Category: law firm

Non-Negotiable Arbitration Agreements May Be Required as a Condition of Employment

On February 15, 2023, the Ninth Circuit struck down AB 51, a California statute that imposed criminal and civil penalties against employers who required employees to enter into an arbitration agreement as a condition of employment, finding the statute to be an “unacceptable obstacle to the accomplishment and execution of the full purposes and objectives” of the Federal Arbitration Act (“FAA”).  Chamber of Commerce of the United States of America, et al. v. Bonta, et al., No. 20-15291 (9th Cir. 2023).

As discussed in our prior post and articles (link here), in August 2022 the Ninth Circuit withdrew its prior decision, which had upheld portions of AB 51, following the United States Supreme Court’s June 2022 decision in Viking River Cruises v. Moriana.

AB 51, embodied in California Labor Code §432.6 effective January 1, 2020, prohibited an employer from entering into a non-negotiable agreement that required the employee to waive “any right, forum, or procedure” for a violation of the Fair Employment and Housing Act or the California Labor Code, including “the right to file and pursue a civil action.”  Further, AB 51 imposed harsh penalties for employers who violated the statute, including a fine of up to $1,000 and up to six months’ imprisonment, as well as the potential for civil litigation by the State of California or by private individuals.  In an effort to avoid Supreme Court decisions striking down state laws that improperly targeted arbitration agreements, the California legislature also created the confusing outcome that potentially criminalized the formation of non-negotiable arbitration agreements, but permitted their enforcement once executed.

Noting that arbitration agreements by their very nature require parties to waive their rights to bring disputes in court, and crediting the plaintiffs’ evidence that the possible imposition of civil and criminal penalties deterred employers from attempting to enter into non-negotiable agreements with employees, the court affirmed the district court’s preliminary injunction in favor of several trade associations and business groups who sought to block the implementation of the statute.  Relying on principles of preemption and judicial precedent striking down similar state laws or judge-made rules that singled out executed arbitration agreements, the Court found AB 51 improperly “burden[s]” the formation of arbitration agreements in violation of the FAA.

Having written the previous 2-1 decision upholding AB 51, Judge Lucero now found himself dissenting.  Arguing that the majority “misconstrue[d] the jurisprudence” of the Supreme Court, the dissent claimed that arbitration was permissible only if consensual and that AB 51 only applied to conduct occurring prior to the formation of the contract and thus was not an obstacle to the objectives of the FAA.

Employers may require their California employees to sign non-negotiable arbitration agreements to obtain or maintain their employment.  Arbitration agreements may still be unenforceable however if they are procedurally and substantively unconscionable, if the agreement lacks mutual consent because a party was forced to sign by threats or physical coercion or “upon such grounds as exist at law or in equity for the revocation of any contract.”  Thus, employers should review their agreements to ensure they are in compliance with other California requirements, that the terms are not unfair or one-sided, and, the agreement presented is not unfair, surprising or oppressive.

Article By Sheryl L. Skibbe of Vedder Price

For more arbitration legal news, click here to visit the National Law Review.

© 2023 Vedder Price

Biden Administration Sets New Course on ESG Investing in Retirement Plans

In late 2022, the Department of Labor finalized a new rule titled “Prudence in Selecting Plan Investments and Exercising Shareholder Rights,” largely reversing Trump-era guidance that had strictly limited the ability of plan fiduciaries to consider “environmental, social, and governance” (ESG) factors in selecting retirement plan investments and generally discouraged the exercise of proxy voting. In short, the new rule allows a fiduciary to consider ESG factors in selecting investment options, provided that the selection serves the financial interests of the plan and its participants over an appropriate time horizon, and encourages fiduciaries to engage in proxy voting.

The final rule moves away from 2020 Trump-era rulemaking by allowing more leeway for fiduciaries to consider ESG factors in selecting investment options. Specifically, the rule states that a “fiduciary’s duty of prudence must be based on factors that the fiduciary reasonably determines are relevant to a risk and return analysis and that such factors may include the economic effects of climate change and other ESG considerations on the particular investment or investment course of action.” The rule makes clear, however, that there is no requirement to affirmatively consider ESG factors, effectively limiting its scope and effect and putting the onus on fiduciaries to determine whether they want to incorporate ESG factors into their assessments of competing investments.

Overview

  • Similar to the Trump-era guidance, there is no definition of “ESG” or an “ESG”-style fund. Debate continues over what kinds of funds can be considered ESG investments, especially in light of the fact that some companies in industries traditionally thought to be inconsistent with ESG conscious investing are now trying to attract ESG investors (e.g. industrials, energy).
  • Fiduciaries are not required to consider ESG factors in selecting investment options. However, the consideration of such factors is not a presumed violation of a fiduciary’s duty of loyalty or prudence. Unlike the prior rule, which suggested that consideration of ESG factors could only be considered if all other pecuniary factors between competing investments were equal (the “tiebreaker” approach), the new rule allows a fiduciary to consider potential financial benefits of ESG investing in all circumstances.
  • Plan fiduciaries may take into account participant preferences in constructing a fund lineup. Therefore, if participants express a desire for ESG investment options, then it may be reasonable for plan fiduciaries to add ESG funds or to consider ESG factors in crafting the fund lineup.
  • ESG-centric funds may be used as qualified default investments (QDIAs) within retirement plans, reversing the prior outright prohibition on use of such funds as QDIAs.
  • In some situations, fiduciaries may be required to exercise shareholder rights when required to protect participant interests. It is unclear whether the exercise of such rights is only limited to situations that have an economic impact on the plan, or applies to additional situations. The clarification suggests that the exercise of proxy voting is not disfavored as an inefficient use of fiduciaries’ time and resources, as the prior iteration of the rule suggested.

Effective Date and Challenges to the Regulation

The new rule became effective in January 2023, except for delayed applicability of proxy voting provisions. However, twenty five state attorneys general have joined a lawsuit in federal court in Texas that seeks to overturn the regulation. The court is in the Fifth Circuit, which historically has been hostile to past Department of Labor regulations (including Obama-era fiduciary rules overturned in 2018, though the ESG rule is less far-reaching than the fiduciary rule and may survive a challenge even in the Fifth Circuit). Congressional Republicans have also introduced a Congressional Review Act (CRA) review proposal to repeal the regulation that has gained the support of Joe Manchin (D-WV). Although CRA actions are not subject to Senate filibuster rules, they are subject to presidential veto, which President Biden is sure to do if the repeal reaches his desk.

Action Steps

Employers should assume that the ESG rules will remain in effect and engage with plan fiduciaries, advisors, and employees and determine the extent to which ESG considerations should (or should not) enter into fiduciary deliberations when considering plan investment alternatives. Some investment advisors have already begun to include separate ESG scorecards for mutual funds and other investments in their regular plan investment reviews. Fiduciaries should also consider whether and how the approach that is ultimately taken should be reflected in the plan’s investment policy statement. Plans that delegate full control over investments to an independent fiduciary (an ERISA 3(38) advisor) should engage with their advisor to determine whether and the extent to which ESG considerations will be part of that fiduciary’s process, and whether that is consistent with the desires of the plan fiduciaries and participants.

Article By Alex H. Glaser and Timothy Brechtel of Jones Walker LLP

For more labor and employment legal news, click here to visit the National Law Review.

© 2023 Jones Walker LLP

10 Tips When Hiring a Federal Appeals Lawyer

When hiring a federal appeals attorney, it is important not to take your decision lightly. There is a good chance that the outcome of your appeal will have a major impact on your life or business—whether positive or negative—and your choice of counsel will have a major impact on your chances of success.

For many people, their first instinct is to engage their trial counsel for their appeal. On its face, this makes sense. Trial counsel is already intimately familiar with the facts of your case, and trial counsel is—or should be—well aware of the grounds that are available for seeking relief at the appellate level.

But, while trial counsel can be a good option in some cases, defendants should not engage their trial counsel by default. There are many circumstances in which hiring trial counsel to continue forward with an appeal will not be the right choice. There are several factors to consider, and considering all of these factors is essential for making an informed decision.

“Some lawyers are better equipped to handle federal criminal appeals than others. This is not a slight toward lawyers who don’t handle federal appeals, but rather simply an acknowledgment that federal appeals are a unique practice area just like white collar criminal defense, healthcare fraud defense, or defending against allegations of serious violent crimes. If you need to appeal the outcome of your federal criminal case, it is imperative that you choose a lawyer who has been there many times before.” – Dr. Nick Oberheiden, Founding Attorney of Oberheiden P.C.

Due to the unique challenges involved in successfully pursuing a federal criminal appeal, the considerations involved in choosing a federal appeals attorney are not the same as those involved in choosing trial counsel for a federal criminal case. This is important to keep in mind, and understanding the unique nature of the federal appeals process will help you make an informed choice about your appellate representation.

How To Choose Appellate Counsel for a Federal Criminal Appeal

So, how should you choose appellate counsel for your federal criminal appeal? Here are 10 tips to keep in mind when hiring a federal appeals lawyer:

1. Understand that an Appeal is Not a Re-Trial

The first thing to understand that will help you make an informed decision about your choice of appellate counsel is that an appeal is not a re-trial. As a result, being an effective trial lawyer does not necessarily translate to having the skills needed to provide effective representation at the appellate level. The federal trial and appellate processes are very different, and many of the arguments and strategies that work at trial are completely irrelevant to the process of seeking relief from an unjust conviction or sentence on appeal.

For example, while providing effective trial representation requires the ability to effectively question witnesses and argue the facts to the jury, providing effective appellate representation requires persuasive writing abilities and the ability to effectively argue the law to a panel of judges who aren’t necessarily focused on the defendant’s guilt or innocence. On appeal, the focus is instead on determining whether errors at the trial level entitle the defendant to the opportunity to pursue a different outcome.

2. Focus on Hiring a Lawyer with Significant Federal Appellate Experience

Given the unique nature of the federal appeals process, relevant experience is undoubtedly the most important factor to consider when choosing a lawyer to represent you. This means experience handling federal criminal appeals in cases similar to yours—and ideally experience handling federal criminal appeals in the U.S. Circuit Court of Appeals that will hear your case. Although, this latter consideration is definitely the less important of the two. While each U.S. Circuit Court of Appeals has its own rules of practice, it is far easier to adapt to a new set of procedural rules than it is to get up to speed on the substantive issues involved in a complex federal case.

3. Carefully Consider Whether Your Trial Counsel is Your Best Option

As we touched on above, continuing to work with your trial counsel for your federal criminal appeal may or may not be your best option. As a baseline, you should only consider engaging your trial counsel for your appeal if he or she has extensive experience in federal appellate practice. While some lawyers handle trials and appeals, many devote their careers to handling one type of case or the other.

Even if your trial counsel also has significant experience, you will still want to weigh other factors as well. How effective was your trial representation? Do you have any concerns about whether your trial counsel was able to effectively preserve your grounds for appeal? Does your attorney have other major trials in the pipeline? These are all important questions to consider when making your decision.

4. Expand Your Search

When choosing a federal appeals attorney, you don’t necessarily have to stay local—and, in fact, staying local might not be your best option either. There are federal appeals lawyers who handle cases throughout the country; and, depending on where you live or your business is located, your local options may be fairly limited. You can (and should) expand your search to law firms with a nationwide presence, and you can (and should) choose a lawyer based on relevant experience rather than geographic proximity.

5. Schedule a Consultation to Discuss Your Appeal

Whether you are considering your trial counsel or you are looking elsewhere for your appellate representation, you should schedule a consultation to discuss your appeal. Before you invest in an appeal, you need to make sure it makes sense to move forward. Scheduling a consultation also gives you the opportunity to speak with a lawyer one-on-one and decide whether he or she seems like the right choice to handle your case on appeal.

6. Do Some Legwork Yourself

In addition to scheduling a consultation, you can also do some legwork to help you make an informed decision—and to help yourself and your lawyer begin preparing for your appeal. When it comes to choosing a federal appeals lawyer, this includes taking steps such as:

  • Visiting the lawyer’s website and reading about his or her experience

  • Reading client reviews and testimonials online

  • Preparing a list of questions to ask during your initial consultation

When it comes to preparing for your appeal, some of the steps you can take to prepare in advance of your initial appellate consultation include:

  • Taking notes about any potential grounds for appeal that you have discussed with your trial counsel

  • Taking notes about any other specific issues during your trial that you think may have led to an unjust result

  • Familiarizing yourself with the unique aspects of federal appellate practice

7. Do Not Fall for a Sales Pitch

While a lawyer should only be willing to take your case if he or she is capable of representing you effectively, you still need to be careful to avoid falling for a sales pitch. Unfortunately, if you schedule a consultation with a lawyer who isn’t the right choice to handle your case, there is a possibility that he or she may still try to convince you otherwise. While these instances are relatively rare, they do happen. If you feel like a lawyer is pressuring you to move forward with an engagement, this is most likely a sign that you should choose someone else for your federal criminal appeal.

8. Schedule Another Consultation if Necessary

This brings us to another important point: If you schedule a consultation with a lawyer and you are not confident in the lawyer’s ability to handle your appeal effectively for any reason, you should not hesitate to schedule another consultation at another firm.

9. Make Your Decision Carefully

If it is not already abundantly clear, when hiring a federal appeals attorney, you need to make your decision carefully. You should not rush, and you should not make your decision out of convenience or the desire to avoid putting in effort. Your effort to find the right lawyer for your appeal will be well worth it. Whether you are facing a conviction as an individual or your business has been convicted of corporate fraud or any other crime, you need to have unwavering confidence in your counsel’s ability to provide strategic and efficient appellate representation. The more effort you put into choosing the right lawyer, the more confidence you will have in your decision.

10. Make Your Decision Promptly

Finally, while it is important not to rush your decision, you still need to make your decision promptly. Under the Federal Rules of Appellate Procedure, you only have 14 days to file a Notice of Appeal. While a Notice of Appeal is a simple form filing, you cannot afford to risk any mistakes or delays. So, whether it has been hours or days since the trial court’s decision, finding the right federal appeals lawyer to represent you (or your business) needs to be your top priority.

Article By Dr. Nick Oberheiden of Oberheiden P.C.

For more litigation legal news, click here to visit the National Law Review.

Oberheiden P.C. © 2023

January 2023 Legal Industry News Highlights: Law Firm Expansion and Promotions, Industry Awards and Achievements, and a Spotlight on Diversity, Equity, and Inclusion in the Legal Field

Welcome back to another edition of the National Law Review’s legal industry news roundup, including a focus on law firm hirings and expansions, noteworthy awards and accomplishments in the field, and the latest in DEI efforts across the industry. We hope you are remaining safe and healthy, and that your new year has started off strong!

Additionally, be sure to check out the latest episode of our legal news podcast, Legal News Reach. New episodes will be forthcoming in 2023!

Law Firm Hiring and Expansion

Jennifer L. Budner has joined Goldberg Segalla’s White Plains office as a member of the Civil Litigation and Trial group. Ms. Budner focuses her practice primarily on litigation and trial counseling, having specialized in personal injury and wrongful death litigation for more than 20 years. She has a great deal of experience handling high exposure labor and construction law matters, and has represented many different types of clients, including property owners and contractors, product manufacturers, and a variety of business owners in various employment and product liability law actions.

Mayer Brown has added partner Richard Snyder to the firm’s Antitrust & Competition practice in Washington DC. Mr. Snyder focuses his practice on civil antitrust litigation, having previously represented clients in both federal and state court, and having appeared regularly before the US Department of Justice and the Federal Trade Commission. He has a great deal of experience in many areas, including merger reviews, criminal antitrust investigations, and a variety of conduct matters.

“With increasing enforcement activity, Rich’s experience in successfully handling antitrust matters in strategic transactions and before various government agencies will be invaluable to our clients,” said William Stallings, co-leader of Mayer Brown’s global Antitrust & Competition practice.

Bergeson & Campbell, P.C. and The Acta Group recently announced a number of noteworthy promotions within the firm:

  • Catherine M. Croke, DBA, has been named Director of Product Stewardship and Regulatory Affairs. Dr. Croke has decades of experience executing product stewardship and regulatory compliance programs in the field of chemicals and materials, formerly serving as Senior Advocacy and Compliance Manager with Evonik Corporation, Regulatory Affairs Manager for Arkema, and a Physical Science Technician with the U.S. Department of Agriculture.
  • Irene M. O’Hara has joined B&C® Consortia Management, L.L.C. (BCCM) as a Consortium Manager. Ms. O’Hara’s specialty is in association management, including stakeholder engagement, project management, and external affairs. She has previously worked with the Association of Corporate Counsel, the Institute of Scrap Recycling Industries, and the Smithsonian Institution’s Hirshhorn Museum.
  • Karin F. Baron, MSPH, has been named the Director of Hazard Communication and International Registration Strategy. With around 20 years’ experience in developing, implementing, and managing complex chemical regulatory compliance strategies, Ms. Baron primarily focuses her practice on navigating the Globally Harmonized System of Classification and Labeling of Chemicals, including classification, labeling, and authoring of compliant safety data sheets, as well as hazard and risk assessment.

Lynn L. Bergeson, Managing Partner of B&C, President of Acta, and President of BCCM, said of the hirings, “Our growing team of experts reflects the diversity of our substantive skill set, our expanding client base, and our commitment to providing our clients with the best and most efficient team of legal, regulatory, and scientific experts available.”

OLIVARES has named two new partners to the firm: Rommy Morales and Jaime Rodríguez. Ms. Morales, who co-chairs the Patent Group at the firm, focuses her practice on prosecution and enforcement of pharmaceutical patents in Mexico. In addition to her wide array of experience counsel to national and international clients regarding the protection and enforcement of their intellectual property rights, she has also repeatedly obtained patents for complex biotechnological inventions that have not been protected elsewhere.

Mr. Rodriguez’s practice is focused on intellectual property and copyright law matters, with extensive experience in trademarks, unfair competition, and domain name dispute resolution. Since 2007, he has achieved a number of impressive litigation results at OLIVARES, and has continued to serve as a professor at various educational institutions in Mexico, as well as publishing a great many articles related to his practice and to intellectual property law in general.

“Our new partners exemplify the success that comes from dedication to the firm’s mission. We are all excited about what the future looks like with these new leaders with us,” said Sergio Olivares, managing partner of the firm.

Legal Industry Awards, Events, and Recognitions

Ward and Smith has been named a 2023 Data Privacy Week champion by the National Cybersecurity Alliance. A non-profit organization that seeks to create a more secure and interconnected world, the National Cybersecurity Alliance works to develop notable partnerships between governments and companies to foster the greater digital good. With the reception of this title, Ward and Smith has committed to upholding the important responsibility of protecting personal information and individual privacy.

“Privacy is a right that must be proactively safeguarded and protected,” said Angela Doughty, CIPP/US. “Data Privacy Week helps remind us of actions we can take now – before it’s too late- in order to ensure security against costly incidents and harm.”

Strassburger McKenna Gutnick & Gefsky attorney Alexis M. Wheeler has been appointed to the Board of Directors of Bethany Christian Services of Western Pennsylvania. Bethany Christian Services is a global non-profit organization that supports children and families with world-class social services. Ms. Wheeler, who first began working with the organization last year, has assisted by providing support for a transitional foster care facility, as well as providing long-term refugee foster care and refugee and immigrant resettlement services.

At Strassburger McKenna, Ms. Wheeler focuses her practice primarily on municipal law and real estate, and additionally works closely with the litigation practice group and the investigation practice group. Ms. Wheeler started with SMGG as a Law Clerk and was asked to join the firm as an Associate after graduation from law school.

Mark Brutzkus and Nick Rozansky of Stubbs Alderton & Markiles, LLP have been named to Thomson Reuters’ Top 100: 2023 Southern California Super Lawyers List. Thomson Reuters recognizes Super Lawyers each year in Southern California, a process that involves peer recommendations, independent research, and peer evaluations. The lawyers who excel in the Super Lawyers selection process are prominently recognized in the Top 100 list.

Mr. Brutzkus, a partner at the firm, primarily focuses his practice on representing consumer product companies in corporate, commercial, intellectual property, finance, transactional, and other matters. Mr. Rozansky, also a partner at the firm, works in both the Business Litigation and Trademark and Brand Protection Practice Groups. He represents clients in several industries, including fashion and apparel, jewelry, banking and finance, and consumer products.

The Legal Sales & Service Organization (LSSO), the leading industry association for law firm sales and legal service professionals, is beginning 2023 with the announcement of its 20th Anniversary Advisory Board and Editorial Board.

LSSO Co-Founder Silvia Coulter, a Principal of LawVision:

“These industry influencers are the right people at the right time for LSSO to build on its legacy, and together we can reflect on impact to date and act on plans for the future support of LSSO’s members and the broader legal community’s sales and service goals.”

LSSO launched two decades ago, as positions such as Chief Business Development Officer, Client Relationship Executive, Chief Strategy Officer, Director of Project Management, and Client Value Director did not exist inside law firms. Then and today, these roles are essential for any law firm to survive and thrive, and LSSO was formed to meet the unique needs of these roles in a law firm environment.

LSSO is well known in legal circles for annual RainDance Conference, which in 2023 will be held June 7 and 8 in Chicago, which features tactical discussions with senior business development and legal sales professionals, along with keynote speakers who are sought-after industry change agents, and veteran legal services executives.

Diversity, Equity, and Inclusion Efforts

Twelve lawyers from Barnes & Thornburg have been named to the Lawyers of Color’ Law Firm Leaders publication:

  • Michelle N. Bradford, Partner, Co-Chair of Financial and Regulatory Litigation Practice Group
  • Michael A. Carrillo, Secretary of Management Committee and Managing Partner of Chicago Office
  • Jeff Davis, Of Counsel, Chair of Native American Law and Policy Practice Group
  • Roscoe C. Howard, Jr., Chair of Racial Justice Committee and Managing Partner of Washington, D.C., Office
  • Naomi Y. Kwang, Partner, Chair of Greater China and Southeast Asia Practice Group
  • Salvador P. LaViña, Partner, Chair of Real Estate Department
  • Alan K. Mills, Partner, Chair of Special Servicers Group and Co-Chair of Supply Chain Group
  • David Paragas, Partner, Co-Chair of Federal Relations Practice Group
  • Mari Yamamoto Regnier, Partner, Chair of Global Services-Japan Practice Group
  • Kristen L. Richer, Partner, Co-Chair of Consumer Class Action Defense Practice Group
  • Erika Weiss, Associate, Member of Legal Personnel Administration Committee
  • David A.W. Wong, Partner, Chair of Internet and Technology Group

Lawyers of Color is a national nonprofit dedicated to promoting diversity in the legal profession. The organization regularly recognizes noteworthy attorneys in the field through publications and conferences, seeking to advance democracy, equality, and inclusion in marginalized communities and the practice of law.

Michael D. Thomas, Principal at Jackson Lewis P.C., has been featured in the Los Angeles Times’ 2022 Diversity, Equity, Inclusion & Accessibility magazine as a DEIA Visionary. The magazine seeks to highlight notable thought leaders in the California business community who place great emphasis on diversity, equity and inclusion within their field. Mr. Thomas primarily focuses his practice on defending employers in state and federal wage and hour class actions, working in industries including manufacturing, retail, and hospitality.

“Michael’s longstanding efforts to promote and strengthen DEI policies throughout businesses in California are another affirmation of our commitment to these initiatives as a core value of the firm,” said Alison L. Lynch, the firm’s Orange County office managing principal. “We congratulate him on this recognition and look forward to his continued advocacy for a more inclusive workforce.”

Rebecca E. Shope, Partner and Labor, Employment and Benefits Regional Service Line Leader at Shumaker, has been named a 2023 Leadership Council on Legal Diversity Fellow. Ms. Shope, who primarily practices in the fields of labor and employment, litigation, and family law, will be a part of the prestigious LCLD program, which since 2011 has sought to identify, train, and advance the next generation of leaders in the legal profession. The program provides participants with the opportunity to learn from top leaders in the legal profession, as well as experts in the fields of learning and development and executive coaching.

“Rebecca is an exceptional lawyer and future leader who joins a select group of experienced attorneys from diverse backgrounds who have been recognized for their leadership skills within their organizations and in the wider profession,” said Shumaker Partner and Diversity and Inclusion Committee Co-Chair Cheri Budzynski.

Article By Chandler Ford of The National Law Review / The National Law Forum LLC

For more business of law legal news, click here to visit the National Law Review.

Copyright ©2023 National Law Forum, LLC

Beltway Buzz, January 20, 2023

Union Membership Decreases. The percentage of workers who are union members dropped to 10.1 percent in 2022 from 10.3 percent in 2021, according to data released this week by the U.S. Bureau of Labor Statistics (BLS). In the private sector, the unionization rate fell to 6 percent last year from 6.1 percent in 2021. According to BLS:

The 2022 unionization rate (10.1 percent) is the lowest on record. In 1983, the first year where comparable union data are available, the union membership rate was 20.1 percent and there were 17.7 million union workers.

Thus, despite some splashy headlines and a few high-profile examples, the great majority of employees continue to reject unionization. Expect labor unions and their allies in Washington, D.C., to spin these numbers as a reason to double down on efforts to tilt the labor policy field in favor of labor unions.

D.C. Circuit Issues Ruling on NLRB 2019 Election Regs. This week, the U.S. Court of Appeals for the District of Columbia Circuit issued a decision relating to five specific provisions of the National Labor Relations Board’s (NLRB) 2019 changes to its regulations governing union elections. In a May 2020 decision, the U.S. District Court for the District of Columbia (in an opinion by then-judge Ketanji Brown Jackson) invalidated the five provisions as contrary to the Administrative Procedure Act because the NLRB did not seek public comment on the changes. (The Board argued that the changes were procedural, not substantive, in nature and that public comment was not necessary.) In this week’s decision, the D.C. Circuit agreed that the district court was correct in invalidating three provisions: “the rules regarding the eligible employee-voters list, the timeline for certification of election results, and election-observer eligibility.” However, the D.C. Circuit ruled that the two remaining provisions—regarding pre-election litigation of voter eligibility and the timing of the date of an election—are “‘internal house-keeping’ rules” that are exempt from notice and comment requirements.

House Republicans Seek Information From Federal Agencies. Representative Virginia Foxx (R-NC) is wasting no time exercising her authority as chair of the House Committee on Education and the Workforce. Late last week, Foxx resent to federal labor agencies a series of previous information requests that were answered while Republicans were in the House minority in 2021 and 2022. The requests include the following:

  • Letters to Secretary of Labor Martin Walsh regarding, among other issues, his involvement in various high-profile labor disputes; documents and communications relating to the development and implementation of the Occupational Safety and Health Administration’s (OSHA) 2021 vaccine-or-test emergency temporary standard; and information surrounding the February 2022 report offered by the Task Force on Worker Organizing and Empowerment, such as attendance lists, meeting minutes, rejected policy proposals, involvement of outside organizations.
  • A letter to National Labor Relations Board (NLRB) General Counsel Jennifer Abruzzo regarding her April 2022 memorandum relating to employer speech. Specifically, the letter asks for information about the possible involvement of outside organizations, other agencies, and the White House, in the drafting of the memo.
  • A letter to NLRB Chair Lauren McFerran inquiring about potential conflicts of interest that Member Gwynne Wilcox and Member David Prouty may have regarding the Board’s joint employer policy.

The Buzz suspects that these letters are just the first examples of what will be at least two years of aggressive agency oversight by the committee.

DHS Announces Deferred Action for Workers Involved in Labor Investigations. Late last week, the U.S. Department of Homeland Security (DHS) announced a new streamlined and expedited process for undocumented workers seeking deferred action as a result of their cooperation in investigations into potential violations of labor laws. The new policy further implements provisions of DHS’s October 2021 memorandum, “Worksite Enforcement: The Strategy to Protect the American Labor Market, the Conditions of the American Worksite, and the Dignity of the Individual.” According to the announcement, DHS will “provid[e] new guidance to labor agencies regarding processes to seek deferred action for certain workers” and will create a “single intake point for deferred action requests from noncitizen workers.” As such, “[t]he centralized intake process will allow DHS to efficiently review these time-sensitive requests, provide additional security to eligible workers on a case-by-case basis, and more robustly support the mission of labor agencies.”

OFCCP Proposes Changes to Complaint Intake Process. This week, the Office of Federal Contract Compliance Programs (OFCCP) proposed changes to its complaint intake process. OFCCP is proposing to add a preliminary step to evaluate the timeliness of allegations, whether it has jurisdiction over a matter, and how the matter should proceed. If OFCCP determines that an investigation is warranted, it will direct the complainant to fill out a more detailed form. According to the proposal, this two-step procedure “will improve the efficiency of [OFCCP’s] complaint intake process.” Comments are due by March 20, 2023.

Days of Hayes. President Rutherford Birchard Hayes passed away this week (January 17) in 1893. Hayes, the nineteenth president, was a former congressman and three-time governor of Ohio before he ran for president in 1876. His election against Democrat Samuel Tilden, the governor of New York, was mired in controversy and allegations of voter intimidation, resulting in disputed Electoral College votes. This led to the creation of an electoral commission, which eventually swung the Electoral College votes to Hayes by a margin of 185–184. The process earned Hayes the nickname “Rutherfraud” from Democrats. While Hayes hasn’t been the subject of popular movies or Broadway shows, he was a very interesting president:

  • Although twelve presidents who served before him were lawyers, Hayes was the first president to graduate from law school.
  • At almost forty years old, with no previous military experience, Hayes volunteered to fight for the Union during the Civil War. He was wounded several times, and served in the same infantry unit as fellow future president, William McKinley.
  • In 1879, Hayes signed the “Lockwood Bill,” which permitted women to practice law in federal court.
  • Hayes was the first president to make a trip to the West Coast and the first president to have both a telephone and a typewriter in the White House.

Hayes is responsible for the first Easter Egg Roll on the White House lawn, a tradition that will celebrate its 145th anniversary in just a few weeks.

Article By James J. Plunkett of Ogletree, Deakins, Nash, Smoak & Stewart, P.C.

For more labor and employment legal news, click here to visit the National Law Review.

© 2023, Ogletree, Deakins, Nash, Smoak & Stewart, P.C., All Rights Reserved.

Structuring the Acquisition of an S Corporation

Introduction

S corporations, or S-corps, are one of the most popular entity choices for businesses. In contemplating the sale of an S-corp, it is important to plan how the transaction is structured from a tax perspective (ideally before an LOI is signed), both to maximize the gain on the sale and avoid pitfalls that can result in liabilities for the selling shareholders.

For corporate purposes, businesses are generally formed as limited liability companies, partnerships, or corporations. For tax purposes, however, entities are taxed as corporations, partnerships, or disregarded entities.[1] Corporations[2] are taxed as either a C corporation or an S corporation. C corporations are taxed at the corporate level and again at the shareholder level.[3] S corporations are corporations that, for federal tax purposes, elect to pass corporate income, losses, deductions, and credits through to their shareholders and are only taxed at the shareholder level.[4]

To qualify as an S corporation, the corporation must meet the requirements of Section 1361,[5] which provides that the corporation not have more than 100 shareholders, not have non-individual shareholders (with the exception of certain types of trusts, estates, and tax-exempt organizations), not have a nonresident alien as a shareholder, not have more than one class of stock, and not be an ineligible corporation (as defined in the Code).[6]

When sellers begin to explore the sale of their business, tax considerations are important to discuss at the outset so that the seller and buyer are on the same page – no one wants to attempt to renegotiate the terms of a deal in the middle of a transaction. For tax purposes, acquisitions of companies are categorized as either an asset purchase or stock purchase. In general, owners prefer to sell their stock (as opposed to the company’s assets) for a few reasons. First, a stock sale results in capital gain to the shareholders because their stock is a capital asset.[7] In an asset sale, however, noncorporate sellers (including S-corp shareholders) recognize ordinary income or capital gain, depending on the type of asset sold. Second, unlike in an asset sale, a stock sale may not require the seller to transfer company assets and licenses or obtain third party consents.

On the other hand, buyers usually want to engage in an asset sale to obtain a step-up in basis of the purchased assets. In a stock acquisition, the buyer gets a carryover basis in the acquired corporation’s assets, without any basis step-up. In an asset purchase, however, the buyer takes a cost basis in the assets, including in the target corporation’s goodwill (which otherwise will generally have a zero basis), and allows the buyer to take higher depreciation deductions to reduce the buyer’s annual tax liability.[8] Unless otherwise agreed, the buyer also does not assume corporate liabilities in an asset sale.

Sellers who agree to engage in an asset sale should negotiate with the buyer to be compensated for the additional tax that the seller may incur for engaging in an asset sale.

There are two additional ways for a buyer to obtain a basis step-up in the seller’s assets. The first is a 338(h)(10) election under Section 338 and the second is an F reorganization pursuant to Section 368(a)(1)(F) and consistent with Revenue Ruling 2008-18.[9]

Making the 338(h)(10) Election

A buyer and seller will sometimes make a 338(h)(10) election, which treats an acquisition of a corporation’s stock as a sale of assets for federal income tax purposes, but a sale of stock for legal purposes.[10] The sale is treated as if buyer and seller engaged in a regular asset sale for income tax purposes (so the buyer obtains a step-up in the tax basis of the assets), yet the seller does not need to re-title each asset.[11] Seller does not have capital gain on the sale of stock. Instead the parties must allocate the sales price among the assets based on each asset’s fair market value.[12] The price paid in excess of the fair market value of the tangible assets of the business is allocated to business intangibles and then to goodwill.[13]

The 338(h)(10) election is only available if a “qualified stock purchase” is made.[14] A “qualified stock purchase” is defined as any transaction (or series of transactions) in which a corporation purchases at least 80% of the stock (both voting and value) from a member of a consolidated group(as defined in 1.1502-1) or from shareholders of a S corporation during a 12 month period.[15] If during diligence it is revealed that the target corporation in fact failed to qualify as an S corporation, the 338 election will be invalid.[16] If the Section 338(h)(10) election is invalid, the transaction will be treated as a straight stock sale and buyer will not receive a basis step-up in the target’s assets.

A section 338(h)(10) election is made jointly by the purchaser and seller on Form 8023.[17] S corporation shareholders who do not sell their stock must also consent to the election. The election must be made not later than the 15th day of the 9th month beginning after the month in which the acquisition date occurs.[18]

If the target failed to qualify as an S corporation (thereby becoming a C corporation), an election can be made to treat the sale of the corporation’s stock as an asset sale under Section 336(e). The election can be made if target is owned by a parent corporation that sells at least 80% of target’s stock.[19] A 336(e) election closely resembles a 338(h)(10) election, but the purchaser does not have to be a corporation.[20] Note that a transaction that qualifies under both 336(e) and 338(h)(10) will be treated as 338(h)(10) transaction.[21]

Consequences of a 338(h)(10) Election

Under the Regulations, the target corporation is treated as making a deemed sale of its assets and liquidating following the deemed asset sale.[22] The transaction is treated as a taxable acquisition of 100% of the target’s assets for income tax purposes.[23] This means that the stock cannot be acquired in a tax free transaction or reorganization (such as a transfer to a controlled corporation, merger or spinoff) or a transaction where the seller does not recognize the entire amount of gain or loss realized on the transaction.[24]

Issues with a 338(h)(10) Election

While the 338 election can be a useful way for a buyer to achieve a basis step-up without burdening the seller to retitle and transfer assets, the following disadvantages of the election should be considered:

  1. The rules under Section 338 require all S corporation shareholders (whether or not they sell their stock) to pay tax on all of the target’s assets, even if selling less than 100% of the target.[25] This effectively eliminates any structuring of a deal on a tax-deferred basis (i.e. where seller only pays tax on the consideration attributable to non-rollover equity). Sellers need to be aware that they will pay tax on all of the target company’s assets regardless of the percentage of assets sold.
  2. The election presents an issue for rollover transactions where the seller rolls over more than 20% of its equity on a pre-tax basis in a Section 721 or Section 351 transaction (in which seller receives equity in buyer, buyer’s parent, a holding company that holds target, or another form of equity). Rolling over more than 20% of equity will invalidate the 338(h)(10) election because it will not meet the “purchase” requirement under Section 338.[26]
  3. If the target company’s S corporation election turns out to be invalid (which happens frequently due to the ease with which S corporation status can be voided), the 338(h)(10) election will be invalid, thereby eliminating any advantage provided by the election.[27] Note that the seller will also be in breach of its representations and warranties under the purchase agreement.

F-Reorganization

An alternative to a 338(h)(10) election is an F reorganization, or F reorg., which allows sellers to avoid the potential issues that come with a 338 election. In an F reorg., the seller recognizes gain only with respect to the assets that it is deemed to have sold, allows the seller to roll over equity on a pre-tax basis, and avoids some of the risk that the target may have not properly qualified as an S-corp (thereby invalidating a Section 338(h)(10) election).

Engaging in an F-Reorganization

The first step in an F reorg. is to engage in a tax free reorganization of the S-corp.[28] Shareholders of the target S-corp (“T”) form a new corporation (“Holdco”) and transfer their shares in T to Holdco in exchange for Holdco shares. As a result of the transaction, T shareholders own all shares of Holdco, which in turn owns all shares of T, making T a fully owned subsidiary of Holdco. Holdco then elects to treat T as a Qualified Subchapter S Subsidiary (“QSub”) by making the election on form 8869. For federal tax purposes, T, as a QSub, becomes a disregarded entity and all assets and liabilities of T are treated as part of Holdco.[29] Note that the QSub election made by T also suffices as the S-corp election for Holdco.[30] After T becomes a QSub of Holdco, T converts into a limited liability company (“LLC”) under state law in a nontaxable transaction by converting from one disregarded entity to another.[31] Holdco will need to obtain its own EIN, but T retains its old EIN after the conversion.[32] Once the conversion to an LLC is complete, the shareholders of Holdco can sell some or all of the LLC interests of T; the sale is treated as an asset sale for tax purposes, thereby resulting in a step up in basis for the purchaser.[33] The seller recognizes gain from the deemed sale of each asset of T. If less than 100% of the LLC interests are sold to the buyer, the transaction is treated as the purchase of a proportionate interest in each of the LLC assets, followed by a contribution of the respective interests to a partnership in exchange for ownership interests in the partnership, resulting in a stepped up basis in the assets for buyer.[34] In this scenario, T is no longer a QSub and is converted to a partnership for tax purposes.[35]

Note that a straight conversion of the existing S corporation target from an S-corp to an LLC should not be done because it is treated as a taxable liquidation of the S corporation (i.e. a deemed sale of its assets) resulting in a fully taxable event to the shareholders.[36]

Alternatively, the S-corp could form a new LLC, contribute all its business assets and liabilities to the new LLC in exchange for the LLC interests, and sell the LLC interests to the buyer. However, the transfer of assets might require third party consents; the F reorg. achieves the same result without any potential assignment issues, and even preserves the historical EIN of the S-corp.

Advantages of an F-Reorganization

The F-reorganization is an effective way to avoid the issues that arise with a 338(h)(10) election:

  1. If the acquisition is for less than 100% of the target, the S-corp shareholders will only recognize gain on the portion of the LLC sold by the S-corp parent. Any portion of the LLC interests rolled over will be tax-deferred. Rollover transactions are perfectly suitable in a F reorg. and do not present the issues that come with a 338(h)(10) election.
  2. The converted LLC retains its old EIN number and is essentially the same entity for legal purposes. This can be useful for a target in a regulated industry (such as healthcare, food services, manufacturing, etc.) by possibly avoiding the need to reapply for new permits and licenses.
  3. An F reorg. can be useful for planning purposes under Section 1202 (Qualified Small Business Stock, or QSBS), which allows shareholders of a C corporation to exclude from their taxable income the greater of ten million dollars or ten times the adjusted basis of their stock upon a sale.[37] One requirement is that the stock must be stock of a C corporation, not an S corporation.[38] S corporation shareholders who want to qualify under 1202 can perform an F reorg. and contribute the LLC interests of their operating company to a newly formed C corporation in a tax free exchange under 351. The S corporation (which owns the C corporation which owns the LLC) is now an eligible shareholder of QSBS and will qualify for favorable treatment under Section 1202.[39]

Footnotes

[1] Reg. §301.7701-2. Entities may also be taxed as cooperatives or as tax-exempt organizations if the statutory requirements are met.

[2] For purposes of this article, a corporation includes a limited liability company (LLC) that has elected to be taxed as a corporation.

[3] IRC §11(a).

[4] IRC §1363. For state tax purposes, treatment of S corporation status varies – certain states either conform with the federal treatment or conform with certain limitations and adjustments, while others do not recognize the S election at all and tax S corporations as regular corporations. In particular, California imposes an entity level tax of the greater of $800 or 1.5% of net income.

[5] Section references are to the Internal Revenue Code of 1986, as amended.

[6] See IRC §1361 (for example, an insurance company or certain financial institutions). In addition, Form 2553 must be filed to make the S corporation election.

[7] See IRC §1221(a).

[8] See IRC §1012(a) and §167.

[9] A 338(g) election also obtains a basis step-up, but results in two layers of tax and is not generally used for domestic transactions.

[10] IRC 338(a).

[11] Reg. 1.338(h)(10)-1(d)(9).

[12] In accordance with the allocation provisions set forth in IRC 1060 and Reg. 1.338-6 and 1.338-7.

[13] Reg. 1.338-6(b)(vi) and (vii).

[14] IRC 338(a).

[15] IRC 338(d)(3) and Reg. 1.338(h)(10)-1(c). For the purposes of this article, we assume that target is a standalone S-corp.

[16] Reg. 1.338(h)(10)-1(c)(5). However, the transaction may still qualify under Section 336(e). See below.

[17] Reg. 1.338(h)(10)-1(c)(3). Form 8883 also needs to be filed. If an F reorg is done, form 8594 will need to be filed.

[18] Reg. 1.338(h)(10)-1(c)(3).

[19] Reg. 1.336-2(a). The election is made unilaterally by seller and target. See Reg. 1.336-2(h).

[20] Reg. 1.336-1(b)(2). See Reg. 1.336-1 – Reg. 1.336-5 for the mechanics of making the 336(e) election and what qualifies as a “qualified disposition” under 336.

[21] Reg. 1.336-1(b)(6)(ii)(A).

[22] See Reg. 1.338(h)(10)-1 for the tax aspects of the deemed asset sale and liquidation.

[23] A deemed asset sale under Section 338 does not give rise to California sales tax. Cal. Code of Regs. 1595(a)(6).

[24] IRC 338(h)(3). See below for rollover transactions.

[25] Reg. 1.338(h)(10)-1(d)(5).

[26] IRC 338(h)(3)(A)(ii). Beware of situations where the acquiror appears to “purchase” at least 80% of target’s stock (and target rolls over 20% or less of its stock in a 351 transaction), but the acquiror in fact does (or might be deemed to) “purchase” less than 80% of target’s stock, thereby invalidating a 338, 338(h)(10), or 336(e) election. This most commonly occurs where purchaser is a newly formed corporation and target rolls over 20% (or less) of its shares. See Ginsburg, Levin & Rocap, Mergers, Acquisitions, and Buyouts, § 4.06.1.2.2 (relating to redemption of stock held by target’s shareholders and recharacterizing a 351 transaction and cash sale as a single 351 exchange with boot).

[27] See footnote 16.

[28] In accordance with Rev. Rul. 2008-18.

[29] IRC 1361(b)(3).

[30] Rev. Rul. 2008-18. Obviously, Holdco must meet all the requirements of an S-corp. In many cases, the parties will file Form 2553 to treat Holdco as an S corporation as a “belt and suspenders” step.

[31] Upon conversion, T is no longer treated as a QSub per 1361(b)(3). The conversion has no tax consequences; see Reg. 1.1361-5(b)(3), example 2, where the merger of two disregarded entities owned by the same entity is a disregarded transaction for tax purposes because the assets continue to be held by the same entity. The same should apply when one disregarded entity converts to another. The QSub can also merge with a newly formed LLC subsidiary of Holdco to achieve the same result.

[32] Rev. Rul. 2008-18.

[33] Rev. Rul. 99-5; Reg. 1.1361-5(b)(3), example 2.

[34] Rev. Rul. 99-5; see also Rev. Rul. 99-6.

[35] Id. Although not required, a Section 754 election is often required by the Buyer.

[36] IRC 336(a).

[37] IRC 1202(b). See Section 1202 for the requirements to qualify for QSBS.

[38] IRC 1202(c).

[39] The S corporation shares do not qualify as QSBS. The new shares of the C corporation issued after the reorganization qualify as QSBS to begin the 5 year holding period.

Article By Ben Gruen of Stubbs Alderton & Markiles, LLP

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© Copyright 2023 Stubbs Alderton & Markiles, LLP

Future of Non-Competes Up in the Air

Future of Non-Competes Up in the Air

The FTC recently announced its proposal to ban non-compete clauses in employment agreements. That proposal is currently in a 60-day period of public comment, and employers are (understandably) nervous. While many employers rely on these provisions to manage competition and protect their IP and confidential information, companies across the country may soon find themselves in the shoes of California employers, having to work around restrictions on non-competes to maximize protection within the increasingly narrow confines of the law.

Employers are not without options in responding to the potential changes should they become law–more aggressive retention incentives, intelligent data security, and stricter confidentiality agreements should all be part of the conversation. Even deferred compensation could be on the table, as noted in the article, though beware of the tax implications. Employers should also keep in mind that the FTC proposal, should it become law, will doubtless be subject to legal challenges and could be tied up in the courts for a while before becoming effective.

“Observers on both sides say that limitations on the clauses will compel employers to get more creative about how they retain talent, using everything from compensation to career advancement to keep workers engaged and loyal to the company. Some companies use deferred compensation—such as retention bonuses or rolling stock options that vest after, say, three years—to give people incentives to stay.”

©1994-2023 Mintz, Levin, Cohn, Ferris, Glovsky and Popeo, P.C. All Rights Reserved.

B.S.ing with Bob Major [PODCAST]

When Bob Major founded Major, Lindsey & Africa in 1982, he could not have envisioned what the organization would become and the impact it would have on the legal profession. In this episode of B.S.: Beyond Stereotypes, Bob shares his journey with Merle Vaughn, including his childhood in Texas and Oklahoma, his Stanford education, and how both influenced his outlook on life personally and professionally.

Bob Major, founder and Partner at Major, Lindsey & Africa, grew up in Texas and Oklahoma. He received his undergraduate degree from Stanford University and attended The University of Texas at Austin where he received a J.D. degree. Bob spent five years at the Washington, D.C., firm of Wilmer, Cutler & Pickering (now WilmerHale) practicing in its federal administrative practice. Prior to founding his own legal recruiting firm, he spent a year in-house as securities counsel at Saga Corporation (Menlo Park, California).

Article By Merle Vaughn of Major Lindsey & Africa

For more law office management legal news, click here to visit the National Law Review.

©2023 Major, Lindsey & Africa, an Allegis Group Company. All rights reserved.

The Scope of Attorney-Client Privilege Over Dual-Purpose Communications

The Supreme Court will evaluate the scope of attorney-client privilege when applied to communications shared between counsel and client that involve both legal and non-legal advice (“dual-purpose communications”). The decision of the highest court will have long-lasting implications for both business organizations and their retained counsels. The potential outcome of this case cannot be understated.

In this matter, the grand jury issued subpoenas to an anonymous law firm seeking documents related to the government’s investigation of the firm’s client. The law firm had provided both legal and business services to the client by advising on tax-related legal issues and preparing the client’s annual tax returns. When the law firm and client (“Petitioners”) withheld certain correspondence on the grounds that they were protected by attorney-client privilege and the work-product doctrine, the government moved to compel the production of those documents. The district court held that, while the correspondence contained a “dual-purpose,” they were not protected by attorney-client privilege because the primary purpose of the correspondence was to obtain business tax advice and not legal advice.

On appeal, Petitioners argued that the appellate court should apply the “because of” test rather than the “primary purpose” test. The “because of” test asks whether the dual-purpose correspondence was made because of a need for legal advice. The application of this test would expand the scope of attorney-client privilege and protect the correspondence at issue. The Ninth Circuit Court of Appeals, however, rejected Petitioners’ argument and affirmed the district court’s decision. Petitioners appealed the Ninth Circuit’s decision, and the Supreme Court granted certiorari on October 3, 2022.

The Supreme Court’s decision in In re Grand Jury 21-1397 will be of particular significance for in-house counsels who regularly provide both business and legal advice to their employers. For outside counsels, the outcome of this case will shed light on the standard to be applied for asserting privilege over dual-purpose communications. Oral argument occurred on January 9, 2023 at the Supreme Court.

For more litigation news, click here to visit the National Law Review.

© Polsinelli PC, Polsinelli LLP in California

New Cosmetic Regulatory Requirements: What Cosmetic Manufacturers Need to Know

On December 29, 2022, President Biden signed into law the “Modernization of Cosmetic Regulation Act of 2022,”1 which requires increased Food and Drug Administration (FDA) oversight of cosmetics and the ingredients in them. This GT Alert outlines the law’s key provisions, including timelines for FDA actions and enforcement. The law creates new requirements that may generate increased consumer litigation. This GT Alert summarizes the Act’s provisions and does not constitute legal advice. Many provisions are subject to regulatory implementation by a date provided for in the Act.

The new law also includes amendments modifying other FDA requirements. In particular, the law modifies the law as to issues such as improvements and innovations in drug manufacturing, reauthorization of key FDA programs such as the Humanitarian Device Exemption Incentive, the Best Pharmaceuticals for Children Program, and Reauthorization of Orphan Drug Grants. There are also modifications to biologics and drugs, as well as modifications of the Save Medical Device amendments. For information on the potential litigation impacts of the new law, please see this GT Alert published by the Pharmaceutical, Medical Device & Health Care Litigation Practice.

Modernization of Cosmetic Regulation Act of 2022 (MoCRA)

MoCRA, the new cosmetic regulation law, establishes a process, similar to those for other FDA-regulated products, that ensures the cosmetic manufacturers provide assurances that the cosmetic products are safe. This GT Alert provides general information on these new requirements, with effective dates for certain regulatory and other requirements. The law establishes obligations on the “responsible person” that is, the manufacturer, packer, or distributor of a cosmetic and those whose name appears on the products label.

MoCRA is only applicable to importers and entities that manufacture or process cosmetic products. It does not apply to the following entities if they do not import, manufacturer, or process cosmetics: beauty salons; cosmetic product retailers; distribution facilities; pharmacies; hospitals; physicians offices; health care clinics; public health agencies and other nonprofit entities; entities that provide complimentary cosmetic products; trade shows and others giving free samples; entities that are only doing research; and entities that prepare labels, relabel, package, repackage, hold, and/or distribute cosmetic products.

Key Terms

Good Manufacturing Practices: The secretary of the Department of Health and Human Services (HHS) (through the FDA) will propose and finalize regulations to establish good manufacturing practices. The key is to ensure that products are not adulterated and will allow FDA to inspect records to ensure compliance. The proposed rulemaking shall be no later than two years after date of enactment (December 29, 2022) with final regulations no later than three years after date of enactment (December 29, 2022).

Adverse Events: Any health-related event associated with the use of a cosmetic product.

Serious Adverse Event: Any event that is a result of death, life-threatening experience; inpatient hospitalization; persistent or significant disability or incapacity; a congenital anomaly or birth defect; and infection or significant disfigurement OR requires, based on reasonable medical judgment, a medical or surgical intervention to prevent an outcome described in the first definition of serious adverse event.

Process for Reporting Adverse Events: In compliance with the HHS secretary’s regulations, the responsible person shall file a report within 15 days and may supplement the report within one year. A serious adverse event report is similar to other safety reports and can include a statement released to the public (without any personal health information). The HHS secretary may exempt certain reports that do not involve a significant public health issue. Records must be kept by the responsible person for six years; three years for small businesses. There is a Rule of Construction that the submission of any report shall not be construed as an admission that the cosmetic product involved, caused, or contributed to the relevant adverse event.

  • Fragrance and Flavor Ingredients: If an ingredient(s) has caused or contributed to a serious adverse event, the HHS secretary may request a list of such ingredients, and such list must be provided within 30 days of the request.

  • Safety Substantiation: Records must be maintained that demonstrates adequate substantiation of the safety of the cosmetic product. Adequate substantiation means tests, studies, or other evidence to support a reasonable certainty that the product is safe.

Inspection: The responsible person shall permit an officer or HHS employee (with credentials) to have access to inspect records, manufacturing and other issues.

Registration and Product Listing: Cosmetic manufacturers must submit a registration no later than ONE YEAR AFTER ENACTMENT (December 29, 2022). New facilities must register within 60 days (or 60 days after deadline). Renewal is every two years. Updates or changes must be submitted within 60 days of the change. The content of the information required for registration is outlined in the law. The registering company must also list all cosmetic products it imports, manufactures, or processes and include product category or categories, list of ingredients (fragrances, flavors, or colors), and product listing number (if previously assigned). Flexibility is given to the listing of multiple products with identical formulations or those that differ only to colors, fragrances, flavors, or quantity. Annual updates are to be submitted. FDA will withhold confidential information included in a listing when a request for information is filed.

The HHS secretary may suspend a cosmetic entity’s registration if there is a reasonable probability that a product is causing serious adverse health or deaths, and the secretary has reasonable belief that other products made or processes may also be affected and for which health concerns are raised about the products manufactured. Notice of suspension is to be provided and an opportunity within five days to provide corrective action; or a hearing may be held. The secretary may conclude (a) the suspension remains necessary or (b) the registrant must submit a corrective action plan to demonstrate remediation of the problem conditions. The plan will be reviewed not later than 14 business days or such other time agreed upon by the parties. If the secretary vacates the suspension, FDA will then reinstate the registration. If the facility is suspended, no person shall introduce or deliver in the United States cosmetic products from such facility. The secretary can only delegate this authority to the FDA Commissioner.

Labeling: Each cosmetic product shall have a label that includes a domestic address, domestic phone number, or electronic contact information. In addition, the following applies to labeling.

  • Fragrance Allergens: The responsible person shall identify on the label each fragrance allergen included. The secretary shall propose a rule on June 29, 2024 (18 months after date of enactment) and final rule 180 days after the public comment period closes. The secretary shall consider international, state, and local requirements for allergen disclosure and threshold amount levels.

  • Cosmetic Products for Professional Use: A professional is an individual licensed by a state authority to practice in the field of cosmetology, nail care, barbering, or esthetics.

  • Professional Use Labeling: A cosmetic product introduced into interstate commerce and intended to be used only by a professional shall bear a label that contains a clear and prominent statement that the product shall be administered for use only by a licensed professional; and is in conformity with the requirements for cosmetics labeling.

Records: Records are to be available to authorized personnel to examine products if there is reason to believe a cosmetic product is adulterated or an ingredient could cause harm or run afoul of other standards. The authorized personnel must provide written notice to have access to records at a reasonable time to determine whether the product poses a threat. The records to be reviewed do not include recipes or formulas for cosmetics, financial data, pricing data, personnel data (except qualifications) research data (other than safety substantiation) or sales data (other than shipment data regarding sales).

  • Rule of Construction: Nothing in this section shall be construed to limit the secretary’s ability to inspect records or require establishment and maintenance of records under any other provision of the law.

Mandatory Recall Authority: If the secretary determines there is a reasonable probability that a cosmetic is adulterated or misbranded and the use or exposure will cause serious adverse health consequences or death, the secretary shall provide the cosmetic manufacturer an opportunity to voluntarily cease distribution and recall such article. If the entity refuses or does not recall the cosmetic within the time and manner prescribed, the secretary may order that the product not be distributed.

  • Hearing: A hearing may be held, no later than 10 days after the date of issuance. A process for resolution is provided by the law to either recall the product and cease distribution based on evidence provided or permit the product to continue distribution. Notice to affected individuals may be required.

  • Public Notification: If a recall is required, a press release is to be published, and alerts and public notices are to be issued, as appropriate. The materials must include the name of the cosmetic; a description of the risk; to the extent practicable, information for consumers about similar cosmetics that are not affected by the recall and ensure publication on the FDA website of the image of the cosmetic. The secretary can only delegate this authority to the Commissioner of the FDA.

  • Rule of Construction: Nothing in this section shall affect the authority of the secretary to request or participate in a voluntary recall or to issue an order to cease distribution or to recall under any other provision of this chapter.

Small Businesses: Responsible persons and owners and operators of facilities whose gross annual sales in the United States of cosmetic products for the previous three-year period is less than $1,000,000 shall be considered small business and not subject to Good Manufacturing Practices, registration, and listing requirements.

  • Exemptions: The small business exceptions do NOT apply to (1) cosmetic products that contact the mucus membrane of the eye under conditions of use that are customary or usual; (2) products that are injected; (3) products that are intended for internal use; or (4) products that are intended to alter appearance for more than 24 hours under conditions of use that are customary or usual, and removal by the consumer is not a part of such conditions of use that are customary or usual.

Preemption. No state or political subdivision of a state may establish any law, regulation, order, or other requirement for cosmetics that is different for registration and product listing, good manufacturing practice, records, recalls, adverse event reporting or safety substantiation. Nothing prevents any state from prohibiting the use of an ingredient in a cosmetic product, or continuing requirement of any state in effect at time of enactment.

  • Savings Clause: Nothing in the amendments shall be construed to modify, preempt, or displace any action for damages or the liability of any person under the law of any state, whether statutory or based in common law.

Talc-containing cosmetics: The HHS secretary shall propose regulations one year after December 29, 2022 and finalize the rules 180 days after the comment period to establish testing for detecting asbestos in talc products.

(1) Not later than one year after date of enactment of this act, the secretary shall promulgate proposed regulations to establish and require standardized testing methods for detecting and identifying asbestos in talc-containing cometic products and

(2) Not later than 180 days after the date on which the public comment period on the proposed regulations closes, the secretary shall issue such final regulations.

PFAS in Cosmetic. The HHS secretary shall assess the use of perfluoroalkyl and polyfluoroalkyl substances (PFAS) in cosmetic products and the scientific evidence regarding the safety in cosmetic products, including risks. The secretary may consult with the National Center for Toxicological Research. Report must be issued not later than three years after enactment summarizing the results of the assessment conducted.

Sense of the Congress on animal testing: It is the sense of the Congress that animal testing should not be used for the purposes of safety testing on cosmetic products and should be phased out except for appropriate allowances.

Funding: $14,200,000 for 2023, 25,960,000 for 2024, and $41,890,000 for 2025-2027 have been identified for these activities. The new law provides no industry user fees.

FOOTNOTES

1 This legislation was included in H.R. 2617, the “Consolidated Appropriations Act, 2023,” as part of a year-end bill.

Article By Nancy E. Taylor and Eleanor (Miki) A. Kolton of Greenberg Traurig, LLP

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©2022 Greenberg Traurig, LLP. All rights reserved.