Court Upholds Sanctions for Party’s Failure to Arbitrate in Good Faith

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(CIVIL ACTION NO.: 07-CV-0828 – April 9, 2009)

Appellant appealed a judgment from the United States District Court for the Southern District Court of New York vacating a portion of an arbitration award on the grounds that the arbitration panel went beyond its authority in awarding attorneys’ fees and arbitrator’s fees as sanctions for a party’s failure to arbitrate in good faith pursuant to the parties’ coinsurance agreement.

The arbitration section to the parties’ coinsurance agreement stated that "each party shall bear the expense of its own arbitrator (whether selected by that party, or by the other party pursuant to the procedures set out in Section 10.1) and related outside attorneys' fees, and shall jointly and equally bear with the other party the expenses of the third arbitrator."

The central dispute between the parties was whether the coinsurance agreement had been terminated. In an August 2006 award, the arbitration panel made the decision that the

coinsurance agreement remained in "full force." As a result, the panel granted the respondent 21 million dollars as well as attorneys and arbitrators fees. These fees were imposed as sanctions for what the arbitrators perceived as a lack of good faith to arbitrate the issue. The parties complied with all aspects of the arbitration determination except the award of attorneys and arbitrator fees and costs.

The District Court of New York heard arguments on whether to vacate the arbitration determination to the extent it granted any party fees and costs. The District Court concluded that the arbitration award did exceed the panel’s authority and vacated the award of costs and fees.

The Second Circuit framed the issue on appeal as: "in light of the parties’ agreement to arbitrate, the arbitrators were authorized to sanction bad faith conduct by awarding attorney’s and arbitrator’s fees. We do not – nor does the respondent ask [the Court] to – consider whether the arbitrators correctly identified bad faith conduct or whether the amount of fees awarded was an appropriate sanction for that conduct."

By framing the issue as such, the Second Circuit concluded that the broad language of the arbitration award gave "inherent authority to arbitrators to sanction a party that participates in the arbitration in bad faith and that such a sanction may include an award of attorney's or arbitrator's fees." As such, the Second Circuit reversed the District Court’s determination.

Circuit Judge Pooler issued a dissent to the majority’s ruling by stating that the terms and conditions of the coinsurance agreement specifically Section 10.3, expressly stated that the parties shall bear the expense of its arbitrator and related counsel. While acknowledging that arbitrators do have the discretion to order remedies they determine appropriate, such discretion is only permissible as long as they do not exceed the power granted to them by the contract itself. Judge Pooler cited precedent that repeatedly held that arbitrators cannot award forms of relief which are plainly in contradiction with the express terms of the contract. As such, he concluded that the arbitration determination with respect to costs and fees was arbitrary, contradicted the express terms and conditions of the agreement and, thus, warranted reversal.

By Daniel W. Gerber and Jeffrey L. Kingsley