Litigation Finance Update: US Tax Court Refutes Loan Treatment for Upfront Litigation Support Payments in Novoselsky v. Commissioner

The taxation of litigation finance transactions has been subject to a great deal of uncertainty and has the potential to be extremely adverse to both the funding party and the party receiving the funding. Parties to these arrangements have cast the transactions as non-taxable loans, notional principal contracts and forward contracts. In Novoselsky v. Commissioner, decided on May 28, 2020, the Internal Revenue Service (IRS) successfully challenged a transaction structured as a loan. As a result, the lawyer receiving the funding was subject to full federal income on tax on the receipt of payments designated as loan proceeds. The Tax Court also upheld an assessment of significant penalties against the lawyer for following the form of the transaction. Mark Leeds and Stephanie Wood, of the New York office of Mayer Brown, with input from Philip Braverman of Burford Capital plc, analyze this new decision and its impact on the litigation funding market.