Arbitration Clauses: Watch State Law

In past articles, we have discussed how many courts once were hostile to arbitration. This led Congress to pass the Federal Arbitration Act (“FAA”), 9 U.S.C.§1 et seq., in 1925.  That Act applies in both state and federal courts and preempts any inconsistent state law in cases that involve interstate commerce.  The FAA provides, simply, that agreements to arbitrate, “shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.”  This establishes a “liberal policy favoring arbitration,” and the “fundamental principle that arbitration is a matter of contract.” AT&T Mobility LLC v. Concepcion, 563 U.S. 333, 339 (2011).  Thus, “courts must place arbitration agreements on an equal footing with other contracts.” Id. Courts are required to enforce them according to their terms, unless a party seeking to invalidate them can establish generally applicable contract defenses like fraud, duress, or unconscionability. Id.

Applying these principles over the years, courts have struck down state laws that forbid arbitration of certain types of disputes or had requirements such as putting the arbitration clause in a certain size of bold type or the like.

Drafting the arbitration clause

Past articles in this series have suggested that you be careful in clause drafting so that you make the intention to arbitrate clear.  That way a court will readily enforce the arbitration clause.  A good way to do that is usually to start with a standard clause proposed by an arbitration organization like AAA or JAMS, and modify it for your case to include the number of arbitrators and the hearing location.  If you think it wise, you can then include any other provisions concerning discovery or procedure that make sense given the parties’ circumstances.  That language is usually broad enough to include any disputes that arise between the parties concerning the agreement or its subject matter.

Still, you should check the law of the state that will govern your agreement to be sure there are no other issues to consider.  Let me give you a recent example.

Court finds an arbitration clause unclear, foreclosing enforcement

Griffoul v. NRG Independent Solar Solutions, involved a residential lease of a solar power system.  The lease had a broad arbitration provision, requiring arbitration of any claim arising out of or in connection with the lease, and specifically noting the parties were giving up any right to jury trial.  It also waived the right to any claims as part of a class in a purported class action proceeding.

The Griffouls brought a class claim in New Jersey state court for violation of New Jersey’s Consumer Fraud Act and its Truth in Consumer Contract, Warranty and Notice Act.  NRG, of course, sought to enforce the arbitration provision.   The Court refused to do so.

First the court recognized state policy in favor of resolving disputes by arbitration.  But it then said that that only goes so far.  The agreement to arbitrate must be clear.

So what was unclear about an agreement to arbitrate any disputes?  According to the Court, the clause did not warn the plaintiffs that they were giving up a right to seek statutory remedies in court.  It would seem that “any” would include anything, but the Court didn’t see it that way.

The Court also refused to enforce the class action waiver, finding it contradictory.  It found  that use of the word  “purported” to modify “class action” made waiver of a right to a class action unclear.  The Court found it wasn’t clear whether the plaintiffs were “being instructed that class action claims can only be brought through the courts, or that the preclusive effect of this provision only applies to reputed class claims and not meritorious class claims.”

Caution in drafting clauses

This leads to further caution in drafting arbitration clauses.  While most courts will say their state law favors arbitration of disputes, that means different things in different courts, apparently.  In at least one in state court in New Jersey, as we have seen, it isn’t enough to say “any” disputes must be arbitrated.  If there could be a statutory claim, you will also need to specify that it will be arbitrated, too.  In addition, the clause at issue specifically noted giving up a right to a jury trial.  Presumably, without such a clause, there could be a further ground to question the parties’ agreement to arbitrate.

And then there is the class action waiver.  Apparently, the clause would have to explain that any effort to bring a class claim, meritorious or not, would be foreclosed.

What about the FAA?

The Griffoul case involved a consumer claim and an attempt to use an arbitration clause to foreclose relief in court.  While the United States Supreme Court has upheld such arrangements under the FAA, many courts simply aren’t comfortable with that.  They may find a way to apply the particular facts before them to foreclose an attempt to use an arbitration clause to foreclose meaningful relief to consumers, no matter what the Supreme Court might say about it.

But if the FAA preempts state law, you may say, how can this be so?  The Supreme Court has pretty well settled the issue in favor of upholding arbitration clauses.

In fact, the Griffoul court was well aware of Supreme Court precedent, and made a point to distinguish it.  It said it was not attacking arbitration in the case on policy grounds, but rather based on the lack of clarity of the provision. Still, as noted, the provision doesn’t really appear all that unclear, particularly as to statutory claims.  As noted, “any” usually means “any.”

What about commercial cases?

One would think that the concerns likely to drive a decision like Griffoul do not normally apply to commercial or intellectual property arbitration, which is the focus of these articles.  In commercial matters, the parties tend to be sophisticated with sufficient bargaining power to foreclose the concerns that large companies are forcing consumers to give up rights.  Nonetheless, the hostility to what a court may perceive as an attempt to foreclose meaningful remedies to consumers can create legal precedents that can affect your commercial or IP arbitration clause.

Check states cases

So, before finalizing your next arbitration clause, take a close look at the law in the state court where your arbitration clause may be challenged. Then fill in any specific provisions you need to to avoid problems in that state.  You will likely find this won’t be a problem in most states, particularly for commercial cases.  But if arbitration is important to you, a little extra effort is in order.