The Sixth Circuit recently limited defendants’ ability to craft settlements that disproportionately favor the class representatives.  Vassalle v. Midland Funding LLC, — F.3d –, 2013 WL 673517 (6th Cir. Feb. 26, 2013).  Though the court did not pass on the ubiquitous incentive award, its skepticism of “preferential treatment” for class representatives might cause district courts to think twice before rubber stamping those awards in the future.  And not only can “preferential treatment” make the settlement unfair and unreasonable, the Vassalle court found that it can also destroy the adequacy of representation.  

Vassalle involved three separate class actions challenging Midland Funding’s “robo-signing” of affidavits in debt-collection actions.  The affidavits stated that the signor had personal knowledge that the debtor owed Midland money.  But as it turns out, Midland employees signed between two and four hundred affidavits per day without actually having any personal knowledge of the debt.  The plaintiffs alleged that this practice violated the Fair Debt Collection Practices Act and various common-law torts.

After more than two years of motion practice, Midland and the plaintiffs—all three sets acting jointly—reached a settlement agreement.  The agreement was fairly standard: A $5.2 million common fund to benefit the class (equating to about $18 per claimant) and to cover attorney fees and administration, and injunctive relief requiring Midland to “create and implement procedures” to use proper affiants.  A retired federal judge would oversee that process for one year.  Applying the Sixth Circuit’s seven-part test, the district court concluded that those terms were fair and reasonable, and the Sixth Circuit held that it “did not abuse its discretion in its determination of any of the seven listed factors.”        

Digging deeper, however, uncovered the flaw.  In exchange for the fund and injunction, the agreement barred unnamed class members from using the affidavits’ alleged false nature in any lawsuit, whether it be a collection action or an action to vacate a judgment Midland obtained using a “robo-signed” affidavit.  Thus, after their roughly $18 payment to each class member who submitted a claim, Midland was free to use the false affidavits to collect—and exclude evidence of their falsity where they are the defendant—unnamed class members’ debts, which ranged from hundreds to thousands of dollars.  The named plaintiffs, on the other hand, ended in a much better position: Midland exonerated their debts.  Relying on early 1980s precedent, the court held that this “disparity in relief [was] so great that . . . the district court abused its discretion in finding that the settlement was fair, reasonable, and adequate.”  Vassalle, 2013 WL 673517, at *4–5 (citing Williams v. Vukovich, 720 F.2d 909, 925 n.11 (6th Cir. 1983); Franks v. Kroger Co., 649 F.2d 1216, 1226 (6th Cir. 1981)).   

The plainly “perfunctory” relief offered to the rest of the class also influenced the court’s finding of unfairness.  Each unnamed class member got $18 and a weak injunction that did “not actually prohibit Midland from creating false affidavits.”  Id. at *5.  That, combined with the named plaintiffs’ receiving exoneration, was enough for the court to consider the settlement unfair.

The court declined “to pass on the appropriateness of incentive awards”—the agreement would have provided each named plaintiff with $2,000 for their participation—even though the court included those awards in the “two benefits from the settlement that the unnamed class members do not receive.”  Id.  Since the other factors buried the settlement without help from the incentive awards, they lived to fight another day.  That said, the court reiterated that “there may be circumstances where incentive awards are appropriate.”  Id. (citing Hadix v. Johnson, 322 F.3d 895, 897–98 (6th Cir. 2003)).  And incentive awards should be easier to justify.  By their very name and function, they should not accrue to unnamed class members.  Thus, Vassalle should not doom their use.  But it should cause parties to pause and consider the awards’ size and the class plaintiff’s contribution to the litigation; the more proportional, the better. 

Because the settlement forgave the class representatives’ debts, the court found that those representatives could not adequately represent the unnamed class members’ interests.  After all, why should the class representatives care about “vigorously prosecuting the unnamed class members’ most important interest—the ability to use the false affidavits against Midland to contest their debts in court”—since the named plaintiffs’ debts are exonerated?  Id. at *7.  The court took this one step further, finding that this dichotomy of interests was actually “antagonistic.”  “[T]he class representatives are interested in ensuring the settlement is approved so that their debts to Midland will be forgiven, while the unnamed class members are interested in ensuring the settlement is not approved so they can retain the right to challenge Midland’s false affidavits in court.”  Id.  Thus, the district court abused its discretion in certifying the settlement class.  It is worth noting that the Sixth Circuit also reversed the district court’s finding of superiority and adequate notice, though its reasoning was less related to the preferential-treatment issue.                 

So the moral of this story is that defendants should carefully consider any sweeteners given to the named plaintiffs.  They are, of course, the persons whom defendants must please the most.  But the candy must not be so sweet that it rots the core—that is, a court-approved and class-wide settlement.