Antitrust Law Daily Wrap Up, STATE UNFAIR TRADE PRACTICES—9thCir: Federal Law Precludes Class Action Under California Unfair Competition Law Concerning Variable Universal Life Insurance Charges, (Jan 3, 2013)

By Tobias J. Gillett, J.D., LLM.

The federal Securities Litigation Uniform Standards Act (SLUSA) precluded variable universal life insurance policy holders’ class action claim under the California Unfair Competition Law (UCL) concerning “cost of insurance” charges because the fraud they alleged coincided with the sale of securities, the U.S. Court of Appeals in Pasadena, California has ruled (Freeman Investments, L.P. v. Pacific Life Insurance Co., January 2, 2013, Kozinski, A.).

Pacific Life Insurance Company sells variable universal life insurance policies, under which policyholders allocate a portion of their premiums to investments, with the policyholder bearing the risk associated with the investments. Pacific charges a fee, dubbed a “cost of insurance” charge, that it collects by redeeming units of the policyholders’ accounts.

In the present litigation, holders of Pacific’s variable universal life insurance policies brought suit, asserting that “cost of insurance” has an established meaning in the insurance industry, and that, even though the policyholders assumed Pacific’s charges would be calculated in the manner accepted in the industry, Pacific’s charges significantly exceeded the amount that would ordinarily be assessed. The policyholders alleged that Pacific’s conduct constituted a violation of the UCL, as well as breach of contract and breach of the duty of good faith and fair dealing.

Pacific filed a motion to dismiss, which the district court granted as to all claims, finding that the SLUSA precluded class action claims such as those brought by the policyholders that alleged misrepresentation or omission in connection with certain securities transactions. The policyholders appealed.

The Court of Appeals began its discussion by explaining that the Securities Litigation Uniform Standards Act bars “(1) a covered class action (2) based on state law claims (3) alleging that defendant made a misrepresentation or omission or employed any manipulative or deceptive device (4) in connection with the purchase or sale of (5) a covered security.” The UCL, California Business and Professions Code §17200, prohibits unfair competition, defined as “any unlawful, unfair or fraudulent business act or practice.” The court concluded that the policyholders’ claim would not “survive SLUSA unless the charged conduct didn’t occur ‘in connection with’ the purchase or sale of a covered security.”

The policyholders argued that the SLUSA would only bar their claim if they “bought or sold a security in reliance on misrepresentations as to its value.” As the fraud they alleged occurred only later, when Pacific deducted excessive charges, the SLUSA would not stand in their way, they contended.

The court disagreed, citing the Supreme Court’s 2006 opinion in Merrill Lynch, Pierce, Fenner & Smith Inc. v. Dabit (547 U.S. 71), which found that “it is enough that the fraud alleged ‘coincide’ with a securities transaction—whether by the plaintiff or someone else.” As Pacific sold securities from customers’ accounts in order to generate the funds for the “cost of insurance” charge, the alleged fraud “coincided” with a securities transaction. The court also noted the Supreme Court’s admonition that the SLUSA “in connection with” language should be construed broadly. Therefore, the court held that the SLUSA precluded the policyholders’ class action claims.

However, the court determined that this bar did not justify dismissing the policyholders’ claims with prejudice to the extent that they brought their claims on an individual basis rather than as a class action, and granted them leave to amend their complaint to allege individual claims.

Moreover, the court found that the SLUSA did not preclude the policyholders’ class action claims for breach of contract and breach of the duty of good faith and fair dealing, as those claims concerned interpretation of the contractual term “cost of insurance” rather than a claim based on fraud or misrepresentation.

The case is No. 09-55513.

Richard Monroe Paul, III (Stueve Siegel Hanson LLP) for Freeman Investments L.P. James Christopher Martin (Reed Smith LLP) for Pacific Life Insurance Co.

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