltd.
[5] See Chopra, D. (2021). Using the IBC as a Debt Recovery Tool: Obliterating the Spirit of the Law. 2 NLIU J. B. L. 16.