On February 18, 2005, President Bush signed into law the Class Action Fairness Act of 2005 (“CAFA”). By its terms, CAFA applies only to actions commenced on or after the date of its enactment. In that connection, however, it makes a number of very substantial changes in class action practice. Chief among its effects:

• It dramatically expands federal diversity jurisdiction over a wide range of class actions. Look for many more class actions to wind up in federal court, a forum that is generally perceived to be less plaintiff-friendly and more willing to dispose of cases on motion prior to trial.
  
• It alters the rules governing removal and remand to make a broad range of class actions easier to remove to federal court and more difficult to remand. Nonetheless, given the nature of the new standards and their frequent use of undefined terms, look for vastly expanded motion practice surrounding dismissal or remand, perhaps often amounting to mini-trials.
  
• It imposes new rules on the settlement of class actions and, in particular, regulates coupon-based settlements. Perversely, for a measure generally designed to facilitate the defense of class actions, look for greater stumbling blocks to the settlement of cases, particularly those of marginal merit.

This Alert briefly discusses each of these principle features of CAFA.

Expansion Of Federal Diversity Jurisdiction

1. CAFA’s expansion of diversity jurisdiction does not apply to class actions with fewer than 100 class members or that solely involve certain securities-related or corporate governance claims. Aside from these exceptions and another of more limited import, CAFA generally gives federal courts original jurisdiction of any class action in which (a) the amount in controversy in the aggregate exceeds $5 million, exclusive of interest and costs, and (2) at least one defendant is a citizen of a different state than at least one member of the class. This radically affects existing diversity jurisdiction rules in several respects:

• It eliminates the rule that, for purposes of determining whether the amount-in-controversy requirement is met, only the claims of the named plaintiffs (as distinct from the absent class members) may be considered.
  
• It eliminates the further rule that, for purposes of determining whether the amount-in-controversy requirement is met, the amount of the class members’ respective claims may not be aggregated. Under the new rule, however small each individual claim may be, the federal court has jurisdiction if the claims in the aggregate exceed $5 million.
  
• It eliminates the requirement that there be complete diversity as between class representatives and defendants. Previously, if even a single class representative and defendant were citizens of the same state, diversity was destroyed. Under CAFA, to determine whether diversity jurisdiction exists, the court must examine the citizenship of all class members, not just class representatives. If even a single class member and defendant are citizens of different states, there is diversity jurisdiction.

Having thus established the general framework for a much broader scope of diversity jurisdiction for covered class actions, CAFA then creates a certain amount of “play” in the scheme depending upon the composition of the class and the characteristics of certain defendants.

Thus, in general, if one-third or fewer of all class members are citizens of the state where the action was originally filed, the federal court must exercise jurisdiction over the action. Conversely, the court may, but is not required to exercise jurisdiction if between one-third and two-thirds of class members are citizens of that state and the “primary defendants” are citizens of that state as well. In exercising this discretion, the court is required to consider the “totality of the circumstances,” including six particularly prescribed factors. Finally, the court must decline jurisdiction if either:

1. two-thirds or more of the class members are citizens of the state where the action was originally filed and the “primary defendants” are citizens of that state as well; or
   
2. more than two-thirds of class members are citizens of the state where the action was originally filed; at least one defendant from whom “significant relief” is sought and whose alleged conduct forms a “significant basis for the claims” lives in that state; “principal injuries” were suffered in that state; and no other class action has been filed by anyone in the prior three years asserting “the same or similar factual allegations against any of the defendants.”

The quoted words and phrases above are all undefined in CAFA, leaving plenty of room to fight about their application in particular cases. In addition, although the two-thirds/one-third distinction is simple in concept, the practical reality is that the citizenship distribution of a proposed class (of consumers, for example) may be far from obvious or undebatable, particularly if the plaintiff pleads creatively. To get at the issue in particular cases is likely to necessitate fairly wide-ranging discovery at the very outset of the litigation and a battle of experts. In these and other respects, the net effect of CAFA is to create what the military calls a “target-rich environment” for jurisdictional disputes.

Alteration of Rules Governing Removal And Remand

In tandem with broadening the diversity jurisdiction of the federal courts to hear such cases, CAFA also liberalizes the rules whereby defendants can force class actions into federal court and keep them there. Chief among these rule changes are the following:

• Whereas ordinarily all defendants must join in a notice of removal, CAFA provides that the covered class actions may be removed by any single defendant.
  
• Whereas, ordinarily, a defendant who is a citizen of the State in which the action is brought may not remove it based on diversity jurisdiction, CAFA imposes no such restriction on the removal of covered class actions.
  
• For covered class actions, CAFA eliminates the general prohibition on removing an action more than one year after its commencement. This effectively operates to permit removal at any time in the case, so long as the petition is filed within 30 days after it first may be ascertained that the case is removable.
  
• Whereas, ordinarily, there is no separate appellate review of an order granting or denying a motion to remand, CAFA not only permits such review as to covered class actions, but provides a highly expedited timetable in that regard.

Note that these removal provisions do not apply to the same three categories of class actions that are excepted from the broadened diversity jurisdiction provisions, but otherwise apply to all class actions even where the jurisdictional basis for removal is a federal question rather than diversity.

In short, it will now be much easier to yank interstate class actions out of state courts into the federal system, even if keeping them there may entail the heightened jurisdictional arm-wrestling discussed above.

Limitations On Class Action Settlements

CAFA creates a number of special limitations on the settlement of any class actions in federal court, not just those affected by the expanded diversity and removal rules. Chief among these:

• Defendants must serve notice of the settlement (including certain fairly extensive and sometimes problematic settlement-related documents) on a specified federal official and the “appropriate State official of each State in which a class member resides” (emphasis added), providing them a 90-day period in which to evaluate and object to the settlement. Unfortunately, the statute is materially unclear as to who the “appropriate State official” will be in particular cases. This is likely to lead to multiple redundant notifications, all of which is make-work in any event because the states did not seek this provision, are free to ignore the notifications that are sent pursuant to it and, for the most part, undoubtedly will.
  
• If defendants fail to give the requisite notice to the “appropriate” federal and State officials, class members are not bound by the settlement, even if they receive notice of the settlement and it is approved by the court and implemented. The harshness of this result is somewhat mitigated by its provision that class members remain bound even if the “appropriate State official” is someone other than the State Attorney General so long as notice is sent to the State Attorney General. Nonetheless, the provision creates a very substantial pitfall of the most technical sort.
  
• Finally, CAFA seeks to discourage the perceived evil of “coupon” settlements, primarily by requiring that any award of contingent attorney’s fees based on the coupon consideration must look to the value to class members of the coupons that are actually redeemed. Although data is hard to come by, it is generally considered that only a small fraction of coupons issued in most settlements are ever redeemed. In addition, CAFA gives the court discretion to require that a portion of the value of unclaimed coupons be distributed to one or more charitable or governmental organizations, as agreed by the parties.

While the notification requirements merely create a technical stumbling block to the efficient settlement of class actions, the restrictions on coupon settlements are likely to have a substantive effect. This will include discouraging abusive settlements. But it will also make more difficult the inexpensive settlement of marginal but still arguably meritorious cases. Whether this provides better justice or simply piles on costs to the process to the benefit of no one remains to be seen.

Contact Your Howard Rice Attorney.

This Alert is only a brief summary of some aspects of The Class Action Fairness Act of 2005 and does not necessarily address its application in specific circumstances. Please contact Dirk Schenkkan at dschenkkan@howardrice.com (415-399-3055) or your usual Howard Rice attorney to learn more about CAFA and how it may pertain to your particular circumstances.

Related Groups:

• Commercial Litigation

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Copyright © 2005 Howard Rice Nemerovski Canady Falk & Rabkin PC, Three Embarcadero Center, Seventh Floor, San Francisco, CA 94111.
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