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What California Law Firms and Their Investors Need to Know

1. California’s new AB 2305 allows outside litigation financing—but investors cannot control which cases lawyers take, how they litigate them, or when clients settle.

2. A violation can expose both the attorney and corporate funder to $10,000 per violation or triple a client’s actual damages, whichever is greater.

3. The law reaches beyond attorney discipline by making prohibited contract provisions void and giving injured clients their own path to court.

By Samuel López | USA Herald

SACRAMENTO - California Gov. Gavin Newsom signed Assembly Bill 2305 on September 20, adding a new layer of statutory protection between outside investors and the professional judgment of attorneys handling litigation.

The measure, authored by Assemblymember Ash Kalra of San José and chaptered as Chapter 393 of the Statutes of 2026, targets private equity firms, hedge funds and other corporate legal funders that provide capital or business services to litigation practices. It applies to covered contracts entered into on or after January 1, 2027.

But there is an important distinction getting lost in some of the headlines.

California did not outlaw litigation financing. Nor does AB 2305 automatically prohibit management services organizations, commonly called MSOs, from doing business with law firms.

Instead, the law focuses on a much more consequential question: Who is actually making the decisions in the case?

Under AB 2305, a corporate legal funder commits the unauthorized practice of law if it interferes with or attempts to influence an attorney or litigant on substantive litigation decisions. The statute specifically reaches decisions about which clients to represent, the scope and financial terms of representation, case strategy, filing or dismissing claims, settlement negotiations, evidence, discovery, appeals and litigation timing.

It also bars investors from controlling litigation budgets when those decisions affect case strategy, selecting lawyers based on profit rather than client interests, or requiring litigation decisions to be driven by investor-return calculations.

That matters because California lawyers were already subject to Rule 5.4 of the California Rules of Professional Conduct, which generally prohibits sharing legal fees with nonlawyers and bars lawyers from allowing someone who pays for legal services to direct or regulate their independent professional judgment.

AB 2305 gives those principles sharper statutory teeth.

If an attorney violates the new law, State Bar discipline is possible. More importantly for clients, both the attorney and corporate legal funder may face a civil action for $10,000 in statutory damages per violation or three times the client’s actual damages, whichever amount is greater, plus attorney fees, costs and possible injunctive or declaratory relief.

Contracts designed to permit or facilitate prohibited investor control are also declared void and unenforceable. Agreements cannot punish lawyers or clients for reporting investor interference, prevent them from speaking publicly about it, or stop an attorney or client from withdrawing when prohibited nonlawyer involvement occurs.

Still, outside money itself remains lawful.

AB 2305 expressly protects qualifying nonrecourse litigation finance—funding whose repayment depends upon the successful resolution of identified cases. To qualify, agreements must set a dollar amount or maximum funding amount, limit the funder’s return to an interest rate or multiple of the money advanced, and prohibit using those funds to purchase leads or solicit future clients.

That safe harbor may prove to be one of the most important parts of the law. California is not closing the door on outside capital. It is attempting to separate financing a lawsuit from running one.

The bill moved through the Legislature without a recorded dissenting floor vote. The final Assembly concurrence passed 78-0, while the Senate approved it without opposition; a Senate Judiciary analysis also reported no formal opposition received at that stage.

For law firms using sophisticated financing arrangements, the practical question after January 1 may no longer simply be whether an investor technically owns part of the practice.

The harder question will be whether the financial agreement—on paper or in practice—gives that investor leverage over what happens inside the courtroom.

About the Author

Samuel López is a reporter and news correspondent for USA Herald who has reported for the publication since 2022. López is also an experienced legal professional with more than two decades working with state and federal litigation, complex legal matters, legal research, case analysis and document preparation. That background informs his reporting on attorney regulation, litigation finance, professional responsibility and the growing intersection between outside capital and the practice of law.

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