What to Watch for When You Sign an Arbitration Clause

Written with Mallory Miller JD

Before signing a contract, it’s important to understand how an arbitration clause can affect your rights in resolving possible future disputes.

What is Arbitration?

Arbitration is a private judicial process where parties can resolve legal disputes without using the public court system. Rooted in contract theory, arbitration can only be used when both parties contractually agree to resolve their disputes in a private process designed by them. Instead of a judge, paid for and managed by the government, the parties get to choose a private citizen to act as the arbitrator and ultimately decide the dispute. Once the arbitrator has issued a final ruling, parties can take the award to a judge to have the court enforce the decision against the losing party.

By signing a contract containing an arbitration clause, the parties agree to give up rights provided by the public court system and agree to only resolve the dispute through the arbitration process. In exchange for this agreement, parties get to decide how their case will be handled, the arbitrators (or ‘judges’) that preside over the case, the rules governing the arbitration process, and the remedies available to the winner of the case.

How Arbitration Clauses Affect your Rights

The American legal system provides certain rights and protections to parties in litigation. These rights are designed to keep the process of resolving the dispute fair, accurate, and efficient. However, when resolving a dispute in arbitration, parties forgo these rights in exchange for the ability to design the arbitration process. Three of the most impactful rights that parties give up when they agree to arbitrate include the right to judicial review, the right to appeal, and the right to established discovery rules. Though exchanging these rights for more control over the dispute resolution process is appealing to many parties, it is important to understand what these rights are and how they can impact the outcome of the dispute.

Right to judicial review

Disputes that are resolved through arbitration often forgo the right to judicial review of the dispute. Every person or organization has the right to bring a case to be heard and decided by a public court. When parties agree to arbitrate, they are often contractually prevented from invoking this right and therefore cannot bring the dispute to any court system. The parties can only resolve the disputes covered by the arbitration clause through the arbitration process. Even if a party files a lawsuit, the other party can force the court to compel both parties to arbitrate. If a party later discovers the arbitration process is not the best route for resolving the dispute, they will still be prevented from using the court system.

Right to appeal

Every civil case includes the right to appeal the outcome of the dispute where the losing party can request a higher court review its case. In addition to a review of the final outcome, parties can have a higher court review small decisions made by the lower court during the litigation that may have impacted the final ruling. These small decisions could be based on what type of evidence or arguments were presented or procedural issues of when, where, and how the case took place. When parties agree to arbitrate, they often give up the right to appeal the decision made by the arbitrator, unless signs of impartiality or bad faith are present. This means that, short of arbitrator misconduct, the parties have no way to protest the final ruling of the arbitrator or the small decisions along the way that led the arbitrator to his or her holding. This may not seem like a significant right to give up on its face, but the impact on the outcome of the dispute should be seriously considered by both parties.

Discovery rights

One of the lesser considered, but still incredibly important, rights that arbitrating parties forgo through private dispute resolution is federal or state rules of discovery. State and federal court systems have procedural rules that govern how parties will gather evidence from each other, what kind of evidence they can access, and how to force reluctant parties to turn over evidence. Discovery rules empower parties to elicit answers from each other through direct questions, produce documents upon request, and provide witnesses for questioning under oath. All of this evidence helps parties prove their cases in trial. When parties agree to arbitrate, they give up the established discovery rules and choose their own discovery rules. Parties can make up the discovery rules entirely on their own or incorporate rules created by arbitration institutions. Either way, most arbitration rules will not provide the same level of access as would state or federal discovery rules, which can make it difficult to gather the necessary evidence from the other party to prove the case.

Before you sign the contract…

Arbitration can be a powerful tool for parties to create their own dispute resolution process. Having the control to design how disputes will be heard and adjudicated has significant benefits and often leads to positive outcomes for parties. However, arbitration can be a condition in agreements among unequal parties, such as contracts between large companies and unsuspecting consumers or employees. Though they agree to arbitrate in these contracts, the less powerful party can sometimes forgo judicial rights that would have created a fairer process for their disputes. Before you sign the contract speak with an attorney about how that specific arbitration clause may limit your rights.

Jim White
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Jim White helps people and companies facing serious financial injury by bringing and defending lawsuits and representing debtors in bankruptcy. He has successfully taken on banks, large financial institutions and other corporations in “David v. Goliath” cases. You can reach him at 919-246-4676.