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Goldberg v. Bank of America, N.A.

United States Court of Appeals, Seventh Circuit

January 23, 2017

Margaret Richer Goldberg, as Trustee under the Seymour Richek Revocable Trust, on behalf of a class, Plain tiff-Appellant,
v.
Bank of America, N.A., and LaSalle Bank, N.A., Defendants-Appellees.

          Argued January 17, 2012

         Appeal from the United States District Court for the Northern District of Illinois, Eastern Division. No. 10 C 6779 - Robert M. Dow, Jr., Judge.

          Before Flaum, Easterbrook, and Hamilton, Circuit Judges [*]

          PER CURIAM.

         LaSalle Bank offered custodial accounts that clients used to invest in securities. If an account had a cash balance at the end of a day, the cash would be invested in ("swept" into) a mutual fund from a list that the client chose. LaSalle Bank would sell the mutual fund shares automatically when the customer needed the money to make other investments or wanted to withdraw cash. Stephen Richek, as trustee under the Seymour Richek Revocable Trust, opened a custodial account with a sweeps feature. (The current trustee is Margaret Richek Goldberg; for the sake of continuity we continue to refer to the investor and plaintiff as Richek.) Richek was satisfied with LaSalle's services until it was acquired by Bank of America. After the acquisition, Bank of America notified the clients that a particular fee was being eliminated. Richek, who had not known about the fee, then sued in state court, contending that LaSalle had broken its contract (which had a schedule that did not mention this fee) and violated its fiduciary duties. Richek proposed to represent a class of all customers who had custodial accounts at LaSalle. (Because LaSalle became a subsidiary of Bank of America, and now operates under its name, we refer from now on to "the Bank, " which covers both institutions.)

         The Bank removed the suit to federal court, relying on the Securities Litigation Uniform Standards Act of 1998 (SLUSA or the Litigation Act), 15 U.S.C. §78bb(f). (Section 78bb is part of the Securities Exchange Act of 1934. The Litigation Act added similar language to the Securities Act of 1933. See 15 U.S.C. §77p(b). The Bank is not an issuer or underwriter covered by the 1933 Act, so we refer to §78bb(f).) SLUSA authorizes removal of any "covered class action" in which the plaintiff alleges "a misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security" (§78bb(f)(1)(A)). The statute also requires such state-law claims to be dismissed. The district court held that Richek's suit fits the standards for both removal and dismissal and entered judgment in the Bank's favor. 2011 U.S. Dist. Lexis 86105 (N.D. Ill. Aug. 4, 2011).

         According to the complaint, some mutual funds paid the Bank a fee based on the balances it transferred, and the Bank did not deposit these fees in the custodial accounts or notify customers that it was retaining them. The Bank's retention of these payments is economically equivalent to a secret fee collected from the accounts, because they contained less money than they would have had the Bank credited them with the fees paid by the mutual funds-fees derived from the custodial accounts themselves. Richek contends that the Bank thus kept for its own benefit fees exceeding those in the contractual schedule, without disclosure to its customers.

         Richek's claim depends on the omission of a material fact-that some mutual funds paid, and the Bank kept, fees extracted from the "swept" balances. He concedes that his suit is a "covered class action" (the class has more than 50 members; see §78bb(f)(5)(B)(i)(I)) and that each of the mutual funds is a "covered security" (see §78bb(f)(5)(E)). The Bank's omission was in connection with a purchase or sale of a "covered security". See Merrill Lynch, Pierce, Fenner & Smith Inc. v. Dabit, 547 U.S. 71 (2006). Chadbourne & Parke LLP v. Twice, 134 S.Ct. 1053 (2014), does not affect this conclusion, because customers were dealing directly with covered investment vehicles. (Twice holds that the Litigation Act does not apply when the customer invests in an asset that does not consist of, or contain, covered securities.) Because "[n]o covered class action based upon the statutory or common law of any State or subdivision thereof may be maintained in any State or Federal court by any private party" (§78bb(f)(1)) when these conditions have been met, the district court's decision is unexceptionable.

         According to Richek, the Bank's omission is outside the scope of the Litigation Act because it does not involve the price, quality, or suitability of any security. But the Litigation Act does not say what kind of connection must exist between the false statement or omission and the purchase or sale of a security; the statute asks only whether the complaint alleges "a misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security". Richek's complaint alleged a material omission in connection with sweeps to mutual funds that are covered securities; no more is needed.

         Apparently Richek believes that only statements (or omissions) about price, quality, or suitability are covered by the federal securities laws, and that only state-law claims that overlap winning securities claims are affected by the Litigation Act. This is doubly wrong. First, Dabit holds that claims that arise from securities transactions are covered whether or not the private party could recover damages under federal law. (In Dabit itself no private right of action for damages was possible, yet the Court held the claim covered and preempted.) Second, the Securities Exchange Act of 1934 forbids material misrepresentations and omissions in connection with securities transactions whether or not the misrepresentation or omission concerns the price, quality, or suitability of the security. See, e.g., SEC v. Zandford, 535 U.S. 813 (2002); United States v. Naftalin, 441 U.S. 768 (1979). Thus Richek may have had a good claim under federal securities law. But he chose not to pursue it, and SLUSA prevents him from using a state-law theory instead.

         We said earlier that Richek concedes that his claim rests on a material omission and that the mutual funds are covered securities. He does not concede that the omission was "in connection with" the purchase or sale of a covered security. This branch of his argument rests on Gavin v. AT&T Corp., 464 F.3d 634 (7th Cir. 2006). We reject Richek's contention for the reasons given in Holtz v. JPMorgan Chase Bank, N.A., No. 13-2609 (7th Cir. Jan. 23, 2017), slip op. 9-11.

         Richek also maintains that his action rests on state contract law and state fiduciary law, not securities law. This line of argument, too, is addressed and rejected in Holtz, which holds that if a claim could be pursued under federal securities law, then it is covered by the Litigation Act even if it also could be pursued under state contract or fiduciary law. A claim that a fiduciary that trades in securities for a customer's account has taken secret side payments is well inside the bounds of securities law. See Holtz, slip op. 4-9.

         Affirmed

          Flaum, Circuit Judge, concurring.

         I agree that the Securities Litigation Uniform Standards Act of 1998 ("SLUSA"), 15 U.S.C. § 78bb(f), warranted removal and dismissal of Stephen Richek's lawsuit. The challenge presented by this appeal requires addressing the scope of SLUSA's "misrepresentation or omission of a material fact" prohibition.

         Stephen Richek, as trustee under the Seymour Richek Revocable Trust, entered into an agreement with LaSalle National Bank, under which LaSalle would open a custodian account for the Trust to invest in securities.[1] The parties agreed to a fee schedule that required LaSalle to notify Richek of any increases. As part of maintaining Richek's custodian account, LaSalle would invest ("sweep") any cash balances at the end of the day into a mutual fund Richek had selected from a list provided by LaSalle. Eventually, Richek learned that LaSalle, unbeknownst to him, had been accepting reinvestment ("sweep") fees from the mutual funds based on the average daily invested balance LaSalle had swept from his custodian account. Each fee was unique to the particular mutual fund.

         Richek sued the Bank[2] in Illinois state court on behalf of all customers with custodian accounts, alleging that the Bank had (1) violated its fiduciary duties and (2) breached the underlying contract. The Bank removed the lawsuit to federal court pursuant to SLUSA and 28 U.S.C § 1332(d)(2). Richek subsequently amended his complaint, and the district court dismissed that amended complaint under SLUSA, entering judgment for the Bank. This appeal followed.

         SLUSA provides, in relevant part:

No covered class action based upon the statutory or common law of any State or subdivision thereof may be maintained in any State or Federal court by any private party alleging-
(A) A misrepresentation or omission of a material fact in connection with the purchase or sale of a covered security.

15 U.S.C. § 78bb(f)(1). There is no dispute that Richek's class action qualified as a "covered class action" under the statute. Instead, the issue is whether Richek alleged "a misrepresentation or omission of a material fact."[3]

         Brown v. Calamos, 664 F.3d 123 (7th Cir. 2011), is instructive. There, a plaintiff shareholder sued a closed-end investment fund alleging that the fund had breached its fiduciary duty by redeeming a particular stock, at terms unfavorable to the common shareholders, in an effort to remain in the good graces of the investment banks and brokerage firms facing lawsuits stemming from the stock's value after the 2008 financial crisis. Id. at 126. We concluded, despite the complaint's language to the contrary, [4] that the complaint "implicitly" alleged a mate- rial misrepresentation or omission: The fund had failed to disclose the conflict of interest created by its broader concerns for the fund family's[5] long-term wellbeing. Id. at 127. Without addressing the complaint's unjust enrichment claim, we affirmed the district court's dismissal of the complaint under SLUSA. Id. at 131.

         In doing so, we considered three approaches to dismissing complaints under SLUSA: (1) the Sixth Circuit's "literalist" approach, where the court asks simply whether the complaint can reasonably be interpreted as alleging a material misrepresentation or omission, see Atkinson v. Morgan Asset Mgmt., Inc., 658 F.3d 549, 554-55 (6th Cir. 2011); (2) the Third Circuit's "looser" approach, where the court asks whether proof of a material misrepresentation or omission is inessential (an "extraneous detail" that does not require dismissal) or essential (either a necessary element of the cause of action or otherwise critical to a plaintiff's success in the case, warranting dismissal), see LaSala v. Bordier et Cie, 519 F.3d 121, 141 (3d Cir. 2008) (citing Rowinski v. Salomon Smith Barney Inc., 398 F.3d 294 (3d Cir. 2005)); and (3) the Ninth Circuit's "intermediate" approach, where the court dismisses preempted suits without prejudice, permitting plaintiffs to file complaints devoid of any prohibited allegations, see Stoody-Broser v. Bank of America, 442 F.App'x 247, 248 (9th Cir. 2011).

         We have expressed concern with the Ninth Circuit's approach, cautioning, "No longer in American law do complaints strictly control the scope of litigation." Brown, 664 F.3d at 127. A plaintiff who removes SLUSA-triggering allegations in an attempt to avoid dismissal may simply "reinsert" them later upon returning to state court. Id. It is an open question in this Circuit whether this risk of reinsertion warrants a court's looking beyond the amended complaint to the original pleading.[6] Doing so may leave the court's analysis vulnerable to hindsight bias, but may also aid in guarding against artful amendments. Richek's complaint history illustrates this tension. In his original complaint in state court, Richek's fiduciary duty claim alleged,

Defendants breached their fiduciary duties of loyalty, care and candor when they steered plaintiff and members of the Class to investment vehicles that had agreed to pay a percentage fee to defendants from, and based on, reinvestments made by Custodian Accounts.

(emphasis added). This claim is nearly identical to the fiduciary duty claim dismissed pursuant to SLUSA in Holtz v. JPMorgan Chase Bank, N.A., No. 13-2609 (7th Cir. Jan. 23, 2017), slip. op. 1-2, where the plaintiff alleged that J.R Morgan Chase had steered its employees to invest client money in the bank's own mutual funds, despite higher fees or lower returns. As we noted, claims alleging that "one party to a contract concealed] the fact it planned all along to favor its own interests ... is a staple of federal securities law." Id. at 6-7. Here, upon removal to federal court, Richek amended his complaint to among, other things, omit the "steered" language. This amendment, however, does not alleviate the concerns under SLUSA: "[O]nce the case shorn of its fraud allegations resumes in the state court, the plaintiff-who must have thought the allegations added something to his case, as why else had he made them?-may be sorely tempted to reintroduce them, and maybe the state court will allow him to do so. And then SLUSA's goal of preventing state-court end runs around limitations that the Private Securities Litigation Reform Act had placed on federal suits for securities fraud would be thwarted." Brown, 664 F.3d at 128. One must then turn to Richek's amended complaint, and to the two remaining approaches to dismissals under SLUSA, with this "reinsertion" risk in mind.

         As in Brown, Richek's fiduciary duty claim triggered SLUSA preemption under both the Sixth Circuit's "literalist" approach and the Third Circuit's "looser" approach. In his amended complaint, he claims,

Defendants breached their duty of candor to plaintiff and members of the Class when they failed to disclose that they were receiving daily cash re-investment (sweep) fees from investment vehicles into which cash ...

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