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Posted: January 26, 2015

Client Q&A: The contract I signed has an arbitration clause, does that mean I cannot file a lawsuit?

The contract I signed has an arbitration clause, does that mean I cannot file a lawsuit?

By John M. Lundin

In the past several decades, it has become increasingly common that business- and consumer-related contracts provide that a dispute over the contract has to be decided by one or more arbitrators–private persons chosen by the parties–rather than a court. Arbitration, when all goes well, can provide a way for parties to a contract to resolve their disputes quickly and relatively inexpensively.

General Rule: If You Agree to Arbitrate, You Have to Arbitrate

Generally speaking, if you have agreed to arbitrate a dispute, you give up the right to have a court decide it in a lawsuit. There are limits to this rule. If, for example, the parties to a contract with an arbitration provision nonetheless go ahead and litigate their dispute in court, a party may not be able later to demand that it be arbitrated instead.

Who Decides if You Have Agreed to Arbitrate?

In general, if the parties disagree whether a dispute should be arbitrated, they can ask a court to decide whether the contract requires them to arbitrate. Similarly, if a party brings a lawsuit on a contract with an arbitration clause, the other party can ask the court to stay the lawsuit and order the parties to arbitrate. It is not uncommon for arbitrations to start with either a lawsuit seeking to compel a party who has refused to arbitrate to do so or a motion to stay a pending lawsuit and direct the parties to arbitrate.

Do the Rules of Procedure Used By Courts Apply to Arbitrations?

Most commercial arbitrations are covered by federal law–the Federal Arbitration Act–because the act covers any dispute affecting interstate commerce. Decades of court decisions have interpreted “interstate commerce” very broadly to include most business transactions. For arbitrations not covered by the Federal Arbitration Act, there are state laws governing arbitration. While there are differences between federal law and the laws of the states, they tend to be very similar.

In general, there is no legal requirement that arbitrators follow federal or state rules of court procedure or evidence. However, many organizations that host arbitrations, such as the American Arbitration Association, have their own basic procedural rules that their arbitrators agree to follow. In addition, in practice, because arbitrators usually are lawyers, they and the parties’ lawyers often decide to follow basic court procedural and evidentiary rules in commercial arbitrations. However, they are not usually required to do so, and it does not normally invalidate the arbitration if they do not.

Still, arbitrations usually include a pre-hearing exchange of documents and a hearing at which the parties can present testimony and other evidence on their behalf. After considering the evidence and the parties’ arguments, the arbitrator (or arbitrators, because complex commercial cases often use more than one arbitrator) will issue a decision, called an award. Sometimes the award has a written explanation of the arbitrator’s factual findings and legal conclusions, just like a court’s decision. Sometimes, however, the award simply identifies the claims, who prevailed on them, and the amount of the damages awarded (if applicable). It is not unusual for the parties to agree to such a bare-bones award because it makes it harder to challenge the award, as discussed below.

Will a Court Review the Arbitrator’s Decision?

Under federal and New York law, you generally cannot appeal an arbitral award to a court the way you can appeal a trial court decision to an appellate court. Still, if you are unhappy with an arbitral award, you can ask a court to vacate it, which means that it is rendered without legal effect, as if it had never been rendered.

The standard for vacating an arbitral award is a high one, and most attempts to vacate awards fail. For awards covered by the Federal Arbitration Act (which, as discussed above, most business-related arbitrations are), courts generally will vacate an award only if you can show that (1) the award was “procured by corruption, fraud, or undue means”;(2) there was “evident partiality or corruption in” one of “the arbitrators”; (3) the arbitrators were “guilty of misconduct in refusing to postpone the hearing, upon sufficient cause shown, or in refusing to hear evidence pertinent and material to the controversy; or of any other misbehavior by which the rights of any party have been prejudiced”; (4) the arbitrators “exceeded their powers, or so imperfectly executed them that a mutual, final, and definite award upon the subject matter submitted was not made”; or that (5) the arbitrators exhibited a “manifest disregard” of the law. (Note that some courts do not recognize “manifest disregard” as a basis for vacating an award).

What should be apparent from this list is that it is not enough to show that the arbitrators got the law wrong or misconstrued a piece of evidence. Except for the “manifest disregard” basis, the grounds for vacating an award focus on improprieties in the arbitral process, not disputes over the law or interpretation of evidence.

If the Federal Arbitration Act does not govern the arbitration, you have to look to state law to determine what rules govern whether you can vacate an award. In general, state laws also set a high burden for vacating an award. For example, under New York law, an award can be vacated for (1) “corruption, fraud or misconduct in procuring the award”; (2) arbitrator “partiality” (3) the arbitrator “exceed[ing] his power or so imperfectly execut[ing] it that a final and definite award upon the subject matter submitted was not made”; or (4) the arbitrator’s failure to follow New York arbitral procedure. The New York standard is thus very similar to the federal standard.

Does that mean that there is no point in trying to get an arbitral award you think is wrong vacated? No. Judges sometimes find that one of these high standards has been met. But you have to be realistic about what constitutes grounds to vacate an award and should go into an arbitration assuming that you most likely will be stuck with the decision. In theory, this is one of the advantages of arbitration: eliminating the time, expense and uncertainty of appeals. (This theoretical advantage does not necessarily exist in practice when it comes to complex commercial disputes, which are commonly challenged notwithstanding the high threshold for overturning an arbitral award.)

How Do I Enforce an Arbitrator’s Decision

In New York, if you want an award to have the same legal effect as a court’s judgment–allowing you to use all of the judgment collection devices provided by New York law–you have to ask a court to “confirm” the award. Getting an award confirmed is supposed to be all but automatic once you make the application to have it confirmed.  However, as a practical matter, it is very common that when the winning party seeks to confirm the award, the losing party reflexively cross-moves to vacate the award on one of the grounds discussed above, resulting in at least some litigation.

Once a court confirms the award, you can enforce it just as if it were a court judgment, including garnishing the judgment debtor’s wages and attaching the judgment debtor’s property.

Conclusion

As you can see from even this general and high level discussion, there are a lot of issues to consider before deciding to agree to an arbitration clause in a contract or if you are required to arbitrate a dispute. We have extensive experience both in representing parties in arbitrations and in court proceedings relating to arbitrations. If you have questions regarding any of these issues, give us a call and we can go over your specific situation with you.

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