The tax treatment of litigation finance proceeds in the United States turns heavily on the "origin of the claim" doctrine: the proper characterization of a recovery or payment is determined by looking at the nature of the underlying claim that gave rise to it, which in turn determines whether a payment is taxable at all and, if so, whether it is ordinary income or capital gain.
The IRS has not issued comprehensive, settled guidance on litigation finance specifically, and its position has been mixed: in at least one private letter ruling, the IRS held that a litigation fund was not entitled to preferential capital gains treatment because there was no "sale or exchange" underlying the arrangement. The agency generally applies a substance-over-form analysis, looking past how an arrangement is labeled to its actual terms and conditions, non-recourse advances typically do not create immediate taxable income, since the IRS tends to view them as contingent obligations rather than current income to the claimant.
A notable recent dispute, NCA Argyle LP v. Commissioner, saw the IRS argue that a $23 million legal settlement was ordinary income attributable to future fees and punitive damages, while the taxpayer argued for capital gain treatment tied to its interest in failed joint ventures; the Tax Court ruled for the taxpayer, rejecting the IRS's arguments and reinforcing how fact-specific this area of tax law remains.