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Thanks, but no thanks

The ultimate irony and all-too-common outcome of arbitration involves just those brokers who sing the praises of the arbitration provision and demand it be initialed. When an arbitrator makes an award against them, the brokers demanding arbitration then reverse course and argue for the judicial review they previously sought to avoid.

Disputants scorned by an unfavorable award often turn to the meaningless and misleading wording in the arbitration provision which states an arbitrator’s award must abide by California law to argue that a legally erroneous award is subject to appeal.

The implication here is if an arbitrator misinterprets California law, his decision is voidable — or at least subject to judicial review. Unfortunately, as countless court decisions attest, this is not the case.

The provision’s insistence that arbitrators apply California law is not a legal mandate and thus not explicit enough to merit review by a judge. If review of an award is to be had, the arbitration provision must explicitly call for judicial review.

Over the past few years, there has been a spate of real estate related arbitration disputes, which arise out of the inherent flaws in arbitration. The desire for judicial review rears its head with every scorned loser. Unfortunately, the flaws of binding arbitration do not discriminate between buyers and brokers — everyone is equally subjected to its deficiencies. [Gravillis v. Coldwell Banker Residential Brokerage Company (2010) 182 CA4th 503]

The capricious arbitrator’s award

When individuals enter into a purchase agreement, each person has expectations about his and the other party’s performance as defined by the terms of the agreement and set by existing law, also known as certainty of contract.  Without certainty in the real estate market, contracting to buy and sell becomes a commercial uncertainty, which is tantamount to anarchy in the market place and is stifling to sales volume and prices.

Yet by agreeing to binding arbitration in a real estate purchase agreement, not only is a person forced to accept an arbitrator’s incorrect application of law, he is forced to proceed with arbitration and accept an award impossible to predict.

Consider a buyer and seller of real estate who enter into a purchase agreement which contains an enhanced boilerplate arbitration provision. Both the buyer and the seller initial the provision as instructed by their agents.

Prior to closing, the seller discovers the property has significantly greater value than the price the buyer has agreed to pay, a condition brought about by sharply rising real estate prices. Motivated by his belief the property’s value will continue to rise, the seller refuses to close escrow on the sale.

The buyer files a “demand for arbitration” with the arbitrator, claiming the seller breached the purchase agreement. The buyer seeks only to recover his money losses amounting primarily to the difference between the purchase price he agreed to pay for the property and the increased value of the property on the date of the seller’s breach. The buyer no longer wants the property and does not seek his alternative remedy of specific performance of the purchase agreement and delivery of title and possession, even though the seller still owns the property.

Prior to completion of the arbitration hearings years later, the value of the property drops significantly due to a cyclical local economic downturn. The arbitrator is aware the property’s current value has fallen below the sales price agreed to in the purchase agreement as well as the property’s increased value at the time of the seller’s breach.

The arbitrator then issues an award in favor of the buyer.  However, the award is not for the money losses the buyer sought and was entitled to. Instead of the requested money award, the arbitrator’s award grants the buyer the right to purchase the property for a price equal to its current fair market value, a remedy not available under the law.

The buyer now petitions the court to vacate the arbitration award and remand the case for a money award as requested in arbitration. The buyer claims the arbitrator exceeded his powers by awarding a result not contemplated by the law controlling the purchase agreement nor sought by the parties, i.e., the right to acquire the property at a different price than was agreed to in the purchase agreement even though the buyer no longer wants to acquire the property.

Did the arbitrator exceed his powers, act corruptly or prejudice the rights of the parties by awarding an equitable remedy (specific performance) which was in absolute conflict with the purchase agreement (different price) and beyond any expectations of either the buyer or the seller under applicable law?

No! The arbitrator was not corrupt and did not exceed his powers. The erroneous award was drawn from the arbitrator’s (mis)interpretation of the purchase agreement and the law.

Basically, the remedy awarded a buyer by an arbitrator in binding arbitration is not reviewable by a court of law, as long as the remedy has “some remotely conceivable relationship” to the contract. [Advanced Micro Devices, Inc. v. Intel Corporation (1994) 9 C4th 362]

As pointed out by a dissenting opinion in the Advanced Micro Devices, Inc. case, a bizarre interpretation by an arbitrator of the agreement underlying a dispute, coupled with a blatant error of law, might result in an arbitration award “ordering the marriage of the disputing parties’ first-born children.”  Under current California and federal law, this kind of gross miscarriage of justice is lawful under arbitration.

This kind of gross miscarriage of justice is lawful under arbitration.

An arbitrator has great latitude in making decisions. He may use his own discretion since he does not need to follow the mandates of regulations, case decisions or codes upon which the contractual dispute rests. By allotting such unquestionable authority to one single person without the possibility of judicial review, the likelihood of a mistake or misinterpretation becomes unavoidable.

No benefit in this bargain

Arbitration is erroneously regarded as the less expensive, more expedient medium of dispute resolution. It is often recommended as a quick and easy process, but rarely delivers such results.

A party choosing to arbitrate is preparing to pay steep costs in the event the arbitrator decides against them. Arbitrators are independent contractors whose fees are paid by the loser, unlike judges whose work is funded by the taxpayer. If an attorney fee provision exists in the purchase agreement, the losing party is also responsible for paying the winning party’s attorney fees (as well as his own). [DiMarco v. Chaney (1995) 31 CA4th 1809]

Arbitration cases are too often as messy and protracted as lawsuits. If one party does not believe the arbitrator’s decision reflects a sound interpretation of California law (an opinion held by most losers in arbitration cases), the case will often be moved to litigation in hopes of reaching a fair decision held to the standard of the law applied by judicial review. Due to the binding nature of arbitration, these additional court costs are often squandered on the lost cause of attempting to reverse an arbitrator’s erroneous award.

Arbitrators are not bound by the rules of law when deciding their findings, conclusions and awards. If an erroneous award is made, the disputing parties have no opportunity to appeal unless the arbitration provision in the purchase agreement specifically states the award is subject to judicial review. Merely asserting the award must conform to the real estate law of California guarantees nothing.

Buyers and sellers in one-to-four unit residential real estate transactions who initial an arbitration provision are presumed to be fully aware of the risks they engage when agreeing to settle any disputes through arbitration — a legal precedent known as the benefit of the bargain.

Thus, in exchange for the purported lower cost, quicker result and overall convenience of arbitration versus litigation, disputants are charged with knowingly accepting the possibility an arbitrator may err in his judgment on the facts and law, and that such an error may not be reviewed or corrected. [Hoso Foods, Inc. v. Columbus Club, Inc. (2010) 190 CA2nd 181]

Ideally, all real estate brokers and agents who advise their clients to initial an arbitration provision fully apprise them of the myriad hazards presented by arbitration. Were the giving of this advice the norm, the presumption that the client’s agreement to the arbitration clause reflected his awareness of the benefits and risks of arbitration would be fair.

Unfortunately, as is evident from endless spate of arbitration disputes that eventually end up in some form of litigation, this “bargain” is not explained to buyers and sellers. It seems clients in real estate transactions are not counseled by their agents when asked to initial the arbitration provision. Rather, it is assumed the half-page provision, along with the numerous others, will be quickly initialed without inquiry or consequence. Thus, the bargain is made blindly.

The dictum then seems obvious: the arbitration provision had best be left un-initialled.