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News 7.1.11

Pause Before Agreeing to the Clause: the Downside of Arbitration

by Christopher G. McAnany
A client calls and says that the contract he is about to sign has an arbitration clause—a provision calling for any dispute to be heard by an arbitrator, rather than a court. "We want arbitration don't we?" he says. Not so fast.

Colorado, like most states, has enacted the Uniform Arbitration Act, C.R.S. §13-22-201, et seq. The law provides that parties to a dispute can voluntarily agree to submit their dispute to an arbitrator, who will be empowered to issue a binding decision enforceable in the courts just like any other judgment.

Arbitration is often included as the required form of dispute resolution in employment, construction, securities, or real estate transactions. This means that if a dispute arises under the contract a party must present the matter to an arbitrator, rather than to a judge or jury.

Arbitration is distinguished from mediation, another form of alternative dispute resolution, in which a neutral third party attempts to facilitate the settlement of a dispute—but without having the authority to enter a binding decision. The thinking goes that arbitration is an efficient and cost-effective way to decide civil disputes, particularly where delays are the norm in most court dockets. So what's not to like?

First, there is the cost. Litigants routinely complain about the high cost of civil trials. Legal fees, expert costs, transcripts, and the like can make a trial costly indeed. Now consider adding the cost of an arbitrator, or three? Many arbitrators charge in excess of $300.00 per hour, and some arbitration protocols mandate a panel of three arbitrators.

Although the costs of arbitration are typically split between parties, a party to an arbitration can be faced with thousands of dollars in extra costs. For many smaller contract disputes the costs of arbitration can make it economically irrational to pursue a claim. In contrast, the courts provide dispute resolution services that are funded by general tax dollars.

Second, there is very little ability to correct errors. People (even judges) make mistakes. Our judicial system is set up to provide an appeal in most cases if a party believes that a court made an error in its decision. Clients sometimes make the mistake of thinking that if an arbitrator makes a bad ruling they can appeal the decision. In fact there is no appeal right under the Uniform Arbitration Act.

Grounds for setting aside an arbitrator award are limited to the most egregious circumstances, including fraud, corruption, or evident partiality. In the absence of proof that an arbitrator was taking bribes, it is pretty unlikely that a party can get relief from a bad arbitration decision.

Third, some arbitrators do not follow the law. Proponents of arbitration often tout the benefits of having a decision maker who is knowledgeable in the field that is the subject of the dispute, such as a construction or securities expert. But, in some cases arbitrators may have a cozy a relationship with the industries in which they specialize, and upon whom they rely for business. This can lead to an industry-friendly slant in decisions, or "splitting the baby" results which might otherwise not occur if the decision had been based solely on the law.

Thus, the selection of an arbitrator can raise a host of risks for the unwary.

All this is not to say that arbitration is never a good idea. There are many fine arbitrators, and the process can work well if the parties craft a procedure that is appropriate to the case. But, clients should give serious thought to these issues before they sign a contract containing an arbitration clause.

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