Class Action Lawsuits and Arbitration Clauses
In Consumer Financing Agreements
Reprinted with the permission of the New Jersey Lawyer © 2002
Class action lawsuits, both in the state and federal courts, have been the bane of lenders in consumer financing arrangements. Over the years, there has been a proliferation in the number of lenders making consumer loans, in the variety of such financing arrangements, and in the laws and regulations that are enacted in regard to these loans.
Violations of such regulations occur, and often the damages to any particular borrower are not material. However, multiplying such damages by the number of consumers that are similarly situated, combined with the discovery expenses and attorneys’ fees of both the lender and the class action plaintiffs, can create a major contingent liability that lurks in the background for such lenders.
It is no wonder that lenders are seeking ways to reduce their across-the-board liability, preferring to deal with consumers on a case-by-case basis. Two sources of legal authority have brought some optimism to lenders. The first is the power to enter into contracts with consumers upon terms that are enforced by the courts. The second is the wide latitude given by courts to the arbitration forum as a procedure to resolve disputes between parties. The corollary to both of these factors is the reduced significance given to the difference in bargaining power between contracting parties.
All of these factors are evident in the most recent pronouncement of the Appellate Division of the New Jersey Superior Court on this issue. Gras v. Assocs. First Capital Corp., 346 N.J. Super. 42, 786 A.2d 886 (App. Div. 2001), decided on December 20, 2001, in an opinion written by the Honorable Philip S. Carchman, joined on the panel by Judges Skillman and Wallace. The case involves typical lending transactions involving consumers, and the types of loan documents that borrowers are increasingly being asked to execute, which include provisions for arbitration as the forum for adjudicating disputes and claims.
Mr. and Mrs. Gras obtained five loans from Associates lender entities over a period of four years. These were a series of refinancings and borrowings, starting at $27,000 and increasing to $68,000. Each time, the borrowers purchased credit life insurance from a third party entity, contained in an offer made in the loan documents from Associates. Also included in the loan documents was a separate arbitration agreement.
These arbitration agreements contained express language which alerted the borrowers to a limitation of certain of their rights, including their right to maintain a Court action. In even more specific language, the arbitration agreement contained terms that: (a) explained the arbitration process, including its costs, (b) brought all claims and disputes within its purview, including claims arising out of previous loans, (c) tied together all of the loan documents, including those specifically relating to any insurance purchased, (d) included claims and disputes based on state and federal statutes, and (e) prohibited borrowers from bringing a class action in the arbitration forum.
These arbitration agreements were signed by the borrowers. They did not negotiate or even discuss these agreements with the lenders, which agreements were included in a package with the various other loan documents. However, borrowers did sign such arbitration agreements in each of the five occasions when they borrowed and refinanced these loans. Although this fact is mentioned in the case, its impact upon the decision is not emphasized. Also not mentioned in the opinion was whether borrowers had other options to borrow from competitors to Associates, and whether such other lenders mandated arbitration as an exclusive forum for seeking redress.
In their lawsuit, the borrowers maintained that the signed arbitration agreements contravened public policy as they were contained in unconscionable contracts of adhesion. The court agreed that the borrowers had entered into contracts of adhesion, meaning that they had little ability to negotiate any of the terms. However, using precedents established in previous state court decisions, the court also held that such contracts are only unenforceable if they violate “the public’s interests affected by the contract”. Id. at p. 48.
At issue were two of the terms in the arbitration agreements signed by the borrowers: the arbitration remedy itself and the preclusion of a class action lawsuit. The first was quickly disposed by the court applying prior precedent in favor of arbitration provisions. In New Jersey, arbitration was previously deemed acceptable in wide-ranging contracts of adhesion. These included NASD form employment agreements of securities brokers, even as applied to discrimination claims, as well as underinsured motorist’s claims in car insurance policies. Further, the court noted that arbitration provisions in contracts involving interstate commerce were subject to the Federal Arbitration Act, 9 U.S.C. § 1, which supports such provisions except as to grounds that exist for the revocation of any contract.
The arbitration agreement provisions precluding class action claims were more problematic. However, there has been a discernable national trend in recent cases favoring contractual provisions requiring resolution of claims between parties on an individual rather than collective basis. Judge Carchman referenced several notable examples of that shift decided locally. The Third Circuit weighed in on this issue, reversing a District Court decision, in Johnson v. West Suburban Bank, 225 F.3d 366 (3d Cir. 2000), cert. denied, Johnson v. Tele-Cash, 531 U.S. 1145 (2001). The District Court had held that claims under federal Truth in Lending and the federal Electronic Fund Transfer Act were preferably litigated in class action filings, since the threat of these cases would foster voluntary compliance with these statutes. The Third Circuit reversed, citing U.S. Supreme Court decisions, noting that class actions were procedural remedies under the Federal Rules of Civil Procedure, and without explicit Congressional enactments of exclusivity, the ability to litigate claims in class action lawsuits was waivable, and that the arbitration forum provided an alternative method for resolving disputes under both cited statutes.
In another case, the Third Circuit affirmed without opinion a District Court case last year in which a consumer sought to invalidate a mandatory arbitration provision that had the effect of precluding a class action suit on a claim based upon the federal Truth In Lending Act. That District Court found that Congress did not expressly favor class action litigation over arbitration as a method of resolving Truth in Lending claims. Sagal v. First USA Bank, N.A., 69 F. Supp. 2d 627 (D. Del. 1999), aff’d, 254 F. 3d 1078 (3d Cir. 2001).
Judge Carchman proceeded on the narrow issue raised in the case – whether the provisions of the NJ Consumer Fraud Act, N.J.S.A. 56:8-1, involving the facts of the case at bar, could be adequately resolved and remedied in an arbitration proceeding. Several prior Appellate Division decisions had previously upheld the use of the arbitration forum for resolution of claims under the Act. Furthermore, the New Jersey Legislature had not expressed any preference for the use of class action lawsuits as a procedure for resolving Consumer Fraud Act claims. Additionally, the Court reviewed the Rules of the American Arbitration Association, as the forum designated in the loan documents, and found that the arbitrator had the authority and power to award any statutory remedy to a litigant that was specified in the Consumer Fraud Act, including money damages, treble damages, and reimbursement of attorneys’ fees and costs.
The limited decision was to enforce the “liberal construction of contracts in favor of arbitration” over the policy of the Consumer Fraud Act to uncover and remedy fraud against consumers. It is a significant decision, since the Court assumed for purposes of the decision that the parties were in “distinctly different bargaining positions” when the loan documents and arbitration agreements were executed and delivered. The Court stated that in the absence of legislative mandates or overriding public policies, arbitration was an appropriate forum.
Also of significance was the absence of cohesive precedent in federal or state cases across the country that supported class actions as an exclusive or even preferred remedy. Instead, the overwhelming number of recent cases have supported arbitration as an appropriate, if not actually favored, forum in which to resolve disputes between parties to almost any contract.
The case is presently before the New Jersey Supreme Court on a Petition for Certification.
This Article was written by Peter S. Bejsiuk, Esq., a member of Capehart Scatchard’s Commercial Group and President, Board of Trustees of the Banking Law Section of the NJ State Bar Association. Should you have any questions or like more information, please contact Mr. Bejsiuk at 856.914.2057, by fax at 856.235.2786, or by e-mail at firstname.lastname@example.org .