Tackling Predatory Litigation Funding Act

This bill creates a new tax on income that third-party litigation funders receive from financing civil lawsuits. It adds a new chapter to the Internal Revenue Code imposing a tax on qualified litigation proceeds received by covered parties, defines key terms, and sets special rules for withholding and exclusions.

Sec. 2, Litigation financing: The bill adds Chapter 50B to the Internal Revenue Code. Section 5000E-1 imposes a tax equal to the highest individual income tax rate plus 3.8 percentage points on qualified litigation proceeds received by a covered party each year. For partnerships, S corporations, and other pass-through entities, the tax applies at the entity level.

Sec. 5000E-2, Definitions: A "covered party" is any third party (including individuals, corporations, partnerships, or sovereign wealth funds) that receives funds under a litigation financing agreement and is not an attorney for a party. A "litigation financing agreement" is a written agreement where a third party provides funds to a named party or law firm in exchange for a direct or collateralized interest in the action's proceeds. Exceptions include agreements under $10,000, or those limited to principal repayment plus interest at 7% or twice the 30-year Treasury yield, or reimbursement of attorney's fees, or with a related party. "Qualified litigation proceeds" are realized gains, net income, or profit from such agreements, not reduced by losses, and cannot exclude amounts under sections 104(a)(2) or 892(a)(1).

Sec. 5000E-3, Special rules: Any applicable person (a named party or law firm that entered into a litigation financing agreement) must withhold 50% of the applicable percentage from proceeds paid to the third party. The withholding agent is liable for the tax but indemnified. Withheld amounts are credited to the recipient's tax return. If withholding is missed, the tax is not collected from the withholding agent if the recipient later pays, but interest and penalties still apply. Overpayments are refunded to the withholding agent.

Section 1221(a) is amended to exclude from capital asset treatment any financial arrangement or proceeds from a litigation financing agreement. A new section 139J excludes qualified litigation proceeds from gross income. Clerical amendments update cross-references and the table of chapters. The amendments apply to taxable years beginning after December 31, 2025.