A recent decision by a New York federal district court upheld federal court jurisdiction under the Edge Act, 12 U.S.C. § 632 (the “Edge Act”), in a lawsuit brought by American International Group, Inc. (“AIG”) and several other insurers against Bank of America, Merrill Lynch and Countrywide Affiliates. The case involves AIG’s claim that defendants defrauded it into purchasing over $10 billion dollars of residential mortgage-backed securities (“RMBS”). Judge Barbara S. Jones of the Southern District of New York held that, despite the fact only a few of the hundreds of transactions in question involved international or territorial transactions, this was enough to create federal jurisdiction under the Edge Act. Am. Int’l Grp., Inc., v. Bank of Am. Corp., No. 11 Civ. 6212(BSJ), 2011 WL 5022716 (S.D.N.Y. Oct. 20, 2011).
The Edge Act
Section 632 was incorporated into the Edge Act of 1913 by the Banking Act of 1933. It provides federal courts with original jurisdiction in any case in which a national bank is a party, and that arises out of transactions involving international banking or other international or foreign financial operations. It expressly provides for removal, at any time prior to trial, of cases commenced in state court that meet its jurisdictional requirements. The statute states that a case arises under the laws of the United States if: (1) the case is civil in nature, (2) one of the parties is a corporation organized under the laws of the United States, and (3) the suit arises out of transactions involving international banking, or banking in a dependency or insular possession of the United States, or out of other international or foreign financial operations.
In the past fifteen years, decisions of the Southern District of New York have outlined a broad scope for federal jurisdiction under Section 632 in suits where the underlying transaction arises out of international or foreign banking or financial operations. See Thomas J. McCormack, Robert Sidorsky & Dorollo Nixon, Jr., Edge Act Enables National Banks to Invoke Federal Jurisdiction Over Suits Involving International Banking or Financial Operations, Banking L.J., November/December 2007, at 907. The courts have held that jurisdiction exists if any part of the suit arises out of transactions involving international or foreign banking, and can be based on non-banking international financial operations. Jurisdiction may also be upheld in cases based on state law causes of action and containing only an incidental connection to banking law, and even though the international or foreign banking activity was not central to the case.
The suit arose out of AIG’s alleged purchase of 349 residential mortgage-backed securities for which the defendants acted as underwriters, sponsors, depositors and loan originators. In August of 2011, AIG filed a complaint in New York state court, alleging defendants perpetrated a “massive fraud” when they knowingly misrepresented and concealed the true quality of hundreds of thousands of defective mortgages underlying the RMBS sold to AIG. AIG contended that the offering materials used to sell the residential mortgage-backed securities fraudulently misrepresented and concealed the actual credit quality of the mortgages by providing false quantitative data about the loans. The complaint alleged defendants encouraged borrowers to falsify loan applications, pressured property appraisers to inflate home values, and ignored obvious red flags in the underwriting process.
AIG claimed that, had it known the truth, it would not have invested over $28 billion in defendants’ residential mortgage-backed securities. The complaint alleges over $10 billion in losses in connection with these purchases, and seeks damages in that amount for fraudulent inducement, aiding and abetting fraudulent inducement, negligent misrepresentation, successor and vicarious liability, and violations of Sections 11, 12(a)(2), and Section 15 of the Securities Act of 1933.
After plaintiffs filed their complaint in New York state court, defendants removed the case to federal district court claiming federal jurisdiction existed pursuant to the Edge Act, as well as under 28 U.S.C. §§ 1334(b) and 1452 because the case was related to bankruptcy proceedings. Plaintiffs’ argument for jurisdiction under the Edge Act hinged on the fact that Bank of America is a national bank, organized under the laws of the United States, and plaintiffs’ claim concerned defendants’ mortgage lending practices in dependencies and insular possessions of the United States, which are specifically covered by the Edge Act. Defendants also pointed out that subsidiaries of foreign banks originated some of the mortgage loans included in the loan pools in question, and in some instances these banks issued or underwrote the RMBS plaintiffs purchased.
Following removal, plaintiffs filed a motion to remand to state court. The court denied the motion to remand, rejecting plaintiffs’ argument that the involvement of only a small number of mortgages in U.S. territories created a connection to U.S. territories too tenuous to implicate the Edge Act.
The court first disagreed with plaintiffs’ argument that Edge Act jurisdiction is barred based on the well-pleaded complaint rule because the complaint, on its face, does not mention any loans originated in U.S. dependencies or insular possessions, or any other foreign banking transactions. It cited to Second Circuit case law for the proposition that Section 632 provides an explicit statutory exception to the well pleaded complaint rule. See Westmoreland Capital Corp. v. Findlay, 100 F.3d 263, 268-69 (2d Cir. 1996).
The court also held that, although plaintiffs’ complaint challenges the RMBS and not the underlying mortgage transactions which took place in U.S. territories, this distinction does not prevent the suit from implicating foreign banking. The opinion emphasized that the suit need only arise out of transactions “involving” international banking, and courts have held this involvement may be incidental. Additionally, because plaintiffs’ claims challenge the quality and value of the RMBS, their resolution will turn, at least in part, on whether the underlying mortgage loans complied with the underwriting standards described in defendants’ offering materials. Therefore, the claims do directly implicate the mortgage transactions.
Next, the court rejected the argument that there was no “banking in” a dependency or insular possession because there was no banking activity actually conducted in a U.S. territory. The judge agreed with defendants that lending on a property in a jurisdiction constitutes banking there, particularly in a case like this one in which, for at least two of the loans, the borrowers and their homes were both located in a U.S. territory. The court also disagreed that because only four of the 349 RMBS were located in U.S. territories, the case does not “arise out of” banking in the territorial U.S. The decision cited case law which held that only a small portion of the challenged transactions need to lie in a foreign state or territory in order to provide Edge Act jurisdiction. See Pinto v. Bank One Corp., No. 02 Civ.8477 NRB, 2003 WL 21297300, at *3 (S.D.N.Y. June 4, 2003).
Lastly, the court rejected plaintiffs’ argument that Bank of America was not a party to any of their claims on RMBS involving territorial U.S. mortgages, and therefore the Edge Act’s two-fold requirement of: (1) a transaction involving a national bank, and (2) a foreign transaction, was not met. The court was not convinced that the Edge Act requires a perfect match between the particular entity involved in the territorial transaction and the party against whom the claim is brought. It also held that because Bank of America was being sued as a successor to Countrywide with respect to its territorial loans, this creates a sufficient relationship between the national bank and the territorial banking. Because the court decided it had jurisdiction under the Edge Act, it declined to address whether jurisdiction was also proper under the “related to” doctrine.
Am. Int’l Grp., Inc. v. Bank of Am. Corp. is the most recent case in a line of decisions out of the Southern District of New York creating a more expansive scope for federal jurisdiction under the Edge Act, for national banks involved with international or foreign banking and financial operations. For national banks that are parties to litigation involving foreign transactions, the Edge Act is a useful tool where a bank believes its case would be appropriately resolved in federal court.