New rules and model clauses released by the Hong Kong and London arbitral institutions highlight the importance of choosing the law governing the arbitration agreement itself

You may be aware that an arbitration agreement is separable and distinct from the main contract between the parties. But did you know that an arbitration agreement can be governed by a law that is different to the governing law of the main contract, and that parties can choose that law in advance?

In any contract with an arbitration clause, up to three different laws may come into play:

  1. the substantive law of the contract (the law that is applied to determine the merits of the dispute);
  2. the law of the seat of the arbitration (the law which normally affects procedural matters such as the appointment of the Tribunal and an application to set aside an award); and
  3. the law of the arbitration agreement (which governs the formation,  interpretation and enforcement of the arbitration agreement).

Recognizing that parties often do not turn their minds to the third law, both the Hong Kong International Arbitration Centre (HKIAC) and the London Court of International Arbitration (LCIA)  have given consideration to this issue. This month the HKIAC released an updated model clause which includes specific wording prompting parties to consider choosing a law to govern their arbitration agreement. 

The revised Arbitration Rules of the LCIA (which come into effect on 1 October 2014) include a new provision which expressly states the law governing the arbitration agreement is the law of the seat, unless the parties have agreed otherwise (Article 16.4).

The LCIA and HKIAC are the first leading arbitral institutions to address this issue specifically, and we suspect that others will soon follow suit.

Choosing the law of the arbitration agreement matters

The law of the arbitration agreement governs the formation, validity, interpretation and enforcement of the arbitration agreement itself.   That law can vary between jurisdictions. There may even be dramatic differences between, for example. common law jurisdictions such as England, Australia and India and civil law jurisdictions such as Germany, France and China. 

The most frequent practical consequence arises in multi-party or multi-contract arbitrations, which are increasingly common in large commercial  disputes.  Such disputes often involve subsidiaries and other related entities who are not party to the contract and thus may not have consented to and may not be bound by the arbitration clause.  Generally speaking, common law jurisdictions adopt a narrower view of consent than civil law jurisdictions, and therefore will only allow non-signatories to be considered "parties" to an arbitration agreement in limited circumstances.  Even within the common law systems themselves, there can be considerable divergence.  Parties that are aware of these differences and choose an appropriate law place themselves at a considerable advantage when a dispute arises.

What happens when no law is specified?

When no law is specified, a court or tribunal will need to choose a law to govern the arbitration agreement.  Again, there is much divergence between jurisdictions. Some jurisdictions apply the law of the seat of the arbitration; others apply the substantive law of the contract.  The English courts look to the express or implied choice of the parties, or otherwise the law with the "closest and most real connection"' to the dispute. The Australian courts have adopted a similar approach.

In short, therefore, not specifying the law of the arbitration agreement can lead to considerable uncertainty and delay in resolving a dispute.   Specifying the law of the arbitration agreement either expressly (as in the HKIAC model clause) or through the operation of the arbitral rules (the approach adopted by the LCIA) removes that uncertainty.

Actions to consider

Regardless of the arbitral rules being used, parties should carefully consider and seek advice on the best law of the arbitration agreement for their circumstances.  Once a law is chosen, make sure the arbitration agreement expressly reflects this choice.  For an example, click on the link to view the HKIAC model arbitration clause.