The Increased Difficulty of Successfully Challenging the Arbitration Award

Many disagreements in the world of insurance are addressed in an arbitration proceeding rather than in traditional litigation.

From uninsured motorist issues, agent-broker disputes, and differences of opinion in the reinsurance context, insurers and reinsurers increasingly find themselves as parties to the arbitration process. Unlike traditional litigation, the remedies available to a party that feels an arbitration award has been improperly decided are very limited. In fact, there is always some question as to standards will be employed by a reviewing court when there is a challenge to an arbitration award.

A recent decision by the Second Circuit Court of Appeals provides significant guidance for those presented with troubling rulings from an arbitration panel. Wallace v. Buttar, 2004 WL 1753391 (2d Cir. N.Y. Aug. 5, 2004). The underlying facts of Wallace involved a securities arbitration where the principal question presented was whether certain members of an investment firm were “control persons” and could be liable to the petitioner. The arbitration panel ruled that a broker at the investment firm had committed fraud when presenting certain deals to the petitioner. The panel further found that the respondents were, in fact, “control persons” of the investment firm for the purpose of assigning liability. In turn, the panel awarded the petitioner both compensatory and punitive damages.

When presented with both a Motion to Vacate and an opposing Motion to Confirm the arbitration panel’s decision, the District Court vacated the award. The District Court ruled that the arbitration panel had manifestly disregarded both the law and the facts.

In analyzing the district court’s decision, the Second Circuit noted the limited ability a court has to review the decision of an arbitration panel. The Court specifically noted that the petitioner has a heavy burden in showing that the award falls within a narrow set of circumstances outlined by statute and case law in order for the award to be questioned. In the end, the Second Circuit ruled that the district court went too far in vacating the arbitration award and overturned the district court’s decision.

As part of its analysis, the Second Circuit initially took a close look at the manifest disregard of the law standard. Finding that the standard is applied only in very rare circumstances to vacate an award, the Second Circuit ruled that it only applied if both: (1) the arbitrators knew of a governing legal principle and refused to apply it or ignored it; and (2) the law ignored by the arbitrators was well defined, explicit, and clearly applicable to the case. Simply believing that the arbitration panel made an incorrect decision with respect to application of the law is not enough to overturn a decision. The Court ruled that if there is barely a colorable justification for the outcome of the panel, a court should enforce the panel’s decision.

Also of particular interest to practitioners involved in arbitration, the court stated that arbitrators were not expected to understand legal concepts with the sophistication of a highly skilled attorney. In addition, the Second Circuit stated that it did not expect arbitrators to review case law other than what was presented to them, i.e. no independent research. Thus, the Second Circuit recognized that arbitrators, unlike judges, would be confined to the law presented to them by the parties.

Of significant importance, the Second Circuit distanced itself from the concept that an arbitration award may be vacated based on a manifest disregard of the facts. The Court stated that the reviewing court may only look at the evidence presented in an arbitration to discern whether a colorable basis exists for the award so that it cannot be said to have been a result of the panel’s manifest disregard of the law. The Court confirmed the award, finding that a colorable basis for the Wallace panel award existed. Interestingly, the Court noted the panel was not advised of the governing legal principles by the complaining party, and it could not be said that there was a manifest disregard of the law.

Without a doubt, there remains a strong judicial preference for disputes to be addressed in non-traditional litigation forums or as part of an alternative dispute mechanism. The Wallace decision provides support for participation in the arbitration process. Since a manifest disregard of the facts standard can lead to obvious second-guessing of the factual findings of the arbitrators, a departure from this standard as a means to vacate an award reinforces the value of the arbitration process.

Nonetheless, arbitration awards can be clearly challenged based on a manifest disregard of the law standard. The reasoning of this decision further bolsters the judiciary’s continued preference for more disputes to be addressed in non-traditional forums. Arbitrators will continue to be given great deference and as much as attorneys may prefer otherwise, arbitration awards will be rarely disturbed.

Andrew S. Boris is a partner in the Chicago office of Tressler Soderstrom Maloney & Priess. His practice is focused on litigation and arbitration of insurance coverage and reinsurance matters throughout the country. Questions and responses to this article are welcome at aboris@tsmp.com The Tip of the Month runs each month on claimsguides.com.