Supreme Court holds Federal Arbitration Act pre-empts state law rules

February 23 2016
Litigation USA

Introduction
Facts
Decision
Comment

Introduction

In AT&T Mobility LLC v Concepcion the Supreme Court held that the Federal Arbitration Act pre-empts state-law rules barring enforcement of an arbitration agreement if the agreement does not permit the parties to utilise class procedures in arbitration or in court. Before Concepcion, the law of California included a limitation on the enforceability of arbitration agreements, but Concepcion declared that rule invalid as a matter of federal law. On December 14 2015, in DIRECTV, Inc v Imburgia, the Supreme Court held that Section 2 pre-empts a state law interpretation of an arbitration agreement based on a legal rule that the state courts had applied only in the arbitration context, concluding that the state-law ruling “does not rest ‘upon such grounds as exist… for the revocation of any contract’”.

Facts

Petitioner DIRECTV, Inc (DTV) moved to compel arbitration of respondent Imburgia’s class action after Concepcion clarified that state law could not invalidate the arbitration agreement on the ground that it barred class procedures. The state trial court denied DTV’s motion and the California Court of Appeal affirmed. The agreement, which provided that the Federal Arbitration Act governed its terms and contained a class waiver, provided that it was invalid if the “law of your state” would nonetheless require class arbitration. The appeal court held that this reference to state law meant that the parties had agreed that California law – without regard to the Federal Arbitration Act’s pre-emptive effect – would govern. Because California law requires class procedures, the court held the arbitration invalid, even though that California law was pre-empted by Concepcion.

Decision

By a six-to-three vote the Supreme Court, in an opinion by Justice Breyer, reversed the California court’s decision and remanded the case. The court started with the “elementary point of law” that “[n]o one denies that lower courts must follow this Court’s holding in Concepcion” because the Federal Arbitration Act “is a law of the United States, and Concepcion is an authoritative interpretation of the Act”. Citing the supremacy clause, the court explained that “[c]onsequently, the judges of every State must follow it”.

The court recognised the possibility that parties to arbitration agreements can select any governing law that they wished, suggesting fanciful examples such as “the law of Tibet”, “the law of pre-revolutionary Russia” or (perhaps nearly as fanciful) pre-Concepcion California law that would invalidate the arbitration agreement’s core feature – arbitration on an individual basis. The court also acknowledged that how to interpret the arbitration agreement’s selection of governing law is a question of state law. However, it underscored that any such interpretation must comply with the Federal Arbitration Act’s mandate that only generally applicable state law principles – ones that “in fact rest ‘upon grounds as exist in law or equity for the revocation of any contract’” – may be applied to interpret an arbitration contract.

Accordingly, the court explained, the question before it was whether the California Court of Appeal’s interpretation of the phrase ‘law of your state’ to “include invalid California law” was one that is generally applicable to all contracts. The answer was no:

“[W]e conclude that California courts would not interpret contracts other than arbitration contracts the same way… nothing in the Court of Appeal’s reasoning suggests that a California court would reach the same interpretation of ‘law of your state’ in any context other than arbitration.”

Breyer pointed to multiple factors:

The “ordinary meaning” of a reference to state law is “valid state law”, and accordingly there was nothing ambiguous about the reference that would make invalid state law a reasonable alternative.
In other settings, California law would interpret contract language to incorporate retroactive changes in the law.
The California Court of Appeal’s rule was arbitration specific: “we can find nothing in that opinion (nor in any other California case) suggesting that California would generally interpret words such as ‘law of your state’ to include state laws held invalid because they conflict with, say, federal labor statutes, federal pension statutes, federal antidiscrimination laws, the Equal Protection Clause, or the like.”
It was “unlikely” that California courts would “accept as a general matter and to apply in other contexts” the “view that state law retains independent force even after it has been authoritatively invalidated by this Court”.
For these reasons, the Supreme Court concluded that California’s interpretation of the phrase ‘law of your state’ did not place arbitration contracts “on equal footing with all other contracts”; accordingly, the lower court’s decision was pre-empted by the Federal Arbitration Act.

Justice Thomas filed a dissenting opinion reiterating his longstanding opposition to the application of the Federal Arbitration Act to cases in state courts.

Justice Ginsburg, joined by Justice Sotomayor, filed a separate dissent. In her view, the arbitration provision’s reference to ‘law of your state’ was ambiguous and that ambiguity should have been construed against the drafter. Her dissent also catalogued a number of policy criticisms of arbitration, relying in part on a recent New York Times article. Those criticisms have been the subject of an extensive and ongoing debate.

Comment

The impact of the decision – which is particularly notable because it was authored by Breyer, who wrote the dissent in Concepcion – is to make clear that states may not apply idiosyncratic interpretations of contract provisions in order to evade the Federal Arbitration Act. At the same time, businesses using arbitration provisions should seek to draft those provisions carefully to avoid the possibility that a court will subject the provisions to such interpretations in the first place.

For further information on this topic please contact Andrew J Pincus or Archis A Parasharami at Mayer Brown LLP by telephone (+1 202 263 3000) or email (apincus@mayerbrown.com or aparasharami@mayerbrown.com). The Mayer Brown International LLP website can be accessed at www.mayerbrown.com.

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