Pre-settlement funding, commonly referred to as a lawsuit loan, is growing in popularity among those seeking additional financial support during legal proceedings. However, inaccurate statements about most settlement loans being some form of recourse debt or different or better than pre-settlement legal funding can be detrimental for people already burdened with the stress of litigation.
It’s not uncommon for predatory lenders to find ways of creating the illusion that there is a difference between pre-settlement funding and lawsuit loans, even though there isn’t. For this reason, we have put together accurate information about the real difference between pre-settlement funding and lawsuit loans and why it matters.
Here is what we will cover:
- Is pre-settlement funding a lawsuit loan?
- The actual difference between lawsuit loans and pre-settlement funding
- Recourse and non-recourse debt
- Has the Internal Revenue Service categorized lawsuit loans as risky and pre-settlement legal funding as non-recourse?
- Does a lawsuit loan operate just like any other loan in which you agree to pay back the amount you owe at exorbitant interest rates on a monthly basis?
- The risks of misleading consumers
Is pre-settlement funding the same as a lawsuit loan?
While it may be easy to confuse a lawsuit loan and pre-settlement funding as two distinct types of financing, there is actually no difference between them in the type of loan they are. Pre-settlement funding and lawsuit loans are two different names referring to the same concept. The pre-settlement funding concept refers to non-recourse debt (loan) plaintiffs can receive during their lawsuit against their future settlement or verdict award—hence, lawsuit loans.
Similarly, settlement loan companies do not structure these advances as traditional banks do. Lawsuit lenders only receive repayment from the proceeds of a case and are not entitled to collect from the borrower if there is no financial recovery from the case. Plus, unlike traditional loans, lawsuit lenders don’t base funding decisions on credit, income, or assets. All funding decisions depend on the complexity and value of the case and the potentiality of receiving compensation. There is no repayment if the case is lost.
The actual difference between lawsuit loans and pre-settlement funding.
Legal funding, also known as a lawsuit loan, is a term used to describe the funding of a legal case prior to or after its successful conclusion. Conversely, a lawsuit loan, or legal funding, typically refers to the following:
- Pre-settlement funding: Advances before the resolution of your pending case. Example: legal funding or a lawsuit loan for a pending case.
- Post-settlement funding: Advances that can be accessed once a settlement agreement has been reached but the proceeds have not yet been paid. Example: legal funding or a lawsuit loan for a settled case.
Understanding these nuances is essential when you are trying to decide which lawsuit loan company is more transparent.
Recourse and non-recourse debt.
Non-recourse debt has very high interest rates
Non-recourse debt is a type of loan in which the lender has no right to collect assets from the borrower if they are unable to repay what they borrow with the potential collateral they put up. As This type of financing is usually used for large projects, such as real estate investments, business expansions, and investments in future lawsuit settlements where there is a high risk that repayment may not be possible.
Unlike other types of loans, non-recourse debt (loans) carries a higher interest rate due to the added risk assumed by lenders.
With that in the pipeline, all pre-settlement funding companies, without exception, charge much higher interest rates than traditional loans that are based on recourse. For the most part, the funding is provided to lawsuit victims who have exhausted every other financial option and are unable to get loans based on recourse. Structuring settlement loans as non-recourse, also known as pre-settlement funding, makes absolute financial sense for investors because lenders can charge higher interest rates than what is typically offered for recourse loans as lawsuit lending companies bear a higher risk of not receiving repayment if the borrower loses their lawsuit.
“Lenders charge higher interest rates on non-recourse debt (also known as loans).” Source: Investopedia
Recourse debt has very low interest rates
Recourse debt is a type of loan that comes with the guarantee that the borrower will personally repay the debt if they are unable to do so through other means. This form of debt typically comes with more stringent terms than non-recourse loans, such as lower interest rates and shorter repayment periods. Furthermore, recourse debt may be secured with collateral and normally requires the borrower to guarantee repayment with personal assets.
Recourse debt can come in the form of bonds, bank loans (auto loans, credit cards), private equity investments, and other forms of financing, and it has lower rates than non-recourse debt. When a lender extends recourse debt, they gain the right to take legal action against the borrower if payments are not made on time. This can include seizing property or other assets that were offered as collateral in order to cover the remaining balance owed.
Structuring a lawsuit loan as recourse debt makes no financial sense for a settlement loan companies. If a settlement loan were recourse debt and different from pre-settlement funding, the interest rates would be much lower, not higher, and investors would have to spend lots of time and money to seize the assets of plaintiffs who are financially struggling to make ends meet for loans that charge similar interest rates as banks. There would be no legal funding industry if many lawsuit loans were based on recourse.
“Recourse loans have a lower interest rate than non-recourse loans.” Source: Investopedia
Has the Internal Revenue Service categorized lawsuit loans as risky and pre-settlement legal funding as non-recourse?
No. Although the IRS does explain the difference between recourse and non-recourse debt, it is a false claim to say that the Internal Revenue Service has categorized lawsuit loans as risky and pre-settlement legal funding as non-recourse. While there is disinformation quoting the IRS and referring to lawsuit settlement loans as recourse debt, in fact, the IRS actually considers settlement loans or litigation funding as a form of debt, but not under the category of recourse debt (loan).
The Internal Revenue Service explicitly says: “A nonrecourse debt (loan) does not allow the lender to pursue anything other than the collateral. For example, if a borrower defaults on a nonrecourse home loan, the bank can only foreclose on the home. The bank generally cannot take further legal action to collect the money owed on the debt.“
Put simply, when you enter into a funding agreement with a lawsuit funding company, you agree to repay them only if you prevail in the underlying lawsuit. This arrangement is treated as a non-recourse debt (loan), and lenders are prohibited from collecting the money if the borrower is unable to repay the loan if there is no monetary compensation.
In essence, settlement loans are non-recourse loans and the repayment is dependent solely on the success of the lawsuit.
Does a lawsuit loan operate just like any other loan in which you agree to pay back the amount you owe at exorbitant interest rates on a monthly basis?
False. The Consumer Financial Protection Bureau – Truth in Lending (Regulation Z) protects people when they use consumer credit, in other words, loans based on recourse and prohibits misleading terms. These credit, or loans, are debts that are regulated because they are considered to be loans.
However, since lawsuit loans are not considered nor structured as these traditional loans, legal funding and lawsuit loans are not subject to CFPB regulations, see § 1026.24 Advertising. If a settlement loan were a loan in the traditional sense, the agency would have the authority to enforce federal consumer financial laws and supervise and examine lawsuit loan companies. Additionally, the interest rates and other costs would have comply with these regulations, just like banks and credit unions.
Source: Institutions subject to CFPB supervisory authority: “We have supervisory authority over banks, thrifts, and credit unions with assets over $10 billion, as well as their affiliates. In addition, we have supervisory authority over non-bank mortgage originators and servicers, payday lenders, and private student lenders of all sizes. We also supervise the larger participants of other consumer financial markets as defined by Bureau rules. To date, this includes larger participants in the following markets: consumer reporting, consumer debt collection, student loan servicing, international money transfer, and automobile financing.”
In addition, if lawsuit loans operated like real loans in the traditional sense, FINRA (Financial Industry Regulatory Authority) would also ensure the lawsuit loan industry to be subject to the exact requirements of traditional banks and financial institutions. Specifically, FINRA Rule 2210 has guidelines on advertising and communication related to financial products and services. This rule requires their members to have advertisements and other communications with the public that are fair, balanced, and not misleading, and it specifies various requirements related to disclosures, disclaimers, and the use of certain terms and phrases. However, the lawsuit loan industry is not subject to these regulations, because legal funding and lawsuit loans are essentially the same in repayment terms, both the same non-recourse loan.
Overall, if settlement loans were real loans, lenders would also be forced to obtain proper licensing and permits and follow guidelines and regulations related to lending practices by these agencies, and settlement loan companies would have to provide much lower interest rates than what is typically offered for non-recourse lawsuit loans.
The risks of misleading consumers
As a potential borrower, you should be highly aware of the risks associated with funding companies that may mislead consumers about settlement loans being different from pre-settlement funding. With words being such powerful tools, it’s not surprising that some of these lenders are attempting to use opposite explanations for the same term—pre-settlement funding and lawsuit loans. By introducing terms like ‘pre-settlement funding’ and saying that is the cheapest option for you while disinforming people that lawsuit loans have to be paid back, they are giving you a feeling that their product is somehow more specialized or helpful. However, this is false.
While these lenders word this funding option deceptively in order to make some money due to the lack of regulation in advertisement, as mentioned above, the fact is that both pre-settlement funding and settlement loans are essentially the same legal funding product. Following the path of misdirection from a predatory legal funding firm doesn’t create more value for your time in need; it just clouds the situation further, misleading you to fund your lawsuit through deceiving methods for a reason.
Remember, when it comes to the core meaning of non-recourse legal funding, the main distinction between pre-settlement funding and lawsuit loans falls in the naming strategy used by some predatory lawsuit loan companies for marketing purposes. Labeling legal funding to be better than a lawsuit loan is superficial and misleading and should not sway your understanding of the nature of this type of funding. Both pre-settlement funding and lawsuit loans can charge either compounding or simple rates depending on the lender, not on the terminology.
Whenever you’re considering a lawsuit loan and need a deeper understanding of the differences between pre-settlement funding and a lawsuit loan, the truth is that both terms are used interchangeably, and there are no critical distinctions between them. Knowing there are no differences between pre-settlement funding and lawsuit loans can help you decide which lender is best for you.
Pre-settlement funding provides an easy process just like its counterpart, and both being part of the same type of debt, have no risks. When looking at costs, the cost associated with pre-settlement funding, also known as lawsuit loans, will still be higher than traditional financing.
With so many considerations at play, it is worth exploring all your funding options to ensure which lender will benefit your financial situation most in the long run before deciding to sign a contract, no matter the terminology each lender uses on its website. As always, it’s best to work with a reputable and trustworthy company like Baker Street Funding that puts the needs and interests of its clients first.
When looking for cost-effective and reliable lawsuit advances, Baker Street Funding provides one of the best and lowest-cost pre-settlement funding solutions available on the market. Apply for a lawsuit loan today.
Do most settlement loans and lawsuit loans offer recourse debt while pre-settlement funding is non-recourse?
False. Both pre-settlement funding and lawsuit loans are structured as non-recourse debt. It is industry standard.
Can a lawsuit loan can have you making monthly payments for years and affect your credit score?
False. This is a misleading claim. Like pre-settlement funding, a lawsuit loan does not require monthly payments and it does not affect your credit score because it is not reported to credit agencies if you lose the case and can’t pay it back.
Do you have to pay back the amount you borrowed on your lawsuit from your personal income with a settlement loan?
Absolutely not. A pre-settlement loan is a type of non-recourse loan that you only pay back with the proceeds of your case. If your case does not turn out in your favor, you can rest easy knowing there are no obligations to pay us back.