What Is an Arbitration Agreement? Should Employers Use Them?

It’s in every organization’s best interest to avoid class action lawsuits, not only to avoid hefty legal costs but also to keep their internal issues out of the public spotlight.

For this reason, mandatory arbitration clauses have become extremely popular amongst businesses in the past decade.

What is an arbitration agreement?

It’s a clause in a contract (often an employment contract) that requires employees to resolve all employment disputes exclusively through arbitration.

In other words, it prevents employees from taking legal action against their employer. Instead, they must solve their disputes through arbitration, which is an alternate dispute resolution process that takes place outside of a courtroom.

Employers benefit from arbitration agreements because they help avoid legal costs and penalties, and they get to keep their inner conflicts a secret from the public.

However, there’s been pushback in recent years against making arbitration agreements mandatory in employment contracts.

Why is that?

It’s because this type of contract requires an employee to waive their Constitutional right to a trial by jury if they want to keep their job.

That’s not to say that employees don’t benefit from the arbitration process at all, as there are some advantages to seeking arbitration over the court system.

Yet, there’s no denying that arbitration favors employers, which is why making arbitration agreements mandatory is controversial.

Stay tuned to learn more about arbitration agreements, including whether making them mandatory is a wise decision for your organization.

Understanding the Arbitration Process

As long as it’s agreed to beforehand, you can use the arbitration process to resolve practically any type of dispute between private parties – as long as no federal or state laws prohibit it.

Disputes over contracts, business disputes, and commercial disputes are three examples of conflicts that cannot be arbitrated.

Arbitration has been an accepted form of dispute resolution since the passing of the Federal Arbitration Act in 1929. The Act affirms the validity of arbitration settlements to both federal and state courts.

There are two ways parties going through a dispute can approach arbitration: voluntarily or through a contract.

For example, if two neighbors are having a conflict over property lines, they could agree to resolve it with an arbitrator.

Why would they go with arbitration over court?

There are a few reasons why, including:

  • Arbitration is less expensive than litigation, as far fewer costs are involved.

  • It’s a faster way to resolve disputes (court cases can drag on for years).

  • Arbitration proceedings are private, which is beneficial if you want to keep your dispute off the public record.

  • It’s completely consensual, so no arbitration can take place unless both parties agree to it.

  • Arbitration is a more flexible process than litigation, both in terms of proceedings and resolution.

Research shows that 83% of business people and 80% of attorneys agree that arbitration is a just and efficient process, which is why it’s so popular.

Yet, in the case of most employment arbitration agreements, new employees aren’t able to complete their employment contract until they agree to settle all disputes through arbitration instead of filing lawsuits.

That’s why some consider such contracts unjust, as the employee basically has no choice but to agree to arbitration.

What’s the Difference Between Binding and Non-binding Arbitration?

While arbitration proceedings resemble a court case, the process is far less formal.

For instance, the proceedings take place in a private conference room instead of an official court of law.

You’ll use a neutral third-party arbitrator instead of stating your case to a judge. Just as in a court of law, both parties will receive a chance to explain their side of the story to the arbitrator.

Once both sides have presented their case, the arbitrator makes a final decision to resolve the dispute.

The arbitrator’s decision is referred to as the arbitrator’s award, which may or may not be legally binding.

What’s the difference?

It all has to do with the enforceability of the arbitrator’s decision by the court.

A binding arbitration clause means the ultimate decision is final and will be enforced by law. Therefore, neither party can appeal the decision, and they must act on it or face legal consequences.

Conversely, a non-binding arbitration clause is not enforceable by law, and both parties are free to appeal or ignore the arbitrator’s final decision. If one party rejects the arbitrator’s decision, they can then take the dispute to an official court of law to reach a resolution.

Most of the time, both parties will agree to a binding arbitration clause due to its decisiveness and efficiency.

What Does it Mean if You’ve Signed an Arbitration Agreement?

If you’ve already signed a binding arbitration provision from your employer, it means you’re forbidden from taking legal action against them.

Instead, you’re required to resolve all disputes through the arbitration process, which can be disadvantageous for employees at times.

Some businesses have become a bit sneaky with their arbitration agreements, as they lump them in with employee handbooks or include them in very fine print. That means some employees may not even know that they’ve signed away their right to litigate.

For this reason, it’s wise for new employees to read over every clause in their employment contract to ensure nothing catches them by surprise.

If you see a page in your employee handbook that asks you to sign to confirm that you’ve understood everything so far, be wary before signing it. Comb through the handbook one last time to see if there’s anything that you’ve missed.

What should you do if you uncover an arbitration agreement in your employment contract or handbook?

While most employees feel powerless in this situation, that’s not entirely true.

If an employer has been pursuing you for quite some time, you likely have more bargaining power than you think. If you play your cards right, you may get them to remove the arbitration agreement to retain you as a new hire.

In other instances, you won’t have as much of a say, so you should consider your options carefully. If you refuse to sign the arbitration agreement, most employers will rescind your job offer, which can be detrimental.

Yet, even if you can’t convince the employer to remove the arbitration agreement entirely, you can try requesting some modifications.

Tips for Negotiating a Fairer Arbitration Agreement

If the arbitration clause in your employment contract rubs you the wrong way, you can always seek legal advice before signing it.

A lawyer will let you know if anything in the arbitration agreement is not in your best interest. That’ll help you know which aspects of the agreement to negotiate changes for with your employer.

Here are some key factors to look out for when reviewing an arbitration agreement:

  • Cost of arbitration. You don’t want to be on the hook for any associated costs, so ensure that it’s your employer who will pay for the arbitration proceedings.

  • Equal control over selecting an arbitrator. Your employer may try to use an arbitrator that they have an existing relationship with, which will grant them an unfair advantage. That’s because the arbitrator may feel they have to decide in favor of the employer in order to guarantee future business. The best way to keep things fair is for both parties to have a say in who they choose.

  • Your right to an attorney. One of the advantages of litigation is that both parties have a right to an attorney to represent their interests. Some employers may attempt to waive your right to legal counsel during the arbitration process, so you should ensure that you still have the right to have an attorney present.

  • Limited awards and remedies. Just because you’re limited to arbitration doesn’t mean you have to limit your potential awards. Should you win the arbitration, ensure you can still pursue punitive damages and damages for emotional distress.

  • Mandatory information disclosure for the arbitrator. If an arbitrator has a conflict of interest, like if they’re a previous employee of the employer, it’s crucial that you know about it. If you can, include a clause where the arbitrator must disclose any interest they may have in the dispute. You have the right to reject an arbitrator that has a conflict of interest.

What are Arbitrators, and Who Can Become One?

I’ve already mentioned that an arbitrator’s role closely mimics a judge, as they’re a neutral third party that reviews the case and delivers a final decision.

What does it take to qualify as an arbitrator?

Theoretically, anyone can identify as an arbitrator as long as both parties select them. There are no official certifications or qualifications required to obtain the title.

The only deciding factor is that both parties must agree on who will arbitrate their dispute.

While there are no qualifications, that doesn’t mean it’s common for anyone off the street to serve as an arbitrator.

It’s common for retired judges to act as arbitrators, as they’re more than familiar with dispute resolution. Moreover, most parties want someone with experience in business or employment law to act as their arbitrator.

There’s also no shortage of professional arbitrators who make a living by resolving private disputes.

What’s the Repeat Player Effect?

There have been empirical studies proving the existence of something called the ‘repeat player’ effect in arbitration, and it’s the reason why employers can gain an unfair edge over employees.

In the arbitration space, there are one-shot players and repeat players. A one-shot player or one-shot firm is a business or individual that’s never gone through the arbitration process before.

For the most part, one-shot players tend to be individuals and employees since it’s rare for someone to go through more than one arbitration process.

Repeat players are businesses or individuals who have filed multiple arbitration claims. Employers are almost always repeat players due to their increased likelihood of having to resolve disputes. They’re even more likely to be repeat players if they enact mandatory arbitration agreements.

There are a few reasons why repeat players win more arbitration cases than one-shot players.

The first is that they have experience with arbitration, so they know what to expect (and how to prepare correctly).

Next, they’ve likely worked with the same arbitrator before, who may show bias toward them to continue generating business.

The Pros and Cons of Arbitration

Arbitration has both advantages and disadvantages for employers and employees alike.

Employers favor arbitration over litigation due to the reduced cost and privacy, but there are also downsides.

Here’s a look at the top pros and cons of arbitration agreements for employers and employees.

Pros for Employers

  • Arbitration is private. Public lawsuits can be very damaging to organizations, especially if they’re being sued for discrimination or harassment. Arbitration is 100% confidential, so no word of the dispute or its resolution will reach the public.

  • No filing or court fees. Going to court is always expensive, so avoiding it whenever possible is wise for employers eager to save money.

  • It provides a speedy resolution to disputes. Arbitration moves a lot faster than court cases, which have a habit of dragging on for years with no resolution. By arbitrating conflicts, organizations can resolve issues within 15 months on average.

  • You can refuse employment to employees who don’t sign the agreement. If you work for a high-volume business that wants to avoid lawsuits, arbitration agreements are very helpful. If an employee refuses to sign the agreement, you can rescind their job offer, which solidifies your protection from litigation.

Cons for Employers

  • Mandatory arbitration agreements may discourage some employees. As stated previously, not every employee is eager to sign away their right to litigation should a dispute arise. Therefore, enacting mandatory arbitration agreements may discourage top talent from applying to your organization, which is something to consider before implementing them.

  • The inability to appeal a binding arbitration award. If you go with a binding arbitration clause and the employee wins the award, you won’t be able to appeal the decision before a court of law.

Pros for Employees

  • More flexibility in outcomes. Some employees may prefer arbitration due to its flexibility. For instance, when arbitrating a wrongful termination, the arbitrator may reinstate the employee, which isn’t something you can do in a court of law (you can only receive compensation).

  • You can choose your arbitrator. Both parties must consent to the arbitrator they choose, which provides a level of fairness you won’t receive in a court of law. If you suspect an arbitrator has an unfair bias toward your employer, you have the right to reject them.

Cons for Employees

  • The process may be one-sided. The repeat player effect mentioned before is very real, and it’s something employees should know when going into arbitration for the first time. It’s also not very likely that the employee will receive large rewards, as arbitration rewards tend to be on the conservative side.

  • Limited exchange of information. Unlike a court case, the other side isn’t obligated to share all their information with you. Whenever you’re arbitrating with your employer, the chances are very high that they’ll have plenty of information on you, placing you at a disadvantage.

Wrapping Up: What Is an Arbitration Agreement?

To summarize, the arbitration process is a quicker, more affordable alternative to litigation, but it isn’t without its downsides and controversies.

It’s undeniable that employers have an edge in arbitration, as employees only win cases 21.4% of the time. Conversely, they win 36.4% of discrimination cases in federal court, and 43.8% in state court.

Despite this, arbitration is more beneficial to employers than federal lawsuits, which is something to consider for executives and HR professionals.