WORK WITH US
Court Blocks State Legislature’s Ban On Mandatory Arbitration Agreements
Under California’s Assembly Bill 51 (AB 51), an employer is barred from requiring an employee or applicant to enter into an agreement to arbitrate certain claims as a condition for being hired or for keeping a job, or from retaliating against an employee or applicant who refuses to agree to arbitration. AB 51 also bars employers from using an employment contract that requires the employee to take an affirmative step to opt out of an arbitration agreement. Under Section 433 of the California Labor Code, an employer who violates AB 51 has committed a misdemeanor.
The California legislature also included a provision in AB 51 ensuring that, if the parties chose to enter into an arbitration agreement, it would be enforceable. This created the potential for an employer to be subject to criminal prosecution for requiring an employee to enter into an arbitration agreement, while simultaneously allowing the employer to nevertheless enforce that agreement once it was executed. The California legislature took this approach to avoid conflict with Supreme Court precedent, which holds that a state rule that discriminates against arbitration is preempted by the Federal Arbitration Act (FAA). In other words, if the state law disfavors arbitration, the FAA will govern instead of state law, and the FAA is much more favorable to arbitration.
In December 2019, a collection of trade associations and business groups (collectively, the Chamber of Commerce) filed a complaint against various California officials (collectively, California), seeking a declaration that AB 51 was preempted by the FAA, a permanent injunction to prohibit California officials from enforcing AB 51, and a temporary restraining order. The trial court granted the motion for a temporary restraining order and the preliminary injunction. The trial court found that the Chamber of Commerce was likely to succeed on the merits of the preemption claim since AB 51 treats arbitration agreements differently from other contracts, which conflicts with the purposes and objectives of the FAA. The trial court found that, once the case was decided on the merits, the FAA would likely preempt AB 51. California appealed.
To establish a case for a preliminary injunction, the moving party must establish (1) a likelihood of success on the merits, (2) a likelihood of irreparable harm, (3) that the balance of harm tips in the movant’s favor, and (4) that the injunction is in the public interest. California only challenged the first factor—the trial court’s holding that AB 51 is preempted by the FAA, and therefore that the Chamber of Commerce is likely to succeed on the merits of their claim.
The Court of Appeal stated that preemption can occur when a federal statute expressly provides that it preempts state law, when Congress has found that federal law occupies a certain field exclusively, or when state law conflicts with federal statute. The Court of Appeal found that the FAA does not reflect a congressional intent to occupy the entire field of arbitration. However, the FAA was designed to promote arbitration and to give preference to arbitration provisions. A state rule interferes with these purposes if the state rule discriminates against arbitration on its face, or covertly discriminates against arbitration by disfavoring contracts that have the defining features of arbitration. The Court of Appeal found that precedent shows a congressional intent to place arbitration agreements on the same footing as other contracts.
California argued that the FAA only pertains to existing arbitration agreements, so once an arbitration agreement was entered into, it could be enforced. The Court of Appeal disagreed and found that the FAA’s preemptive scope applies to state rules that discriminate against the enforceability and the formation of arbitration agreements. If the Court of Appeal were to follow California’s suggested approach, it would remove the congressional intent to place arbitration agreements on the same footing as other contracts because it would disfavor entering into arbitration agreements.
The Court of Appeal concluded that, while AB 51 does not expressly bar arbitration agreements, it disfavors the formation of agreements that have the essential terms of an arbitration agreement and places a severe burden on forming arbitration agreements. AB 51 deters an employer from entering into an arbitration agreement because it threatens civil and criminal liability on employers for entering into an arbitration agreement. The Court of Appeal found that this is antithetical to the FAA’s policy of favoring arbitration agreements. The Court of Appeal also found that all of AB 51’s provisions work together, and therefore, the Court of Appeal declined to uphold certain parts of AB 51 while striking down other parts.
The Court of Appeal affirmed the trial court’s decision to grant a preliminary injunction and ruled that AB 51 is preempted by the FAA.
Chamber of Commerce of the United States of America v. Bonta (2023) — F.4th —- [2023 WL 2013326].
California may choose to appeal the ruling, in which case LCW will monitor the case for future developments.