By David Woodcock

The Securities Act | The Class Action Fairness Act | 
The Seventh Circuit — CAFA Trumps § 22 | Conclusion

There is a split in authority in the circuit courts over whether class actions filed under the Securities Act of 1933¹ (Securities Act) may be removed from state to federal court under the Class Action Fairness Act of 2005 (CAFA).² The Ninth Circuit has concluded that Securities Act class actions are not removable under CAFA, and the Seventh Circuit has reached the opposite conclusion. This circuit split could encourage the type of forum shopping Congress intended to eliminate and is especially important today because a large number of credit crisis-related class actions are filed in state courts in an attempt to avoid congressional efforts to reign in frivolous class action litigation. The decisions also highlight a potential loophole left open by the Securities Litigation Uniform Standards Act of 1998 (SLUSA).³ 

The Securities Act
The Securities Act imposes liability for omissions and misstatements in various securities filings and communications.⁴ Since its enactment, the Securities Act has conferred concurrent jurisdiction in state and federal courts. The relevant part, § 22(a) of the Securities Act provides: Except as provided in section 16(c), no case arising under this title and brought in any State court of competent jurisdiction shall be removed to any court of the United States.⁵ Through SLUSA, Congress amended § 22(a) to add the phrase"Except as provided in section 16(c)" before the non-removability language. Section 16(c)⁶ states that all "covered class actions" involving "covered securities" are removable and "shall be subject to subsection (b)."⁷ Section 16(b) eliminates covered class actions "based upon the statutory or common law of any State or subdivision."⁸ 

These amendments have been the source of much confusion. Congress amended § 22(a) to close a loophole left open after the passage of the Private Securities Litigation Reform Act of 1995 (PSLRA), which made sweeping changes to fraud claims under federal securities laws. "An unintended consequence of PSLRA's restrictions on securities litigation in federal court was to prompt ‘many would-be plaintiffs to file their claims in state court, based on state law, in order to circumvent the strong requirements established by the statute.'"⁹

Many courts have held that SLUSA's removal provision allows removal of "covered class actions" only where those actions involve "covered securities" and are "based upon the statutory or common law of any state."¹⁰ In general, these courts have determined that because Securities Act claims are based on federal law, they are not removable under SLUSA.¹¹ Several courts, however, have determined that SLUSA does allow the removal of Securities Act class actions because if  § 16(c) applied only to state law claims, "no claims arising under the [Securities Act] would be removable"¹² and the amendment to § 22(a) would be meaningless.¹³ The net effect of interpreting SLUSA's amendments in this manner is to allow the removal of all Securities Act class actions involving a "covered security" and to continue the concurrent jurisdiction scheme over individual actions under the Securities Act.¹⁴ A detailed examination of this issue is beyond the scope of this article, but as discussed further below, it is relevant to congressional attempts to federalize securities class actions.

The Class Action Fairness Act
Congressional efforts to concentrate securities fraud class actions in federal courts have largely been successful under the PSLRA and SLUSA. In CAFA, Congress extended its effort to federalize class action litigation to all sizeable class actions without regard to subject matter. Subject to certain exceptions,¹⁵ CAFA grants federal district courts original jurisdiction over class actions if:

• Diversity exists between at least one plaintiff and one defendant;
• The aggregate amount in controversy exceeds $5 million;
• There are at least 100 proposed class members; and
• The "primary defendants" are not states, state officials, or government entities against whom a federal district court " may be foreclosed from ordering relief."¹⁶ 

CAFA also provides that such class actions are removable to federal court,¹⁷ unless one of three exceptions applies.¹⁸ CAFA's exceptions state that the act "shall not apply to any class action that solely involves a claim:"

• Concerning a "covered security," meaning essentially that it is traded on a national exchange;
• That relates to the internal affairs or governance of a corporation and that arises under the laws of the state in which such corporation is incorporated; or
• That relates to the rights, duties (including fiduciary duties), and obligations relating to or created by or pursuant to any security.¹⁹ 

CAFA was enacted in part to "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."²⁰ A question remaining after the passage of CAFA is whether CAFA's broad class action removal provisions trump § 22(a).

The Ninth Circuit – CAFA Did Not Trump § 22
In Luther v. Countrywide Home Loans Servicing LP,²¹ a case arising from the collapse of the subprime loan markets, the Ninth Circuit held that § 22(a) prohibits removal of Securities Act class actions even if removal might otherwise meet CAFA’s requirements. In Luther, the plaintiff filed a Securities Act class action in California state court on behalf of all persons and entities who acquired mortgage pass-through certificates, which were not “covered securities,” from the defendant issuer. After the defendants removed the action to federal court under CAFA, the plaintiff filed a motion to remand under § 22(a). The district court granted the motion, holding that the specific bar against removal in the Securities Act trumped CAFA’s general grant of diversity in removal jurisdiction.

In a fairly short opinion, after noting the concurrent jurisdiction and non-removability provisions of the Securities Act, the Ninth Circuit held: “CAFA’s general grant of the right of removal of high dollar class actions does not trump § 22(a)’s specific bar to removal of cases arising under the [Securities Act].” The court relied on what it called a basic principle of statutory construction requiring that a statute dealing with a “narrow, precise and specific subject” not be “submerged by a later enacted statute covering a more generalized spectrum.” The court reasoned that the Securities Act is the more specific statute because it applies to the “narrow subject of securities cases” and that § 22(a) more precisely applies only to “claims arising under the [Securities Act].” By contrast, according to the court, CAFA applies to a “generalized spectrum” of class actions. Thus, the Ninth Circuit ruled that CAFA does not trump § 22(a).

The Seventh Circuit — CAFA Trumps § 22
In another case arising out of the collapse of the subprime loan market, the Seventh Circuit rejected Luther and concluded that § 22(a) does not prohibit removal where a case meets CAFA's requirements. In Katz v. Gerardi,²² the plaintiff filed a Securities Act class action in state court proposing to represent a class of persons who contributed real property to a real estate investment trust (REIT) in exchange for interests in the trust. After the trust merged into another partnership, the plaintiffs contended the merger violated the terms of the REIT units.

The defendants removed the suit to federal court under CAFA. There was no dispute the class action met CAFA's minimum diversity and amount in controversy requirements, but the plaintiff relied on Luther in seeking to remand. The defendants contended, among other things, that removal was proper because CAFA allows the removal of "any civil action" satisfying its requirements. The district court remanded the case, relying on Luther.

On appeal, the Seventh Circuit first recognized that § 22(a) and CAFA are incompatible. The court noted that usually the older law (the Securities Act) yields to the newer (CAFA), but the older law may control when it is more specific than a newer one. The Luther court had reasoned that § 22(a) covers only securities suits and is thus more specific than CAFA, which applies to all civil actions. Katz rejected this reasoning because the canon favoring preservation of specific statutes works only when one statute is a subset of the other, which was not the case here. It was unclear whether the Securities Act is more specific because it covers only securities law or whether CAFA is more specific because it deals only with nationwide class actions, so the court concluded the canon would not solve the problem.

The Seventh Circuit focused instead on CAFA's plain language. Section 1453(b)²³ provides for removal of class actions regardless of whether a defendant is a citizen of the forum state or whether all defendants consent to removal, but makes removal subject to three exceptions found in § 1453(d). Katz found the language clear: claims listed in § 1453(d) are not removable and other securities class actions are removable if they meet the general requirements (minimal diversity, 100 or more investors, $5 million in controversy). The Seventh Circuit conceded there was some incongruity in allowing removal of a Securities Act class action under CAFA, which creates a species of diversity jurisdiction, when the Securities Act confers federal question jurisdiction, but the court found the plain language clear. In short, all of CAFA's requirements must be met, but when they are and no exception applies, every kind of class action is subject to removal.²⁴

The State of Removal Under § 22(a)
Katz and Luther create a clear circuit split on the removability of Securities Act cases under CAFA. As of this writing, one district court in the Second Circuit has concluded that "CAFA overrides the Securities Act's anti-removal provision."²⁵ These rulings highlight a separate, but related, problem concerning the removal of Securities Act claims. As noted earlier, many courts have held that Securities Act class actions concerning "covered securities" are not removable under SLUSA because the claims are not "based upon the statutory or common law of any state."²⁶ Katz holds that Securities Act claims are removable under CAFA as long as they do not involve "covered securities." Thus, Securities Act claims involving securities traded on a national exchange are not removable under either CAFA or SLUSA.

For example, under Katz, a Securities Act class action concerning an issuer's mortgage loan pass through certificates may be removable under CAFA (because those instruments are not "covered securities") but the case would not be removable under SLUSA (because it does not involve "covered securities"). At the same time, a Securities Act class action concerning the same issuer's publicly traded stock would not be removable under CAFA (because it concerns "covered securities") and also would not be removable under SLUSA (because the claims are not "based upon the statutory or common law of any state").

It is difficult to imagine that this result was intended by Congress. The legislative history supporting CAFA suggests that Congress did not intend to disrupt the "balance" struck in SLUSA,²⁷ and indeed, the purpose of CAFA's exceptions was to "avoid disturbing in any way the federal vs. state court jurisdictional lines already drawn in the securities litigation class action context by the enactment of [SLUSA]."²⁸ At the same time, CAFA and SLUSA are supposed to present "an overall design to assure that the federal courts are available for all securities cases that have national impact (including those that involve securities traded on national exchanges), without impairing the ability of state courts to decide cases of chiefly local import."²⁹ The present state of the law — under which Securities Act class actions involving securities traded on a national exchange are not removable — suggests a flaw in that "overall design."

That such a situation exists, however, may lend support for the belief that Congress intended for Securities Act class actions to be removable under SLUSA, as some courts have held.³⁰ At minimum, it highlights the need for clarification on how courts are to construe SLUSA, CAFA, and the non-removability provision of the Securities Act.

Conclusion
The circuit split on how CAFA interacts with § 22(a) will undoubtedly lead to more forum shopping. Moreover, a plain reading of CAFA and § 22(a) has led some courts to conclude that Securities Act class actions involving securities traded on a national exchange are not removable under either statute. This is difficult to square with a statutory scheme ostensibly designed to federalize securities class actions that have a national impact. This could be a problem with how courts are interpreting the acts or how the acts are worded, but it could also be by design. Determining whether Congress intended this situation and whether the statutes require it, the result may await a ruling by the U.S. Supreme Court. For now, if the goal is to avoid federal court, then, where possible, a plaintiff should file a Securities Act class action in a state court located in the Ninth Circuit rather than the Seventh Circuit.

For more information about this and similar topics, please contact V&E lawyer David Woodcock. Visit our website to learn more about V&E's Class Actions and Multi-District Litigation practice. (Get a .pdf version of this article here.)

Footnotes
¹15 U.S.C. § 77a et. seq.
²Pub. L. No. 109-2, §§ 4(a) & 5(a), 119 Stat. 4, 9-13 (codified at 28 U.S.C. §§ 1332(d) & 1453(b)).
³Pub.L. No. 105-353, 112 Stat. 3227, codified as amended in part at 15 U.S.C. § 77p and 78bb(f) (Nov. 3, 1998).
⁴Pub. L. No. 73-22, chapter 38, § 22(a), 48 Stat. 74, 86-87 (codified at 15 U.S.C. § 77(v)(a)).
⁵15 U.S.C. § 77(v)(a) (hereinafter "§ 22(a)").
⁶Id. § 77p(f)(3) (defining "covered securities" as those that trade on a national securities exchange, are senior to a traded security, or were issued by a registered investment company).
⁷15 U.S.C. § 77(p)(c).
⁸Id. § 77(p)(b).
⁹Potter v. Janus Invest. Fund, 483 F. Supp. 2d 692, 695 (S.D. Ill. 2007).
¹⁰See Unschuld v. Tri-S Security Corp., No. 1:06-CV-02931-JEC, 2007 WL 2729011, *10 (N.D. Ga. Sept. 14, 2007); Nauheim v. Interpublic Group of Companies, Inc., No. 02-C-9211, 2003 WL 1888843, at *5 (N.D. Ill. Apr. 16, 2003); In re Tyco International, Ltd., 322 F. Supp. 2d 116, 121 (D.N.H. 2004); In re Waste Mgmt. Inc., Sec. Litig., 194 F. Supp. 2d 590 (S.D. Tex. 2002); but see Cal. Pub. Employees' Ret. Sys. v. WorldCom, Inc., 368 F.3d 86 (2d Cir. 2004) (Securities Act claims not generally removable under § 22(a), but may be removed if related to bankruptcy proceedings).
¹¹See Unschuld, 2007 WL 2729011, **10-11 (stating that the Supreme Court suggested as much in dicta in Kircher v. Putnam Funds Trust, 126 S.Ct. 2145, 2155 (2006)).
¹²Alkow v. TXU Corp., Nos. 3:02-CV-2738-K, 3:02-CV-2739-K, 2003 WL 21056750, at *2 (N.D. Tex. May 8, 2003); see Rovner v. Vonage Holdings Corp., No. 07-178, 2007 WL 446658, at *4 (D. N.J. Feb. 5, 2007); Brody v. Homestore, Inc., 240 F. Supp. 2d 1122, 1123 (C.D. Cal.2003); Lowinger v. Johnston, No. 3:05CV316-H, 2005 WL 2592229, at *4 (W.D.N.C. Oct. 13, 2005)).
¹³One recent district court decision found Securities Act class action removable but on a different theory: "After SLUSA, state courts were no longer ‘court[s] of competent jurisdiction' to hear covered class actions raising 1933 Act claims." Knox v. Agria Corp., No. 08 Civ. 7651(WHP), 2009 WL 185436 (S.D. N.Y. 2009).