“I can’t believe they [fill in the blank]. I am going to sue them!” Mass media and others like to complain that we live in a litigious society. Conflicts arise every day in our personal and business worlds, ranging from merchants who fail to provide goods as promised to the contractor on the construction site who fails to install the roof in accordance with the plans and specifications. Many of the disputes are readily resolved, but some linger on without resolution and have the potential to fester into litigation. Does that mean we can file a lawsuit over the issues? As with many things in life, it depends.
The Contract Rules
Contracts form the backbone of many of our relationships. Sometimes you are aware of the contracts and are able to meticulously review and negotiate their content. Construction contracts are frequently subject to multiple reviews and revisions by the parties. Other times you may not even be aware of the contractual relationship. When you use your debit card to pay for your morning coffee, its use is governed by a contractual agreement between you and your bank. For these transactions, you may only vaguely recall seeing the contract. However, your ability to file suit is determined by the language in that contract. Many of the agreements contain mandatory dispute resolution clauses. For example, the service agreement for an online account at a national bank contains the following clause:
YOU HEREBY AGREE THAT ANY DISPUTE, CLAIM OR CONTROVERSY ARISING NOW OR IN THE FUTURE UNDER OR RELATING IN ANY WAY TO THIS AGREEMENT, OR TO THE ONLINE SERVICE (“CLAIM”), REGARDLESS OF THE NATURE OF THE CAUSE(S) OF ACTION ASSERTED (INCLUDING CLAIMS FOR INJUNCTIVE, DECLARATORY, OR EQUITABLE RELIEF), SHALL BE RESOLVED BY BINDING ARBITRATION.
These clauses are contained in a wide variety of agreements. Unless it is modified, the AIA Document A201 provides that “Claims not resolved by mediation shall be decided by arbitration.”
Support for Arbitration
For many situations, arbitration is an appropriate and effective means of resolving the disputes. For some disputes, the parties wish to keep the resolution of the dispute confidential. Any litigation would produce public records revealing the ultimate decision reached by a finder of fact. Arbitration provides an opportunity for the dispute to be resolved without public disclosure. The parties to the dispute may consider this the prime benefit derived from arbitration.
While arbitration has been used to resolve disputes for centuries, its acceptance as a dispute resolution mechanism that could be agreed upon before a dispute arose is a relatively recent event. In 1925, the Federal Arbitration Act was passed in an effort to eliminate the prejudice against arbitration shown by the court system. The effort was very successful.
In addition to the frequent uses in standard form contracts, courts at all levels have consistently upheld enforcement of mandatory arbitration provisions. At the very top, the United State Supreme Court said, in Allied-Bruce Terminix Cos. v. Dobson, 513 U.S. 265, 270 (U.S. 1995), that the basic purpose of the Federal Arbitration Act is to overcome courts’ refusals to enforce agreements to arbitrate. One level down, the United States Court of Appeals for the Sixth Circuit noted, in Da Hua Non-Ferrous Metals Co. v. W.D. Mask Cotton Co., 1997 U.S. App. LEXIS 10644 (6th Cir. 1997), that a federal policy favors arbitration. This policy requires courts to enforce agreements to arbitrate rigorously and to resolve any doubts concerning the scope of arbitrable issues in favor of arbitration.
At the state level, the Ohio Supreme Court recognized that a federal policy strongly favors enforcement of arbitration agreements. The decision was Academy of Med. v. Aetna Health, Inc. (Ohio 2006), 108 Ohio St. 3d 185, 192.
One recent court decision even upheld an arbitration agreement where the word “arbitration” was never mentioned. That happened in Health Care Logistics, Inc. v. Adonix Transcomm, Inc , 2007 U.S. Dist. LEXIS 48294 (S.D. Ohio), where the court considered the failure to call the process “arbitration” was of no moment.
Like using your debit card to purchase your morning coffee, many transactions occur without any awareness that they are governed by an agreement to arbitrate any dispute. Since you are not aware of the requirement, does that mean you are not required to arbitrate? In a word: No. You are presumed to have read and understood the contract terms. A typical court response to the argument is found in the case of Truckenbrodt v. First Alliance Mortg. Co., 1996 U.S. Dist. LEXIS 22459 (N.D. Ill.), where the court found that a person’s “failure to understand or read the terms of an arbitration clause does not excuse her from the contract’s terms.”
Not All Positive
While arbitration is now widely accepted as a predetermined method of resolving disputes, it still has its critics. For those not involved in the dispute, the confidential nature of arbitration may be not an advantage but a disadvantage. Why? Because the decisions reached in arbitration do not create a firm precedent.
For parties involved in the dispute, the limited ability to appeal the decision of the arbitrator can be one of the main disadvantages.
Based on the above, you might think that courts always uphold arbitration clauses. While it is true that the vast majority are upheld, like any other contract term, arbitration clauses are subject to being invalidated if they are unconscionable.
In order for a contract term to be deemed unconscionable by the courts, there must be an absence of meaningful choice for the contracting parties, coupled with draconian contract terms unreasonably favorable to one party. At first glance it may not appear to be that difficult to have many arbitration clauses declared unconscionable. However, most courts would not agree. For courts to find an arbitration clause unconscionable, the bar is set very high.
The majority of cases where arbitration clauses were invalidated involved consumer transactions. For example, in Williams v. Aetna Fin. Co. (Ohio 1998), 83 Ohio St. 3d 464, the Ohio Supreme Court upheld a lower court’s decision striking an arbitration clause as unconscionable. The case arose when an elderly homeowner was approached by a contractor in an effort to solicit work. The homeowner acknowledged that the work was needed, but she did not have the funds to pay for it. So the contractor arranged for a loan from Aetna Finance, secured by the property.
The homeowner signed a $2,936.64 promissory note at an annual interest rate of 17.81 percent, to be repaid at $190 per month over 15 years. Aetna charged her $1,034.93 for a loan origination fee and points, and also charged $25 for a commitment letter and $417 for the recording fee, title insurance, title search, and appraisal.
The promissory note contained a mandatory arbitration provision. When the contractor failed to complete the required work, the homeowner stopped making payments and filed suit. Aetna filed a motion to have the proceedings moved to arbitration. The Ohio Supreme Court found that the trial court’s decision to deny Aetna’s request was tantamount to finding the clause unconscionable.
A Shift in the Winds?
For unwary consumers, the bar might be lowered. In July of this year, Senators Feingold of Wisconsin and Durbin of Illinois introduced Senate Bill 1782. Titled the Arbitration Fairness Act of 2007, the bill would amend the Federal Arbitration Action (chapter 1 of Title 9 of the United States Code). The bill would provide that “no predispute arbitration agreement shall be valid or enforceable if it requires arbitration of (1) an employment, consumer, or franchise dispute.”
Does this mean we are seeing the beginning of the end for arbitration? Not likely. For many non-consumer transactions, arbitration provides the most cost-effective and efficient means of receiving a decision from a third-party neutral. As with every other contract term, the key is reading and understanding the contract. A well-thought-out dispute resolution process, whether it is binding arbitration, mediation, or litigation, is the key to effective dispute resolution.