The Class Action Fairness Act of 2005:
A Reasonable Law, But One That Should Not Be A Wedge For Wide Tort Reform

On Friday, February 18, President Bush signed the "Class Action Fairness Act of 2005" (CAFA). The law is the first victory in the President's campaign for reforming the civil justice system in the United States.

In this column, I will discuss both the substance and the symbolism of CAFA. The law itself is not so bad, I will argue. CAFA effects a few modest and reasonable changes into the law. They are probably not necessary, and they may have little effect, but nor are they harmful.

The problem with CAFA is that it may - but should not - become a wedge for a wider Republican tort reform effort. Wider "reform" will be harmful; Americans should reject it even if they support CAFA.

CAFA's First Major Reform: Closer Oversight of Class Action Attorneys' Fees

Ironically, CAFA is a so-called tort reform that does not actually change the law of torts. It is really a procedural reform, although as any good lawyer will tell you, procedure can be as important as substantive law.

CAFA has a number of provisions, but two stand out as the most controversial and significant:

CAFA requires federal judges who oversee class actions to scrutinize class action fees to prevent successful plaintiffs' lawyers from receiving excessive fees. For example, under CAFA, the court cannot approve a class action settlement that results in a net loss to class members after attorneys' fees are paid, unless it finds that there are significant nonmonetary benefits associated with the settlement.

In addition, under CAFA, courts must carefully scrutinize "coupon settlements"--that is, settlements where the class receives a coupon for some future service by the defendant, rather than cash. For coupon settlements, CAFA states, attorneys' fees must be limited to a percentage of the cash value of the coupons actually redeemed or, in the alternative, on the actual hours worked on the case by the lawyers.

The only problem with this reform is that it may be unnecessary. Critics of the tort system have been able to find anecdotal evidence of "negative value" recoveries by class action lawyers or coupon-based settlements that generated windfalls. But as Prof. Geoffrey Miller of NYU School of Law and Ted Eisenberg of Cornell Law School have demonstrated, overall, class action attorneys' fees are closely correlated with plaintiffs' recovery. It's not actually the case, empirically, that greedy lawyers are reaping excessive fees to their clients' detriment. So there may have been little, or no, problem here for this "reform" to solve.

Access to Federal Court for Defendants Before CAFA: Very Difficult

Second, CAFA makes it easier to for defendants to get in front of a federal judge if they are sued in a class action in state court.

Yet defendants - particularly out-of-state defendants -- feel they will be treated more fairly in federal court, where judges are appointed and life-tenured, than in state court, where judges often are elected, and thus must contemplate, or even run for, re-election while on the bench. For instance, if a New York corporation is claimed to have hurt Texas plaintiffs, the last place it may want to be is in Texas state court.

Until CAFA, the Federal Rules of Civil Procedure allowed a defendant to remove a state court case to federal court only if its home state was different from the plaintiff's (a requirement called "diversity"), and the amount in controversy was greater than $75,000.

Removal was made even more difficult by the fact that "diversity" was interpreted to mean "complete diversity" - that is, no defendant could share a home state with any plaintiff if the case was to be removed. So a Utah-based corporation sued by a huge class of plaintiffs that included even a single Utah resident was out of luck; it had to stay in Utah state court.

So suppose you were a clever class action plaintiffs' lawyer who really wanted to stay in state court. You would simply sue a big out-of-state defendant (say, an insurance company) and a small in-state defendant (say, a brokerage that sold at least one in-state plaintiff his policy).

Moreover, to make matters worse for defendants, the $75,000 threshold was judged plaintiff by plaintiff, not overall. So a class action that included thousands of $50,000 claims would have to stay in state court, and could not be removed to federal court.

CAFA's Second Major Reform: Easier Access to Federal Court for Defendants

CAFA changes these rules. First, "complete diversity" is no longer required. Now, a class action can be removed to federal court with the following kind of diversity: if less than 66% of the class members are citizens of a foreign state, and if none of the "significant" defendants are citizens of the state in which the class action was brought, diversity is sufficient for removal.

Second, the jurisdictional amount is no longer calculated plaintiff by plaintiff: Instead, if the total amount at issue is at least $5 million, and there are at least 100 class members, and there is diversity (as defined just above), the case can be removed to federal court.

This reform, too, may have been unnecessary. Some CAFA supporters make it seem as if without recourse to federal courts, fundamental injustices will occur. But what are they?

First, critics often complain that, through the mechanism of national class actions, judges and juries in one state are determining the rights of citizens of other states. This complaint is silly. In fact, though, very few state courts are certifying national class actions anymore. And in any event, why should litigating a national class action litigated in Texas with a jury of Texans be any fairer simply because it happens in federal court? Texas residents will still be determining a national issue.

Second, critics argue that even if plaintiffs restrict themselves to class actions on behalf of the citizens of only one state, state court trials are unfair to out-of-state defendants. One result of CAFA might be that more class actions involving just the citizens of one state will be transferred to federal court. This wouldn't provide any special protection for the class members (who are, after all, from the same state as the state judge hearing their case) but the defendant.

CAFA holds out the hope to a defendant like General Motors that if the plaintiff cannot locate a local defendant to add to the case, GM will be able to move intrastate class actions to federal court. This raises two questions. First, how often will an out-of-state defendant be able achieve minimum diversity. Second, should we care if they avoid state court?

I don't think that defendants will be able to achieve minimum diversity too often. But if they do, what will they gain? As mentioned earlier, many critics of the tort system think that state court judges can't be trusted. But the truth is most state court judges are pretty good. What distinguishes state judges from federal judges is not their honesty or competence, but the law under which they must decide class action questions.

Hidden behind all the maneuvering over CAFA is a bet that when defendants get to federal court in an intrastate class action, federal law will bar certification of the class--thus leading, in effect to its dismissal--more often than state law will. Again, this assumption is based on questionable assumptions. Certain states, such as New York, are more restrictive than the federal courts on the certification of class actions.

Even if federal courts certify class actions as often as state courts, supporters of CAFA believe that state court trials are unfair to out-of-state defendants. But are they really? The truth, most state court judges are pretty good - honest, competent and fair. What defendants really don't like, it turns out, is not state judges, but state procedural law.

Why CAFA Should Not Be a Wedge for Wider Reform

CAFA passed in the Senate on a vote of 72-26. Last year it was blocked by a filibuster in which the vote was 59-39. Although the law was not changed to any significant degree, 18 senators changed their vote.

Why? Apparently, Democrats are scared of being branded by Republicans being "soft on tort." Last year, many Democrats may have opposed CAFA simply because they wanted to support their friends in the trial bar, and because they saw no reason to give anything to the tort reformers. Since the last election, their political calculation has changed--the costs of blocking a relatively innocuous law and being branded a "tort reform opponent" are now too high.

CAFA was easy to support in the end because it was harmless. But it is only the first and least objectionable item on Bush's tort reform agenda.

The next issue that will be raised might national medical malpractice reform. And in this area, the reforms that were floated by the President during his campaign were far from harmless.

It seems that Senate Democrats chose not to pick a fight on CAFA in order to save their strength for the next, more significant tort reform fight. Let's hope that this tactical choice was the right one. It does have a cost: Now Republicans may cite CAFA's "success" or its bipartisan support as a reason to push for further, much more destructive "reform."