The United States Supreme Court just issued an opinion holding that state statutes that purport to limit a claimant’s ability to bring a class action do not govern proceedings in federal court, even in a diversity case.  Shady Grove Orthopedic Assoc., P.A. v. Allstate Ins. Co. began as claimant Shady Grove’s attempt to recover statutory interest from Allstate under New York law.  Shady Grove sued in federal court in Brooklyn, seeking class action status, arguing that Allstate routinely failed to pay interest on overdue benefits.

The District Court dismissed the action for lack of subject matter jurisdiction.  The court accepted Allstate’s argument that a New York statute that precluded a suit for the recovery of a “penalty” from proceeding as a class action controlled in a diversity suit.  The Second Circuit affirmed.  It found that there was no conflict between the New York statute and Federal Rule of Civil Procedure 23 because the statute governed the eligibility of a case for class treatment while Rule 23 only governed whether an eligible case would be certified.

A closely divided Supreme Court disagreed.

Justice Scalia, writing for the court, held that the determination of whether the class could proceed as a class action was governed solely by Rule 23.  New York had no power to govern federal court proceedings through its anti-class action statute.  The only real question was whether Rule 23 violates the Rules Enabling Act in this instance by altering the parties’ substantive rights.  It does not.  The class action procedure is merely a joinder rule that does not change the underlying substantive position of the case.  It rejected Allstate’s argument that the New York statute had created a substantive right to be free of class action’s in penalty cases.  Ultimately, the characterization of the state rule as substantive or procedural did not matter:

In sum, it is not the substantive or procedural nature or purpose of the affected state law that matters, but the substantive or procedural nature of the Federal Rule.  We have held…that the validity of a Federal Rule depends entirely upon whether it regulates procedure….If it does, it is authorized by [the Rules Enabling Act] and is valid in all jurisdictions regardless of its incidental effect upon state-created rights.

Justice Scalia acknowledged that the result of the opinion would produce forum shopping.  However, such forum shopping is merely the “inevitable…result of a uniform system of federal procedure.”

The dissenters, led by Justice Ginsburg, preferred to view the New York statute as regulating the remedy permitted for violating the statute, not an attempt to interfere with federal procedure.  By allowing a class action to proceed in federal court where it could not have been brought in state court, the majority had effectively amended a state statute: “The Court today approves Shady Grove’s attempt to transform a $500 case into a $5,000,000 award, although the State creating the right to recover has proscribed this alchemy.”

This opinion may well have profound effects on federal practice:

  • State restrictions on class actions will not govern federal diversity cases.  Attorneys contemplating removal under the Class Action Fairness Act must take this fact into account. 
  • State tort reform measures that are couched in terms of procedure, such as special joinder rules, may not be applied in federal diversity cases.
  • In arguing for the application of rules derived from state law, it may not be sufficient to argue that the rule is “substantive” in nature.  To displace a federal procedural rule it will be necessary to show that the rule violates the Rules Enabling Act.

At minimum, Shady Grove, substantially limits a state’s ability to restrict class actions. The opinion may have additional, far-ranging effects on the relationship of state and federal law.