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Wednesday, August 14, 2013

Seventh Circuit Compels Arbitration Even Though the Named Arbitral Body No Longer Exists

7th CirJoyce Green alleges that two companies doing business as "The Cash Machine" violated the Truth in Lending Act (TILA) by misstating the interest rate on her pay-day loan.  Her loan agreement provided for binding arbitration "under the Code of Procedure of the National Arbitration Forum."  Although the agreement dates from 2012, the National Arbitration Forum (NAF) had ceased taking consumer cases in 2009, when a district court found it biased it in favor of merchants.  When defendants moved to compel arbitration, the Distirct Court found the non-existence of the named arbitral body fatal to the arbitration provision, which it struck.  The Distirct Court denied defendants' motion to compel arbitration.

In Green v. U.S. Cash Advance Illinois, LLC , decided July 30, 2013, the Seventh Circuit reversed the Distirct Court and compelled arbitration by a 2-1 vote.  Chief Judge Easterbrook, writing for the majority, notes that the arbitration agreement provides only that the arbitration will be governed by the rules of the NAF (the Rules), not that arbitration be in that forum.  Those Rules provide for severability -- that is, if any provisions of the Rules are found to be unenforceable, the remainder of the Rules remain in effect.  The Rules also contain the following provision:

If Parties are denied the opportunity to arbitrate a dispute, controversy or Claim before the Forum, the Parties may seek legal and other remedies in accord with applicable law.

Judge Easterbrook reads that provision as permitting a judge to appoint an aribter pursuant to the Federal Arbitration Act, 9 U.S.C. § 5.  In support of this reasoning, Judge Easterbook cites opinions from the 3rd and 11th Circuits, both of which held that the identity of the arbitral forum is not integral to an arbitration agreement.  A court may thus reform an arbitration agreement by appointing an aribter under § 5, which permits a judge to appoint an arbiter if none is specified in the agreement.  On Judge Easterbrook's reading of the agreement, that is the case here.  Moreover, it would make no sense to conclude, based on the unavailability of the NAF, that the parties had agreed to litigate rather than arbitrate their disputes.  It is far more reasonable to construe the agreement as continuing to evidence the parties' consent to arbitration.

Judge Hamilton wrote a long and passionate dissent, which begins:

Despite the surface simplicity of its logic, the majority has actually made an extraordinary effort to rescue the payday lender- defendant from its own folly, or perhaps its own fraud.

and continues

The majority’s reasoning departs from the contractual foundation of arbitration. It puts courts in the business of crafting new arbitration agreements for parties who failed to come to terms regarding the most basic elements of an enforceable arbitration agreement. Section 5 of the Federal Arbitration Act need not and should not be read to authorize such a wholesale re-write of the parties’ contract. It certainly should not be read to rescue an arbitration clause on behalf of the clause’s author when the author knew or should have known that its designated arbitrator was unavailable. 

In dissenting, Judge Hamilton relies on the Second Circuit's reasoning in In re Salomon Inc. Shareholders’ Derivative Litigation, 68 F.3d 554 (2d Cir. 1995), which leaves the parties in the court system when their arbitration agreement "utterly fails."  Here, for Judge Hamilton, the arbitration agreement fails because defendants were either being negligent or deliberately deceptive in invoking an arbitral forum that had been shut down three years earlier for consumer fraud.  Judge Hamilton gives little weight to Joyce's alleged "agreement" to the arbitral forum because:

The payday loan agreement that Green signed was certainly a contract of adhesion. Green had no bargaining power over its terms, including the arbitration clause. The idea that she actually agreed, in a subjective sense, to any arbitration clause at all therefore requires some rather heroic assumptions. 

Judge Hamilton is unimpressed with the Majority's reading of the arbitration provision.  By invoking the Rules, the parties could only have intended to identify NAF as the forum for arbitration since Rule 1(A) states, “This Code shall be administered only by the National Arbitration Forum or by any entity or individual providing administrative services by agreement with the National Arbitration Forum.” [emphasis added]  Judge Hamilton reads Rule 48(D) as similarly requiring arbitration either in the NAF or nowhere.  The Majority ignores these provisions based on the Rules' severability provision, but severability arises only where specific provisions are found to be unenforceable, and there is no reason not to enforce either Rule 1(A) or Rule 48(D) as between these parties.  

As for the Majority's reasoning on Section 5 of the FAA, Judge Hamilton notes that, while Circuit Courts have split on its scope, no court has gone so far as to find "a correctable lapse where a drafter has at least negligently named an arbitration forum that was never available."  Judge Hamilton again invokes In re Salmon, in which the Second Circuit refused to name a substitute forum for arbitration when the forum to which the parties had agreed was unavailable.  Judge Hamilton rejects the Third Circuit's ruling in Khan v. Dell, Inc., 669 F.3d 350 (3d Cir. 2012), on which the majority relies, as both poorly reasoned and distinguishable.  Khan also involved a challenge to NAF arbitration.  The case is poorly reasoned, according to Judge Hamilton, because the court ignored clear language in the arbitration agreement that provided that the (unavailable) NAF was to be the exclusive forum for arbitration.  The case is distinguishable because there at least the NAF was available in 2004 when the parties entered into their arbitration agreement.  

There is more to Judge Hamilton's dissent, and it is all very interesting, but this post is already very long and people interested in the case should read it for themselves.  As there is a Circuit split, courts are likely to return to this issue in future cases.

[JT]

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