Posted on October 5, 2010 by Bret Cohen

Ninth Circuit Holds that Courts May Not Impose Limits on FACTA Class Certification Based on Disproportionality or the Potential for Huge Statutory Damages

This post was prepared by Neil O'Hanlon and Robert Hawk of Hogan Lovells' Los Angeles and Silicon Valley offices, respectively.

Bateman v. American Multi-Cinema, Inc.

 

Executive Summary

 

The Ninth Circuit Court of Appeals in a class action seeking a substantial award of statutory damages under the Fair and Accurate Credit Transactions Act (FACTA) reversed the denial of class certification, holding that the lower court had abused its discretion in finding that a class action was not a superior method for adjudicating claims.

 

Background

 

The plaintiff alleged that the defendant had violated FACTA by printing more than the last five digits of consumers' credit or debit card numbers on electronically printed receipts, and the plaintiff sought to recover on behalf of himself and other putative class members statutory damages ranging from $100 to $1,000 for each willful (knowing or reckless) violation of FACTA. The district court in Los Angeles denied class certification, finding that a class action was not the superior method of litigating the case on three grounds: (1) the disproportionality between the potential liability and the actual harm suffered, (2) the enormity of the potential damages (ranging from $29,000,000 to $290,000,000), and (3) the defendant's good faith compliance with FACTA requirements within a few weeks following the filing of the lawsuit.

 

Ninth Circuit's Decision

 

In determining that the district court had abused its discretion in denying class certification, the Ninth Circuit noted that since at least 1972 many courts had denied class certification for "proportionality" reasons, on the basis that a class action was not a superior method of adjudicating claims when the defendant's potential liability would be completely out of proportion to any harm suffered by the plaintiff. The opinion noted that this reasoning has prevailed in the vast majority of district courts within the Ninth Circuit in cases where plaintiffs sought to certify classes in FACTA lawsuits.

 

The Ninth Circuit distinguished contrary authority by examining congressional intent in enacting the statutory damages provision in FACTA. In particular, it determined that the statute clearly provided for an award of statutory damages upon proof of a willful violation, without any cap on such damages in the case of class actions. The Ninth Circuit presumed that statutory damages serve a compensatory function, noting that FACTA also authorized an award of punitive damages in addition to any actual or statutory damages. Apart from compensating victims, statutory damages were also found to serve as a deterrent. Most importantly, the Court found that Congress had determined that the range of $100 to $1,000 per violation was appropriate compensation, and that a district court had no discretion to depart from the specified range. In tying the hands of the district court, the Ninth Circuit noted that although Congress had amended FACTA in other respects, it did nothing to limit the availability of class relief or the amount of aggregate damages. Furthermore, the Court noted that if district courts were permitted in their discretion to decide whether a potential award would be so disproportionate to the actual harm that a class action would not be the superior method of adjudication, such "unguided discretion" would result in non-uniform decisions about class certification.

 

Having disposed of the disproportionality argument, the Ninth Circuit made quick work of the district court's other two grounds for denying class certification. It concluded that although certification might result in an enormous potential liability for defendant, with the consequent pressure to settle and avoid the risk of potentially ruinous liability, this factor could not be properly considered in determining whether to certify a class in a FACTA action, in the absence of any supporting congressional intent. Furthermore, the Ninth Circuit dismissed the argument against certification that the defendant had quickly complied with the requirements of FACTA after being sued, since Congress did not include any safe harbor or otherwise limit damages on account of belated compliance.

 

Conclusion

 

District courts in the Ninth Circuit will no longer be able to deny class certification in FACTA suits on the basis of disproportionality between potential liability and actual harm, or because of the enormity of potential damages. Instead of having the flexibility to consider factors which many courts have determined to be appropriate when deciding whether a class action was a superior method of litigating the case, they will instead have to be guided by what the Ninth Circuit found to be clear congressional intent that the specified statutory damages are what they are and that class actions seeking their recovery are permitted. Since Congress did not impose any limits on class certification based on disproportionality or the potential for huge damages, neither should the courts, according to the opinion. While the Ninth Circuit noted that other factors need to be considered in connection with class certification, including whether a showing of "ruinous liability" would warrant denial of class certification in a FACTA or similar action, defendants have lost a powerful weapon, based on principles of fairness, that they previously could employ (and often did, with success) in resisting class certification. Furthermore, defendants in non-FACTA class actions involving statutory damages prescribed by Congress (without any cap and without any indication of judicial discretion) may be hampered in their ability to argue that a class action is not a superior method for adjudicating such claims.
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Posted on May 28, 2010 by Timothy Tobin

FTC Red Flags Rule Enforcement Delayed Again (and New Legal Challenge)

The FTC announced today that it is delaying enforcement of its FACTA Red Flags Rule yet again, this time through December 31, 2010. This is the fifth time the FTC has delayed enforcement of its beleaguered red flag rule, which it originally had planned to enforce beginning November 1, 2008. This latest delay, just like the previous one, comes at the request of members of Congress who plan to amend the FACTA red flag provisions to narrow the scope of the entities that are covered. On May 25, 2010, members of Congress introduced S. 3416, which would exclude health care, accounting and law practices with fewer than 20 employees as well as certain other small businesses. 

 

 

The further delay comes as FTC Chairman Leibowitz acknowledges the agency’s Rule’s shortcomings: “Congress needs to fix the unintended consequences of the legislation establishing the Red Flags Rule – and to fix this problem quickly.”

As previously covered in the Chronicle, the last delay occurred on October 30, 2009 when the FTC announced it would not begin enforcing the rule until June 1, 2010. That delay followed U.S. District Court for the District of Columbia's ruling that the Red Flags Rule does not apply to lawyers (for analysis of that decision, click here). It also followed the House of Representatives' unanimous passage in late October of HR 3763, which proposes to amend FCRA to exempt certain small businesses from the Red Flags Rule. Subsequently, in November 2009, the American Institute of Certified Public Accountants (AICPA) filed a lawsuit against the FTC challenging the applicability of the Red Flag Rule to Certified Public Accountants. 

Now the Red Flag Rule is facing a new legal challenge. On May 21, 2010, the American Medical Association (AMA), the American Osteopathic Association and the Medical Society of the District of Columbia filed a lawsuit against the FTC in the U.S. District Court for the District of Columbia challenging the Red Flag Rule and citing the court’s earlier decision regarding the applicability of the Rule to lawyers. In the latest lawsuit, these medical organizations argue that the Rule, which is applicable to financial institutions and creditors, unjustifiably "treats physician practices like banks, credit card companies and mortgage lenders."

 
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Posted on December 7, 2009 by Bret Cohen

District Court Explains Ruling that Red Flags Rule Doesn't Apply to Lawyers, Implies Limitation of Applicability to Banking, Lending, & Finance Sectors

On December 1, Judge Reggie Walton of the U.S. District Court for the District of Columbia issued a memorandum opinion in a lawsuit by the American Bar Association against the Federal Trade Commission, explaining his October 29 ruling from the bench that the FTC's Red Flags Rule does not apply to lawyers.  Holding that "[e]ven a cursory review of the language of [the Fair and Accurate Transactions Act (FACT Act), through which Congress authorized the creation of the Red Flags Rule, and other legislation defining relevant terms] and the purposes underlying their enactment leads the Court to the conclusion that it was not 'the unambiguously expressed intent of Congress' to bring attorneys within the purview of the FACT Act and thus subject them to regulation by the Commission's Red Flags Rule," Judge Walton rejected almost every argument put forth by the FTC and indicated that the court would similarly condemn any FTC attempt to apply the Rule to other professionals outside of the banking, lending, and financial sectors who bill periodically for services previously rendered.

Specifically, Judge Walton rejected the Rule's applicability to lawyers under both prongs of the Chevron test regarding judicial deference to agency interpretation, finding that no evidence indicated that Congress intended that rules promulgated under the FACT Act would apply to lawyers, but even if Congressional intent could be considered ambiguous, that the FTC's interpretation of the FACT Act and its resulting application of the Rule to lawyers was unreasonable and therefore undeserving of deference.

In determining that Congress did not intend that the Rule would apply to lawyers, Walton first examined the language and purpose of the FACT Act and concluded that there was nothing in the legislative or administrative record where either Congress or the FTC made any factual findings that there was any problem of identity theft associated with the legal profession to warrant application of the Rule to attorneys.  He found that the terminology in the statute -- which authorizes the FTC to implement regulations to protect against identity theft and speaks in terms of "financial institutions," "creditors," "credit applications," "appraisal reports," and theft with respect to "account holders at, or customers of" relevant entities -- implied that the FACT Act was created to apply to entities involved in banking, lending, or financial related business, and concluded that the FACT Act was created not to eliminate all types of identity theft, but rather identity theft specific to the credit industry.  He noted that attorneys do not maintain credit or debit accounts, and provide services to "clients" rather than "deposit account holders" or "consumers."

Citing authority that the "hallmark of credit" is the right of one party to make deferred payment, Walton specifically objected to the classification of attorneys as "creditors" given that they do not grant any right to any debtor to incur and defer payment of debts and do not regularly extend, renew, or continue credit (or arrange for the extension, renewal, or continuation of credit).  In passages that will assuredly be cited by other professional organizations contesting the applicability of the Rule, Walton declined to adopt the FTC's position that "the period of time between when a service is provided to when . . . a client [receives an invoice] for the service and the invoice is paid, amounts to a period during which credit was extended if there is any interval of time between the providing of the service and the payment of the invoice."  Instead, he remarked that "[i]nvoicing clients for services previously rendered, instead of demanding payment when service is provided is more likely an outgrowth of practicality and necessity, rather than an attempt to provide clients credit."

Despite concluding that Congress did not intend lawyers to be governed by rules promulgated under the FACT Act, Walton, "to make it absolutely clear that the Commission . . . acted beyond its authority," held that the FTC's conclusion of applicability the Red Flags Rule to lawyers was not even a permissible construction of the statute.  Among the deficiencies in the interpretation, Walton noted that it would be "unreasonable" to expect attorneys to bill for services other than periodically, criticized the FTC's classification of a one-month billing cycle as being determinative of who constitutes a creditor as "completely arbitrary" and "seem[ingly] plucked out of thin air," and stated that the FTC had not provided any legislative, regulatory, or other evidentiary findings that would support a conclusion that identity theft in the attorney-client context was a problem.  He also held that there were procedural deficiencies in the rulemaking process itself, given that the FTC did not provide any indication that the definition of "creditor" was to include attorneys who invoice their clients until almost a year and a half after the final Rule was released.

Finally, Walton cited prudential concerns specific to the legal profession in declining to apply the Rule to lawyers.  He accepted the ABA's arguments that state-level authorities, and not the federal government, have historically regulated the conduct of attorneys, and he declined to infer the Congress would do so in the absence of specific language indicating its intent to do so.  He also discussed how application of the Rule would create barriers for attorneys to build the level of trust necessary for clients to feel that they can openly communicate with their attorneys, given that questions by an attorney at the onset of the relationship designed to confirm that a client is who he or she purports to be could be construed by as a challenge to the client's integrity and undercut the ability to develop a relationship of trust.

Overall, this was a resounding defeat in the FTC's effort to broadly apply the Red Flags Rule to any individual or entity who renders services on a deferred payment basis.  As a result of the ruling, on October 30 the FTC officially delayed enforcement of the Rule for a fourth time, this time until June 1, 2010.  In the meanwhile, it faces a lawsuit from the American Institute of Certified Public Accountants that the Rule does not apply to accountants, and given Walton's language limiting his interpretation of the Rule as applying only to "banking, lending, or financial related business," it is hard to see how that litigation would not be successful.  In addition, the FTC's stated scope of applicability of the Rule has been widely decried by other large professional organizations such as the American Medical Association, and this ruling would seem to settle many of those potential conflicts as well.  Still, the FTC has not yet announced its enforcement strategy since this decision, and businesses still unsure regarding whether the Rule will apply to them should contact legal counsel for guidance.
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Posted on October 30, 2009 by Timothy Tobin

FTC Delays Enforcement of Red Flags Rule for Fourth Time

The Federal Trade Commission (FTC) announced today that it is delaying enforcement of its FACTA Red Flags Rule until June 1, 2010 “[a]t the request of Congress.”  This is the fourth time the FTC has delayed the controversial red flags rule and it follows shortly on the heels of the U.S. District Court for the District of Columbia's ruling that the Red Flags Rule does not apply to lawyers.  It also follows the House of Representatives' unanimous passage last week of HR 3763, which proposes to amend FCRA to exempt certain small businesses from the Red Flags Rule.  The FTC's Red Flags Rule has been marred by confusion and uncertainty since it was proposed in July 2006.

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Posted on August 27, 2009 by Timothy Tobin

Hogan & Hartson Prepares Guidance on Business Compliance with FTC Identity Theft Red Flags Rule

Businesses may be facing their last chance to comply with the FTC identity theft Red Flags Rule as the compliance deadline was extended over the Summer to November 1, 2009. On July 29, 2009, the Federal Trade Commission (“FTC”) announced that it will delay enforcement of its identity theft “Red Flags Rule”until November 1, 2009. This is the third time the FTC has delayed the enforcement date of the Red Flags Rule and each time the rationale has been largely the same – concern that some companies were “uncertain” or “not aware” that they were subject to the Rule (the prior delayed enforcement dates were May 1, 2009 and August 1, 2009). The latest announcement was accompanied by further FTC commitments to educate businesses about compliance with the Red Flags Rule. Given the confusion surrounding the Rule and its broad scope, companies that have not yet done so should carefully assess whether the Red Flags Rule applies to them and if so, develop an appropriate program.  Hogan & Hartson's guidance on this latest Red Flags development is attached here.

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