One-Way or Two-, Arbitration Clauses Are the Hard Way
Williams, Jackson, American Banker
Mandatory arbitration clauses have been billed as a panacea for ending "frivolous" litigation against banks and reducing lenders' legal costs. Public-interest advocates have always viewed arbitration as a threat to consumers' rights. Now, developments suggest that arbitration clauses may not be in the industry's best interest either.
Boosters of arbitration clauses have contended that they can be used to prohibit participation in class actions. This month a federal court in Washington State joined seven other state and federal courts in holding that such bans are unconscionable and thus unenforceable. In August, South Carolina became the third state to permit classwide arbitrations.
Most banks have drafted "one-way" arbitration clauses, which require that claims by the consumer be arbitrated, while allowing the lender access to judicial foreclosure proceedings. Last month the Pennsylvania Superior Court followed California's lead in questioning this practice. Specifically, the court remanded a case to the trial court for determination of whether "business realities" demanded a one-way clause. This puts the lender in the awkward posture of producing evidence on arbitration's disadvantages in order to validate its clause.
Many lenders use two-way clauses to avoid this pitfall. But the two-way clause has its own drawback: The borrower may invoke the arbitration clause in a debt-collection proceeding, which means added hurdles and costs for banks pursuing deadbeats.
The usual gridlock in Congress has stymied efforts to exempt consumers from the Federal Arbitration Act. But state legislatures are using their limited authority to scale back the unfairness of mandatory arbitration. New Mexico has passed the Fair Bargain Act, which sidesteps federal preemption and bans unfair terms in consumer contracts. California just enacted a package of arbitration bills, including broad sunshine provisions.
The biggest benefit that arbitration provided lenders was the cost barrier it put in front of consumers. The high filing fees and hourly arbitrator charges traditionally required to initiate an arbitration used to scare off most claims. …