GUEST-POST | Rectifying a Critical Flaw in the Arbitration Fairness Act of 2009

By Philip Loree, Jr.

Introduction

The Loree Reinsurance and Arbitration Law Forum is pleased and honored that Victoria VanBuren of Disputing has invited us to guest blog on the Arbitration Fairness Act of 2009 (the “Arbitration Fairness Act”). Our blog shall likewise be featuring Victoria as a guest blogger from time-to-time.

Victoria suggested that the Arbitration Fairness Act would be a particularly pertinent topic in light of the “Arbitration Fairness Day” press conference event scheduled to take place in Washington, D.C. on Wednesday, April 29, 2009 (blogged here and here). The event is further evidence of growing public support for the Arbitration Fairness Act, which would render invalid and unenforceable predispute arbitration agreements requiring arbitration of consumer, employment, franchise and statutory civil rights disputes.

Undoubtedly the blogosphere this week will feature many calls to arms insisting that Congress promptly pass the Act. And we suspect that other posts will argue that the Fairness Act is bad for consumers and good for lawyers. Personally, we are not fans of the Arbitration Fairness Act, but for now we will leave it to others to argue that it should not be passed. This post deals with a more mundane and pragmatic question: Assuming Congress jumps onto the anti-arbitration bandwagon, what specifically could the drafters of the Arbitration Fairness Act do to address the problems the Act may create in disputes between sophisticated commercial entities?

The Problems

The Arbitration Fairness Act would, among other things, significantly revise and restructure Section 2 of the Federal Arbitration Act (“FAA”), dividing it into four subsections, 2(a) through (d). FAA Section 2, as amended (“Proposed Section 2”) would provide, in pertinent part (with newly added, key language in bold):

Sec. 2. Validity and enforceability.

(a) A written provision in . . . a contract evidencing a transaction involving commerce to settle by arbitration a controversy thereafter arising out of such contract or transaction, or the refusal to perform the whole or any part thereof, or an agreement in writing to submit to arbitration an existing controversy arising out of such a contract, transaction, or refusal, shall be valid, irrevocable, and enforceable to the same extent as contracts generally, except as otherwise provided in this title.

(b) No predispute arbitration agreement shall be valid or enforceable if it requires arbitration of–

(1) an employment, consumer, or franchise dispute; or

(2) a dispute arising under any statute intended to protect civil rights.

(c) An issue as to whether this chapter applies to an arbitration agreement shall be determined by Federal law. Except as otherwise provided in this chapter, the validity or enforceability of an agreement to arbitrate shall be determined by the court, rather than the arbitrator, irrespective of whether the party resisting arbitration challenges the arbitration agreement specifically or in conjunction with other terms of the contract containing such agreement. . . .

Proposed Section 2(c) would breed litigation over the extent to which, if at all, the Act abrogates two well-settled principles of commercial arbitration law in disputes between sophisticated commercial entities:

• The doctrine of severability, which allows arbitrators to decide enforceability and validity challenges to the contract as a whole, including the arbitration clause; and

• The rule that arbitrators may decide arbitrability questions if the parties clearly and unmistakably so agree, with their decisions on those matters subject only to the deferential standards of review applicable to all other arbitration awards (the “Own Jurisdiction Rule”).

In a multi-part post in the Loree Reinsurance and Arbitration Law Forum (available here), we explained in great detail why the Arbitration Fairness Act will generate litigation between commercial entities and how the Act might be interpreted in domestic cases falling solely under Chapter 1 of the FAA and in nondomestic cases falling under the Convention on the Recognition and Enforcement of Foreign Arbitral Awards (a/k/a the “New York Convention”) One interpretation of the Act would abrogate the doctrine of severability and the Own Jurisdiction Rule in all cases falling solely under Chapter 1 of the FAA, whereas another would abrogate that doctrine and rule only where one of the parties to the dispute alleges that the predispute arbitration agreement requires arbitration of a consumer, employment, franchise or statutory civil rights dispute, and is thus unenforceable under Proposed Section 2(b). We concluded, among other things, that the drafters have done the commercial and industry arbitration community a disservice by not clearly expressing their intent concerning the doctrine of severability and the Own Jurisdiction Rule.

We also touched briefly on two potential problems the Arbitration Fairness Act may create as respects agreements and awards falling under the Convention on the Recognition and Enforcement of Foreign Arbitral Awards, which are governed by Chapter 2 of the FAA. First, while it appears that Proposed Section 2(b) of the Act was not intended to apply to agreements falling under Chapter 2, the matter is not entirely free from doubt. That may, for example, raise a question concerning the enforceability of an arbitration clause in an employment agreement between a U.S. citizen and a company headquartered abroad.

Second, while it appears that Proposed Section 2(c) was not intended to abrogate the doctrines of severability and the Own Jurisdiction Rule in cases falling under Chapter 2, that proposition, too, is not entirely free from doubt. These uncertainties do not foster international comity and the strong federal policy in favor of international arbitration. And they apply equally to agreements and awards falling under the Inter-American Convention on Commercial Arbitration (a/k/a the “Panama Convention”), which are governed by Chapter 3 of the FAA.

The Proposed Solutions

Let us consider how the drafters might address these problems. As a threshold matter, they should give serious consideration to whether they intend to abolish the severability and Own Jurisdiction Rule in cases involving only commercial entities. It is not clear to us that they subjectively intend the Arbitration Fairness Act to have such far-reaching consequences. One of the Act’s findings suggests (but does not clearly state) that the drafters did not intend to alter the status quo in arbitrations involving only commercial entities: “The Federal Arbitration Act (now enacted as chapter 1 of title 9 of the United States Code) was intended to apply to disputes between commercial entities of generally similar sophistication and bargaining power.” But the text of the Arbitration Fairness Act suggests otherwise.

They also need to address in more definitive terms the lingering doubts concerning the Arbitration Fairness Act’s applicability to international arbitration agreements. We shall assume, for the purposes of this post that the drafters did not intend that Proposed Sections 2(b) and 2(c) apply to agreements and awards falling under Chapters 2 or 3 of the FAA, irrespective of whether those agreements and awards may also fall under Chapter 1 of the FAA.

If the drafters do intend to abolish severability and the Own Jurisdiction Rule in all cases governed solely by Chapter 1, they need to consider whether that is something the domestic, commercial arbitration community actually needs or wants, and whether the added burden on the judiciary is something that Congress is, in the circumstances, willing to impose. Irrespective of what the drafters intend, they need to express it clearly and unambiguously. This way, if and when Congress votes on the Arbitration Fairness Act, then it and its constituency will understand the full panoply of the Act’s consequences. And if the Act is passed, the courts will have no difficulty ascertaining what the drafters intended. By the same token, if the drafters intend severability and the Own Jurisdiction Rule to be abrogated only in cases where the dispute is whether an arbitration agreement falls under Proposed Section 2(b), then they equally should make that clear.

Once the drafters have decided what the intent should be, they should amend the Arbitration Fairness Act to express that intent clearly. This is hardly a daunting task. If the drafters intend to abolish severability and the Own Jurisdiction Rule in cases governed solely by Chapter 1 of the FAA, then all they need to do is eliminate the prefatory language “Except as otherwise provided in chapter” from the second sentence of Proposed Section 2(c) and replace it with “Except as otherwise provided by Federal law applicable to arbitration agreements falling under Chapter 2 or 3 of this title.” Proposed Section 2(c), as so amended, would state (with new language in bold):

(c) An issue as to whether this chapter applies to an arbitration agreement shall be determined by Federal law. Except as otherwise provided by Federal law applicable to arbitration agreements falling under Chapter 2 or 3 of this title, the validity or enforceability of an agreement to arbitrate shall be determined by the court, rather than the arbitrator, irrespective of whether the party resisting arbitration challenges the arbitration agreement specifically or in conjunction with other terms of the contract containing such agreement.

Since the severability doctrine and Own Jurisdiction Rule are part of federal law applicable to all three chapters of the FAA, the amended prefatory language would allow the courts to continue applying those rules – and other settled principles of arbitrability – to arbitration agreements falling under the Convention on the Recognition and Enforcement of Foreign Arbitral Awards and the Inter-American Convention on International Commercial Arbitration. At the same time, prior federal law on severability and the Own Jurisdiction Rule applicable to arbitration agreements falling solely under Chapter 1 would be preempted by the second sentence of Proposed Section 2(c), as so amended.

If, however, the drafters intend that severability and the Own Jurisdiction Rule be abrogated only where the question is whether an agreement governed solely by Chapter 1 falls under Proposed Section 2(b), then the drafters need to limit the scope of the second sentence of Proposed Section 2(c). This could be accomplished by (a) eliminating the “except as otherwise provided in this chapter” prefatory language”; (b) replacing that prefatory language with the phrase “Notwithstanding any Federal law otherwise applicable to agreements falling under chapter 1,”; and (c) adding “falling solely under chapter 1 and alleged to fall under subsection 2(b) of this section” between “arbitrate” and “shall”:

(c) An issue as to whether this chapter applies to an arbitration agreement shall be determined by Federal law. Notwithstanding any contrary Federal law otherwise applicable to agreements falling under chapter 1, the validity or enforceability of an agreement to arbitrate falling solely under chapter 1 and alleged to fall under subsection 2(b) of this section shall be determined by the court, rather than the arbitrator, irrespective of whether the party resisting arbitration challenges the arbitration agreement specifically or in conjunction with other terms of the contract containing such agreement. . . .

The amendment to the prefatory language buttresses the drafter’s intent that cases falling solely under Chapter 1 that do not involve disputes over the applicability of Proposed Section 2(b) will continue to be governed by existing federal law, including severability and the Own Jurisdiction Rule. The addition of the qualifying phrase “falling solely under chapter 1 and alleged to fall under subsection 2(b) of this section” clearly delineates the scope of Proposed Section 2(c)’s second sentence.

An amendment to Proposed Section 2(b) should also be added to clarify the drafters’ presumed intent that its scope is limited to agreements falling solely under Chapter 1 of the FAA. This could be accomplished by adding the phrase “falling solely under chapter 1” between “agreement” and “shall”, which would mean Proposed Section 2(b), as so amended, would read:

(b) No predispute arbitration agreement falling solely under chapter 1 shall be valid or enforceable if it requires arbitration of–

(1) an employment, consumer, or franchise dispute; or

(2) a dispute arising under any statute intended to protect civil rights.

There are no doubt various other ways the Arbitration Fairness Act could be amended to clearly express the drafters’ intent. The point is that the drafters need to express that intent clearly and explicitly. Not every sophisticated, commercial entity is involved in so many actual or potential consumer, employment, franchise or statutory civil rights arbitrations that it necessarily has a financial or other business interest that might be adversely affected by Proposed Section 2(b) of the Arbitration Fairness Act. But a significant number of these same commercial entities may utilize arbitration to resolve disputes with other commercial entities. If all commercial entities are put on clear notice of what the drafters have in mind for commercial arbitrations involving only other commercial entities, then all potentially affected parties will be able to make informed decisions about whether to support or oppose the Act. And no matter what the drafters’ intent may be, expressing it in unambiguous terms will relieve at least some of the extensive burdens that the Arbitration Fairness Act will, if enacted, impose on the state and federal judiciary.

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