The Class Action Fairness Act of 2005 ("CAFA") which passed Congress earlier this year with great fanfare and was signed into law by President Bush in February, is a highly controversial piece of legislation that is seen quite differently by its proponents and critics. Proponents, such as John Hooper, a partner at New York law firm Edwards & Angell, see CAFA’s passage as "the culmination of over eight years of work by lawyers, industry groups, Congress, and the White House to bring fairness and reason to an oppressive tort crisis." According to Hooper, the Act has as its "very foundation the promise of a just and level playing field for multinational corporations, which increasingly found their existence jeopardized by frivolous class actions, certified in a limited number of state courts, best known for their desire to please powerful local plaintiff class action lawyers." These supposedly plaintiff-friendly jurisdictions came to be known by the defense bar as "judicial hellholes." The Act’s sponsors argued that legislation that enabled such cases to be moved to federal courts would provide defendants with greater protection from unscrupulous plaintiff’s lawyers using the "judicial hellhole" phenomenon.

Other observers, less sanguine about the purpose and effect of the statute, such as Georgine Vairo of the Board of Editors of Moore’s Federal Practice, have noted that the basic purpose of the Act appears to be to "simply provide corporate defendants a safe haven in federal court," which she likened to "a replay of events that took place one hundred years ago as Congress expanded the role of federal courts to accommodate industry." At least one of the declarations of purpose of the Act would probably come as a surprise to James Madison and Alexander Hamilton. The statute recites in §2 that one of its purposes is to:

(2) restore the intent of the framers of the United States Constitution by providing for Federal Court consideration of interstate cases of national importance under diversity jurisdiction." (emphasis supplied)

On the other hand, it is doubtless true that state court class actions that force a defendant to settle a nationwide class case, based on the unfavorable law of a particular state, may well extend that particular state’s rule of law beyond its borders in a manner that is inconsistent with the principles of federalism. Further, de facto economic regulation of multistate business based upon interpretation of state law affects interstate commerce in ways that probably were never considered possible, and surely would not be considered desirable by the framers of the Constitution.

In any event, the Act is now law, and the bottom line is that the Act will likely result in more class actions being brought in federal court. It may also result in defendants attempting to keep actions in defense-friendly state courts (see more on this later in the article) in order to obtain a favorable forum, much as the plaintiffs’ bar is supposed to have been doing over the last few years.

The key elements of the new statute are:

I. EXPANSION OF DIVERSITY JURISDICTION

The heart of the statute is the expansion of federal jurisdiction over class actions. The statute now provides that federal district courts have original jurisdiction over any class action in which there are at least 100 class members, the aggregate amount in controversy exceeds $5 million and any member of a plaintiff class is a citizen of a different state from any defendant. The provision does not apply if the defendant is a state, a state official, or other government entity subject to 11th Amendment protection. It also does not apply to securities cases such as those governed by PSLRA (the Private Securities Law Reform Act of 1995). Citizenship is determined on the date when the plaintiffs file the complaint.

A. The "Home State" Exception.

The statute contains a co-called "home state exception," which governs class actions filed in the "home state" of all the primary defendants. A defendant’s home state is defined as the defendant’s state of incorporation or the state that is its principal place of business. Thus, a defendant can have two home states. Under this provision, if two-thirds or more of the class members are from the defendant’s "home state" the case is not subject to federal jurisdiction. The federal court does, however, have authority to decline to exercise jurisdiction in the interests of justice, if the court determines that the action asserts primarily local claims by local plaintiffs.

B. The "Local Controversy" Exception

There is also a "local controversy" exception, which provides that if two–thirds of the proposed class members are citizens of the state in which the action was filed, but not all members are citizens of the state, the cases will not be subject to federal jurisdiction under certain circumstances. The circumstances are that (1) the plaintiffs have sued at least one in-state defendant from whom they seek significant relief and whose conduct forms a significant basis of the claims, (2) the principal injuries resulting from the alleged conduct occurred in the state where the class is brought, and (3) no state class action has been filed against any of the defendants in the last three years. A federal court may decline jurisdiction if between one third and two thirds of the class members are citizens of the state in which the action was brought, and the primary defendants are citizens of the state as well.

C. Mass Torts

The statute also extends federal jurisdiction over so-called mass torts – suits that are brought on behalf of numerous named plaintiffs who claim their suits present common questions of law and fact that should be tried together even though they do not seek class certification status. Under the Act, any civil action in which 100 or more named parties seek to try their claims for monetary relief together will be treated as a class action for jurisdictional purposes with some exceptions.

First, federal courts only have jurisdictions over plaintiffs whose individual claim satisfies the federal $75,000 standard; other claims within the mass tort group would be remanded. Moreover, there is a somewhat anomalous plaintiff-friendly provision: the statute of limitations for any claims that are part of a mass action are tolled while a mass action is pending in federal court. This is an analogue of the traditional rule that claims of a class member are tolled while a putative class is pending.

II. THE CONSUMER BILL OF RIGHTS

A. Symbolic Provisions

The statute contains a so-called "consumer bill of rights." Two of these "rights" are simply window dressing. 28 U.S.C. §1713 provides that no federal court may approve a class action settlement in which a class member will be required to pay attorneys’ fees which will result in a net loss to the class member, unless the judge makes a written finding that the benefits to the class members "substantially outweigh" the monetary loss. Even the proponents of the bill admit that this provision is symbolic, as no federal judge under present standards would ever approve such a class action settlement.

Similarly, 28 U.S.C. §1714 provides protection against discrimination in settlement based on geographic location that is primarily symbolic. Federal judges are already vigilant in approving class settlements, and would never, under prevailing standards approve a settlement, which would result in discrimination based on the location of certain plaintiffs. There are, however, two other provisions that will have a greater practical effect.

B. Notice of Settlement

28 U.S.C. §1715 requires that notice of settlement of a class action be given to "appropriate" federal and state officials. The "appropriate" US or state official is the official who has the primary regulatory or supervisory authority over the defendant or who licenses or otherwise authorizes the defendant to do business in the state. If there is no primary regulator or supervisor, then the notice must be sent to the federal or state Attorney General. This notice is supposed to ensure that plaintiffs and defendants do not collude to create settlements unfavorable to a class.

Of course, determining the fairness of the settlement is the responsibility of the judge, and there is little reason to believe federal judges do not take their responsibility seriously. As a practical matter, this provision may result in difficulties for defendants. The class mechanism is not dissimilar in many ways from bankruptcy; it allows a culpable defendant to pay claims and begin a fresh start. Defendants often want to settle with a class to put liability behind them. A notice to federal and state officials may well result in making class actions more difficult to settle, not because a proposed settlement is unfair, but because increased scrutiny by politically motivated government officials may result in more expense to a defendant who has decided it wants to settle. Moreover, there are, unfortunately, class members in many cases who will object to a settlement for no reason other than to be "bought off" through an individual settlement. More publicity is likely to encourage such professional litigants, making settlement more expensive, or even impossible.

C. Coupon Settlements

An important part of the statute which will likely benefit consumers is 28 U.S.C. §1712, which deals with so-called "coupon settlements." Under the new statute, if a proposed settlement in a class action provides for a recovery of coupons to a class member, the portion of an attorney’s fee awarded to class counsel is attributable to the value of the coupons must be based on the value to class members to the coupons that are actually redeemed.

This provision will force plaintiffs’ lawyers settling cases based on coupons to be awarded to the class to take greater care to ensure that the coupons actually provide value to class members.

III. POTENTIAL PROBLEMS WITH THE ACT

Because this bill was the result of many compromises, a number of problems have been noted already with the Act. First, the attempt to reform class action practice neglected an important issue that the 2003 Amendments to Rule 23 addressed. Prior to the 2003 Amendments, it was unclear whether court approval was required when a settlement or voluntary dismissal of an uncertified class was brought. Rule 23 (a)(1) now provides a court need not approve any settlement or voluntary dismissal prior to class certification. Nothing in the new Act requires the parties to obtain judicial approval of pre-certification settlements. This may allow a defendant’s attorney to settle individual claims that have the effect of "picking off" named plaintiffs, thus avoiding certification.

In substance, the act allows Defendants to settle cases with those parties who have been willing to bring claims on very favorable terms, if they will agree not to act as representative of a class. The plaintiffs’ attorneys win because the fees paid by the defendant are not subject to any review under the CAFA. Representative plaintiffs win because they obtain an appropriate award, but the class members themselves are simply left with no remedy, and no attorneys willing to represent them.

Another potential for abuse lies in the fact that actions filed as a class may be voluntarily dismissed under Rule 41(a) and then refiled as a mass action in state court. A defendant can use the mass action provision to remove the case to federal court and then the parties can then settle the case without the need for class approval, similarly cutting absent class members out of the settlement.

IV. POSSIBLE ABUSE BY DEFENDANTS

The legislative history of the Act reflects that the critical concern of the framers of the Act was steering litigation away from so-called "judicial hellholes" – state courts where plaintiffs could unfairly obtain favorable rulings, which effectively eliminated a defendant’s ability to litigate. But under the new act, there is a very real risk that plaintiffs may be left unable to litigate.

Under the act, the defendant still has the option of keeping a class action in state court if it chooses. There is at least a risk that defendants may attempt to manipulate the process in much the same fashion as they alleged plaintiffs were abusing the process. Illustrative is the recent America Online ("AOL") litigation, pending in the United States District Court for the Central District of California, In re: American Online Spin-off Accounts Litigation, MDL 4-1581 RSWL (C.D.Cal).

In 2003 a number of cases, including twelve putative class actions, were filed against AOL throughout the country alleging that AOL was improperly spinning off from a consumer’s primary account, sub-accounts (SOSA’s) and opening new accounts without the permission of the account holder through the use of deceptive pop-up ads. AOL, along with plaintiff’s counsel, sought relief from the Multi District Litigation ("MDL") Panel, requesting that all cases be consolidated in one forum for pre-trial proceedings. The MDL Panel granted the request and consolidated some 12 putative class actions in the Central District of California under the Hon. Ronald Lew. The court established a management structure to administer the litigation and conducted pre-trial proceedings and discovery for two years. The MDL Court ordered mediation during the summer and fall of 2004. Multiple mediations were conducted but AOL determined that plaintiffs were not willing to settle in the range AOL wished. AOL then approached non-SOSA plaintiffs who had filed an unrelated class action in St. Clair County, Ill. AOL’s attorneys suggested a settlement to the plaintiffs in the St. Clair County action unrelated case if they would amend their complaint to include the nationwide SOSA claims that were pending in the California federal court.

With the incentive of large fees and a coupon settlement valued at some $25 million should all coupons be redeemed, the St. Clair County plaintiffs amended their complaint to include nationwide SOSA claims, and consummated the deal with AOL without informing the MDL plaintiffs and the MDL Court. The parties submitted the proposed settlement for preliminary approval to the St. Clair County Judge. The MDL Plaintiffs, learning of the proposed settlement, unsuccessfully objected to preliminary approval. Then the MDL plaintiffs brought a motion under the All Writs Act, 28 U.S.C. §1651, in the MDL Court, seeking an order enjoining defendant AOL from proceeding with the St. Clair County settlement. Even though the MDL Court had yet to certify a class in the MDL proceeding, on May 10, 2005 the Court issued an order, pursuant to the All Writs Act, in aid of the MDL Court’s jurisdiction, enjoining AOL from proceeding with the nationwide St. Clair County settlement.

The All Writs Act is an extraordinary writ, rarely issued by a federal court. An order under the Act can only, under settled principles, be issued by a federal court if issuance is "necessary and in aid of the federal court’s jurisdiction." AOL is appealing the order under the All Writs Act at this time.

V. CONCLUSION

New class action statutes brought to court under the provisions of CAFA will likely provide grist for the judicial mill as the new Act’s ambiguities are explored. CAFA’s provisions are likely to place even greater demands on the already overworked federal judiciary to ensure complex litigation is conducted fairly.

Richard B. McNamara, of Wiggin & Nourie, frequently handles complex litigation, including class actions and multi-district litigation. He is Vice President of the New Hampshire Bar Association; however, this article reflects only his own opinions and does not express official positions of the NHBA Board of Governors, its officers, or the Association staff.

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