Note to Small Business Owners: BEWARE the Arbitration Clause Trap

Mark C. Hamilton, Esq. mhamilton@tuckerlaw.com, (412) 594-5558

My last article advised small business owners about the risks of agreements that contain unfavorable venue provisions. This one focuses on the consequences of overlooking arbitration clauses.

When a business arrangement goes south and the parties cannot work it out, the first instinct of many business owners is to turn to the courts. But if your contract contains an arbitration provision, your lawsuit is likely to be stayed or even dismissed due to the prior agreement to arbitrate. In other words, you will probably be forced to arbitrate your dispute outside the courts.

Some business owners readily agree to arbitration provisions, figuring arbitration would be faster and more cost-effective than a traditional lawsuit. Yet in many cases, nothing can be further from the truth.

For example, a standard American Arbitration Association (AAA) arbitration clause will require any disputes to be resolved in accordance with the AAA’s Commercial Arbitration Rules. Under the current fee schedule, a case between $300,000 and $500,000 in damages requires an initial filing fee of $4,825 and a final fee of $4,175. That’s a total administrative fee of $9,000. This is separate from the arbitrator’s fee itself and you must still pay for your own legal representation throughout the proceeding. For comparison sake, to file a complaint in state court typically costs less than $500 in filing and service fees.

Nor are the filing of pleadings, discovery proceedings, and motions practice necessarily more stream-lined than a regular lawsuit. You will be completely at the mercy of the arbitrator’s schedule and preferences. A typical arbitration case can take well over a year from start to finish.

Further, the limitations of arbitration can hamstring your case. For example, there is limited ability to conduct third-party discovery via subpoena since arbitrators cannot on their own authority compel non-parties to participate in a private out-of-court proceeding.

So before signing on the dotted line, be sure to closely review the contract, including any provisions related to resolution of disputes. Better yet – have your lawyer do so. Your attorney will be able to advise you on whether arbitration makes sense for you and your business.

To ensure your contracts protect your business, contact Mark Hamilton at Tucker Arensberg at (412) 594-5558 or at mhamilton@tuckerlaw.com.