For the bankruptcy community, arbitration cases in the Supreme Court are important because the justices have never granted certiorari to decide whether arbitration agreements are generally enforceable in bankruptcy.
For example, would the high court require a debtor to arbitrate the allowance of a claim or the rejection of a contract or the question of whether a plan impairs a creditor’s claim?
This term, the Supreme Court has ruled on two arbitration cases. Both times, the Court has taken a less expansive approach, finding no special rules impelling federal courts to enforce arbitration agreements.
On March 31, Justice Elena Kagan wrote for the 8/1 majority that there must be an independent basis of federal jurisdiction to mount an action in federal court to confirm (or to attack confirmation of) an arbitration award. See Badgerow v. Walters, 20-1143, 142 S. Ct. 1310, 212 L. Ed. 2d 355 (Sup. Ct. March 31, 2022). To read ABI’s report, click here.
Writing for the unanimous Court on May 22, Justice Kagan overruled the majority of circuits, which had held that a “party can waive its arbitration right by litigating only when its conduct has prejudiced the other side.”
Aligning the Supreme Court with the minority of circuits, Justice Kagan held that “the [Federal Arbitration Act’s] ‘policy favoring arbitration’ does not authorize federal courts to invent special, arbitration-preferring procedural rules.”
The Employer’s Waiver of Arbitration
An hourly worker had signed an arbitration agreement when she accepted employment. She later brought a purported class action against the employer in district court in Iowa, alleging violations of the Fair Labor Standards Act.
The employer filed and lost a motion to dismiss. Answering the complaint, the employer raised 14 affirmative defenses, but not arbitration. Eight months into the lawsuit, the employer filed a motion to stay the litigation and compel arbitration.
The Eighth Circuit had previously held that a party could waive arbitration only if there were prejudice to the other party. The district court ruled that the prejudice requirement had been satisfied, but the Eighth Circuit reversed in a 2/1 opinion. The dissenter in the appeals court “raised doubts” about the prejudice requirement, Justice Kagan said.
The Supreme Court granted certiorari to resolve a circuit split. According to Justice Kagan, nine circuits “have invoked ‘the strong federal policy favoring arbitration’ in support of an arbitration-specific waiver rule demanding a showing of prejudice.” The Seventh and the District of Columbia Circuits “have rejected that rule,” Justice Kagan said.
Ruling Based on Principles of Contract Law
Without deciding, Justice Kagan assumed that federal courts properly invoke federal law on waiver in arbitration cases. She tackled the question of whether courts “may create arbitration-specific variants of federal procedural rules, like those concerning waiver, based on the FAA’s ‘policy favoring arbitration.’”
“Outside the arbitration context,” Judge Kagan said, “a federal court assessing waiver does not generally ask about prejudice.” Instead, she said, “the court focuses on the actions of the person who held the right; the court seldom considers the effects of those actions on the opposing party.”
The Eighth Circuit had applied a “rule found nowhere else,” Judge Kagan said.
Justice Kagan’s opinion has the effect of putting limits on the policy favoring arbitration. She said that the “policy is to make ‘arbitration agreements as enforceable as other contracts, but not more so.’ Prima Paint Corp. v. Flood & Conklin Mfg. Co., 388 U.S. 395, 404, n. 12 (1967).”
Justice Kagan held that “a court must hold a party to its arbitration contract just as the court would to any other kind. But a court may not devise novel rules to favor arbitration over litigation.” She explained that the policy “is about treating arbitration contracts like all others, not about fostering arbitration.” [Emphasis added.]
Justice Kagan vacated the judgment of the Eighth Circuit and remanded for the lower court to “focus” on the employer’s conduct. “Our sole holding today is that it may not make up a new procedural rule based on the FAA’s ‘policy favoring arbitration,’” she said.
Observations
The two arbitration opinions this term by Justice Kagan are the latest installments in the Supreme Court’s recent push to limit or cut back on the adoption of federal common law.
In Rodriguez v. F.D.I.C., 140 S. Ct. 713, 206 L. Ed. 2d 62 (Feb. 25, 2020), Justice Neil M. Gorsuch used a bankruptcy case to rule that federal courts may not employ federal common law to decide who owns a tax refund when a parent holding company files a tax return but a subsidiary generated the losses giving rise to the refund. To read ABI’s report, click here.
To this writer’s way of thinking, it is questionable whether there is any longer a federal policy favoring arbitration. Justice Kagan’s opinion makes enforcement of an arbitration agreement nothing more than a question of contract interpretation.
Let us assume that a creditor has an otherwise enforceable arbitration agreement in a contract with a debtor in bankruptcy.
It goes without saying that the contract bends to the plethora of rights conferred by the Bankruptcy Code on debtors and trustees. That is to say, contracts are enforceable only to the extent permitted by the Bankruptcy Code, and the Code presumes that virtually all disputes are relegated to the district or bankruptcy courts, absent remand or modification of the automatic stay.
But here’s the rub: The Supreme Court has long held that courts must compel arbitration unless a federal statute manifests a clear intention to override the FAA. Does the Bankruptcy Code manifest a clear intention to override an arbitration agreement?
Is “clear intention” still the standard, or has it been modified by focusing on contract interpretation?
For the bankruptcy community, arbitration cases in the Supreme Court are important because the justices have never granted certiorari to decide whether arbitration agreements are generally enforceable in bankruptcy.
For example, would the high court require a debtor to arbitrate the allowance of a claim or the rejection of a contract or the question of whether a plan impairs a creditor’s claim?
This term, the Supreme Court has ruled on two arbitration cases. Both times, the Court has taken a less expansive approach, finding no special rules impelling federal courts to enforce arbitration agreements.