May/June 2018

Interested in a Better Mousetrap? Arbitration: It’s About Time!

Jeffrey Wurst observes federal judges currently spend most of their time handling criminal and discrimination cases rather than commercial finance. As a result, the judges are not as knowledgeable about this area, and the cases take longer to resolve. Looking to build a better mousetrap, Wurst has hit on arbitration to resolve commercial disputes in a fair and timely manner.



Jeffrey A. Wurst, Partner, Ruskin Moscou Faltischek

Jeffrey A. Wurst, Partner, Ruskin Moscou Faltischek

For more than 30 years, I have enjoyed a healthy legal practice documenting loan transactions and recovering payments. I have appeared in federal and state courts all over the country, but I always preferred the quality of the judges in the Commercial Part of the New York Supreme Court in Manhattan. They were the most knowledgeable judges in the country for matters involving commercial lending, the UCC, inter-creditor issues and other issues involving commercial finance. But not anymore.

It is not the quality of the judiciary that is deficient, but the knowledge level and experience in this legal area that is less than it was.

As I find myself in federal courts around the country, I have realized federal judges spend most of their time on criminal and discrimination cases. Some have never published a decision on a commercial matter let alone a commercial finance matter. Thus, it should be of no surprise when the process gets bogged down and motions which should be granted are denied because a judge agrees with a defendant that issues of fact exist that warrant a trial, even when those issues are insufficiently plead or waived in the loan agreement.

Alternatives to Litigation

Having felt some frustration with the judiciary, I considered alternatives to the long and expensive process of traditional litigation and approached the American Arbitration Association (AAA) to explore creating a better mousetrap.

Arbitration is not a new concept for commercial lenders. Virtually all lenders I know use arbitration provisions in their employment agreements. Few use them in their loan agreements, although some have started. It is definitely worth exploring.

As early as 1998, the AAA and the American College of Commercial Finance Lawyers jointly published a booklet, Resolving Commercial Financial Disputes — A Practical Guide. The booklet included sample clauses and mediation and arbitration rules. AAA amended and republished the commercial finance arbitration rules in 2005 and revised it several years later after revising its Commercial Arbitration Rules. In April 2011, the American Bar Association issued its Final Report and Supplementary Arbitration Rules for Commercial Finance Transactions.

While 20 years have passed since the initial publication of the Practical Guide, use of arbitration in commercial finance disputes remains rare.

Advantages and Disadvantages

In a March 2018 New York Law Journal article, the writer suggested five reasons to include arbitration clauses and five reasons not to. The reasons to include the provisions were participation in the selection of the arbitrator, faster process, lower cost, more comfortable setting and privacy.

The disadvantages included unpredictability, limitations on the process, costs higher than anticipated, non-appealability and the arbitrator not being bound by the law. However, each of the disadvantages can be addressed in a properly drafted arbitration clause. Institutions like the AAA and CPR now have free online clause-building tools to walk attorneys through the complete drafting process.

At least one major lending institution is using an arbitration clause in some of its loan documents. Its detailed arbitration provision provides for binding arbitration and arbitration by AAA. It stipulates the terms contained in the arbitration clause will prevail over any inconsistency with AAA’s rules. The provision preserves the bank’s rights to provisional remedies such as replevin, injunction and the appointment of a receiver, and reserves the right to foreclose against real or personal property. It also calls for a single arbitrator for disputes of up to $3 million and a three-arbitrator panel for those above.

Qualifications of the arbitrators are carefully defined, including specification of years of experience in the substantive area of the law. The arbitrator(s) are required to follow the substantive law of the designated state. It also limits discovery — often the costliest item in traditional litigation — and requires the proceedings be concluded within 180 days of filing.
Swift Judgement

In comparison, a fast-track litigation determined on a motion for summary judgment will not be resolved in such a quick timeframe. A court decision is rarely issued within 90 days of the final submission or hearing and typically takes much longer. AAA rules require a decision to be rendered within 30 days of the hearing’s close.

Thus, the clause can assure your dispute will be determined by a knowledgeable person in that area of the law, the substantive law will be followed and the matter will be timely resolved. This should minimize the cost and better assure a fair and proper resolution.

But what about appeals? Court decisions may be appealed with factual findings reversed on a standard of “clearly erroneous” while legal findings are reviewed de novo. Rulings by arbitrators are subject to different standards.

Any party disagreeing with an award issued by the arbitrator(s) may seek to vacate. The Federal Arbitration Act provides an arbitrator’s award may be vacated:

  • Where the award was procured by corruption, fraud or undue means
  • Where there was evident partiality or corruption in the arbitrator(s)
  • Where the arbitrators were guilty of misconduct in refusing to postpone the hearing, upon sufficient cause shown or in refusing to hear evidence pertinent and material to the controversy, or of any other misbehavior by which the rights of any party have been prejudiced
  • Where the arbitrators exceeded their powers, or so imperfectly executed them that a mutual, final and definite award upon the subject matter submitted was not made

However, the parties can opt, by mutual agreement, to have an appellate process. The AAA introduced the Optional Appellate Rules in 2015.

Executing an Award

How do you execute on an award received from an arbitrator? Assuming the other party is not running to court to vacate yet does not make prompt arrangements for payment, the prevailing party will need to bring a special proceeding to confirm the arbitrator’s award. Once confirmed, a judgment is entered, and you may execute on that judgement as you would any other.

A major advantage of arbitration is it is not a public proceeding. It is a private process, and, in most cases, the record remains confidential. So even if the judgement is against the lender, there will be no public record of that finding and no negative implications.

Finally, in what situations can you request arbitration instead of litigation? Any dispute with your borrowers can be submitted to arbitration if your loan agreement so provides. Inter-creditor agreements and guaranty agreements also can contain arbitration provisions. Third-party claims (e.g. actions to recover collateral in the hands of someone other than your borrower), however, where you are not in privity of contract, will remain in the domain of the courts unless, once a dispute arises, the parties agree to submit to alternate dispute resolution.

The time to test the arbitration waters is long overdue. Many, if not most, courts now require mediation as part of the litigation process. Similarly, many arbitrators are now required to advise disputing parties of the availability of mediation. AAA’s Commercial Rules calls for mandatory mediation for any arbitration case above $75,000. Mediation is clearly recognized as an effective tool to resolve disputes. Wouldn’t you rather reach a settlement instead of relying on a judge to do the right thing? When mediation has not been successful and the courts remain too risky and costly an option, arbitration remains the viable method to resolve disputes.