(Adds details from decision, settlement with fraternity)
By Jonathan Stempel
NEW YORK, Sept 19 (Reuters) - A federal appeals court on Tuesday revived a defamation lawsuit brought by three University of Virginia graduates against Rolling Stone magazine over a now-retracted article describing an alleged gang rape at their fraternity.
The 2nd U.S. Circuit Court of Appeals announced its decision two days after Rolling Stone publisher Jann Wenner put his majority stake in the New York-based magazine up for sale. It is unclear how the decision might affect the sale process.
By a 3-0 vote, the appeals court said a lower court judge erred in dismissing the lawsuit by the former members of the Phi Kappa Psi fraternity at the center of the November 2014 article "A Rape on Campus," written by Sabrina Rubin Erdely. She and Wenner Media were also named as defendants
While calling it a "close call," the appeals court said plaintiffs George Elias IV and Ross Fowler plausibly alleged that the article was "of and concerning" them, separate from the fraternity, though it mentioned neither by name.
By a 2-1 vote, the court also endorsed a "small group" defamation theory offered by Elias, Fowler and a third plaintiff, Stephen Hadford, who was also not mentioned in the article, given Phi Kappa Psi's "prominence" on the Charlottesville, Virginia, campus.
Tuesday's decision was written by Judge Katherine Forrest, who normally sits on the federal District Court in Manhattan.
The appeals court returned the case to U.S. District Judge Kevin Castel in Manhattan, who in June 2016 dismissed the lawsuit, including claims over a podcast by Erdely.
Wenner Media said it was disappointed with the decision, but "confident that this case has no merit."
Alan Frank, the plaintiffs' lawyer, did not immediately respond to requests for comment. The plaintiffs graduated in 2013.
Erdely's article described a September 2012 alleged rape of a student named Jackie at the Phi Kappa Psi house, and suggested that gang rapes might have been common there.
The article amplified a national debate over sexual violence on college campuses, before questions arose over the reporting.
In April 2015, Rolling Stone retracted the article and apologized to fraternity members, other students and administrators.
The dean of Columbia University's journalism school, Steve Coll, issued an accompanying report calling the case "a story of journalistic failure that was avoidable."
In June, Rolling Stone reached a $1.65 million settlement with the fraternity.
Two months earlier, it reached a settlement with University of Virginia administrator Nicole Eramo, after a jury awarded her $3 million in damages, a verdict that the university had been appealing. (Reporting by Jonathan Stempel; Editing by Bill Trott and Leslie Adler)