By Richard Stim , Attorney University of San Francisco School of Law
Updated by Amanda Hayes , Attorney University of North Carolina School of Law
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"Arbitration" is an out-of-court proceeding in which a neutral third party (called an "arbitrator") hears evidence in a dispute and then makes a binding decision on the parties. Arbitration is the most commonly used method of alternative dispute resolution (ADR), and you'll find an arbitration clause in the fine print of all kinds of contracts these days. Read on to find out whether you should include an arbitration clause in your agreement for contract disputes.
Arbitration can be binding (which means the participants must follow the arbitrator's decision and courts will enforce it) or nonbinding (meaning either party is free to reject the arbitrator's decision and take the dispute to court, as if the arbitration had never taken place). Binding arbitration is more common.
Arbitration can be:
Most contract arbitration occurs because the parties include an arbitration clause requiring them to arbitrate any disputes "arising under or related to" the contract. Not all contracts can require mandatory (or forced) arbitration. In March 2022, the Ending Forced Arbitration of Sexual Assault Harassment Act made pre-dispute arbitration agreements in employment contracts invalid and unenforceable for sexual assault and sexual harassment claims.
In any dispute, the parties can agree to arbitration at any point (although it's often tough to reach an agreement to arbitrate once a dispute has started).
For simple contract disputes in which the matter can be heard in one day, arbitration is usually a good choice. However, if in doubt, consider the advantages and disadvantages, below.
Advantages. Arbitration is usually faster, simpler, more efficient, and more flexible for scheduling than litigation. Also, it avoids some of the hostility of courtroom disputes, perhaps because it's a private proceeding versus the public drama of the courtroom. And if the subject of the dispute is technical—for example, about a patent—the parties can select an arbitrator who has expertise in that field, rather than a judge who might not be familiar with the issues.
Disadvantages. Unlike a court ruling, a binding arbitration ruling can't be appealed. It can be set aside only if a party can prove that the arbitrator was biased or that the arbitrator's decision violated public policy. Unlike a court case, there's no automatic right to discovery (the process by which the parties have to exchange information about their cases). But the parties can agree to discovery. The costs of arbitration can be significant; In some cases, they might even exceed the costs of litigation (see below).
Learn more in our article on the pros and cons of arbitration.
In many cases, arbitration is less expensive than litigation. This lower cost is typically attributed to arbitration being a quicker process. However, filing fees in arbitration disputes are usually much higher than court fees. When determining whether to include an arbitration clause in your contract, you'll need to consider the costs for both arbitration and lawsuits.
In an arbitration, you might have to pay the following costs:
If your case is particularly complicated, you might also have to pay for expert witnesses. After all these costs, arbitration might end up costing more than litigation.
If you include an arbitration clause in your contract, you might want to specify the rules for the arbitration proceeding.
You can be vague in your rules. For example, you can simply say that the arbitration is:
Alternatively, you can be more specific in your arbitration clause. For example, you can say that arbitration must take place in a specified state. You can also designate a specific arbitration agency to handle the arbitration. The agency you choose will also mostly determine the rules of the arbitration. Many contracts designated one of three agencies as arbitrator:
In your arbitration clause, you can also specify the level of expertise that your specific arbitrator must have. For example, if your claim is associated with a patent, you might want to say that the arbitrator must be a patent expert or attorney. Our samples below provide examples of these differences in specificity.
If you want to include an arbitration clause in your contract, below are some examples to take a look at. Example 1 shows a simple no-frills arbitration clause; Example 2 offers more conditions and obligations.
Arbitration. All claims and disputes arising under or relating to this Agreement are to be settled by binding arbitration in the state of [insert state in which parties agree to arbitrate] or another location mutually agreeable to the parties. An award of arbitration may be confirmed in a court of competent jurisdiction.
Arbitration. All claims and disputes arising under or relating to this Agreement are to be settled by binding arbitration in the state of [insert state in which parties agree to arbitrate] or another location mutually agreeable to the parties. The arbitration shall be conducted on a confidential basis pursuant to the Commercial Arbitration Rules of the American Arbitration Association. Any decision or award as a result of any such arbitration proceeding shall be in writing and shall provide an explanation for all conclusions of law and fact and shall include the assessment of costs, expenses, and reasonable attorneys' fees. Any such arbitration shall be conducted by an arbitrator experienced in [insert industry or legal experience required for arbitrator] and shall include a written record of the arbitration hearing. The parties reserve the right to object to any individual who shall be employed by or affiliated with a competing organization or entity. An award of arbitration may be confirmed in a court of competent jurisdiction.
If you have a significant amount of money or property in dispute, you should consider hiring a lawyer to help you in the arbitration. If the arbitrator's decision is binding, you only have one chance to win.