AB 51 Ban on Mandatory Employment Arbitration Agreements Upheld…For Now

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Tom Wolfe, Managing Partner of Moore Brewer Wolfe Jones Tyler & North.

In Chamber of Commerce v. Bonta, 13 F.4th 766 (Sept. 15, 2021), a divided three-judge panel of the Ninth Circuit Court of Appeals recently upheld California’s ban against mandatory arbitration agreements in employment enacted by Assembly Bill 51 (2019 Cal. Stats., ch. 711) (“AB 51”). The panel vacated the preliminary injunction that has thus far prevented the law from taking effect but upheld the injunction as to its civil and criminal penalty provisions.

Background

AB 51 added new Labor Code §432.6, which prohibits a person, as a condition of employment, continued employment, or the receipt of any employment-related benefit, from requiring an applicant or employee to waive any right, forum, or procedure for a violation of any provision of the Fair Employment and Housing Act (“FEHA”) or the Labor Code. It also prohibits an employer from threatening, retaliating or discriminating against, or terminating an applicant or employee for refusing to waive these rights. Labor Code §432.6 does not apply to post-dispute settlement agreements, negotiated severance agreements, or other specified agreements.

Violations of AB 51 are subject to both civil and criminal penalties. AB 51 added Government Code §12953, which states, “It is an unlawful employment practice for an employer to violate Section 432.6 of the Labor Code,” triggering potential civil damages. By virtue of §432.6’s placement in Article 3 of the Labor Code, potential criminal penalties are triggered as well. Labor Code §433 states, “Any person violating this article is guilty of a misdemeanor.”

While AB 51 was scheduled to apply to employment contracts entered into, modified, or extended on or after January 1, 2020, the law was promptly challenged on the grounds that it is preempted by the Federal Arbitration Act (“FAA”). On December 30, 2019, the U.S District Court issued a temporary restraining order preventing AB 51 from taking effect as scheduled, followed soon after by a preliminary injunction.

On appeal, a divided Ninth Circuit panel reversed the district court’s finding that §432.6 was preempted by the FAA but affirmed its finding of preemption as to AB 51’s civil and criminal penalties.

Ninth Circuit Panel Decision

The panel’s decision focused largely on its finding that AB 51 governed pre-agreement behavior rather than invalidating or preventing enforcement of executed arbitration agreements, which would conflict with the FAA.

In examining the issue of preemption, the panel first looked to the U.S. Supreme Court case of AT&T Mobility LLC v. Concepcion, 563 U.S. 333, 344 (2011), which holds that “the principal purpose of the FAA is to ensure that private arbitration agreements are enforced according to their terms.” Section 2 of the FAA (9 U.S. Code §2) specifically provides that a written agreement to arbitrate “shall be valid, irrevocable, and enforceable, save upon such grounds as exist at law or in equity for the revocation of any contract.” This last phrase in §2 (“save upon such grounds as exist at law or in equity”) is known as a “savings clause.” Notwithstanding significant caselaw supporting their enforceability, the FAA allows arbitration agreements to be invalidated by generally applicable contract defenses (e.g., fraud, duress, unconscionability).

In considering whether there is a basis for preemption, the panel pointed to three types of preemption: a) conflict preemption (where state law is in conflict with federal law); b) express preemption (where Congress has enacted a statute that expressly preempts state law); and c) field preemption (where Congress has legislated so extensively in a particular area that it has evidenced its intent to exclude state action). The Supreme Court has previously determined that that there is neither express nor field preemption under the FAA, meaning any finding of preemption must therefore be based on a conflict. Conflict preemption can be found in either: i) impossibility (when it is impossible to comply with both state and federal law); or ii) obstacle (when a state law is an obstacle to fulfilling the purposes and objectives of Congress).

Impossibility Preemption

In determining whether impossibility preemption exists, the panel focused on the FAA’s §2 savings clause. It noted that a state rule that treats arbitration agreements less favorably than other agreements (i.e., failing to uphold or enforce arbitration agreements where other contracts would be upheld or enforced) would place arbitration agreements on an “unequal footing” with other contracts. Such a rule would generally fall outside the savings clause of the FAA and render it preempted. If, however, the rule placed arbitration agreements on an equal footing with other contracts, it could fall within the savings clause and avoid preemption.

In this case, the panel concluded that §2 of the FAA does not apply to §432.6, finding that §432.6 does not create a contract defense that would render an executed arbitration agreement invalid or unenforceable, or otherwise treat them differently from other contracts. To the contrary, subsection (f) of §432.6 specifically provides that, “Nothing in this section is intended to invalidate a written arbitration agreement that is otherwise enforceable under the Federal Arbitration Act (9 U.S.C. Sec. 1 et seq.).” Instead, §432.6 merely mandates that such agreements be consensual – a regulation on contract formation or pre-agreement behavior. Because §432.6 puts arbitration agreements on equal footing with other contracts and does not render executed arbitration agreements invalid or unenforceable, the panel concluded that it does not fall under impossibility preemption.

Obstacle Preemption

Under obstacle preemption, even if a state rule is found to place arbitration agreements on an equal footing with other agreements, it could still be preempted if found to be an obstacle to the purposes of the federal rule. The panel noted that an underlying principle of the FAA is voluntary consent, stating, “Congress was focused on the enforcement and validity of consensual written agreements to arbitrate and did not intend to preempt state laws requiring that agreements to arbitrate be voluntary.” Labor Code §432.6 was likewise enacted to ensure the voluntary nature of specified agreements.

However, looking specifically at the penalty provisions, the panel agreed with the district court’s finding that the civil and criminal penalties under AB 51 stand as an obstacle to the purposes of the FAA. The penalties imposed on employers for violating §432.6 would serve to punish employers for entering into arbitration agreements, in conflict with §2 of the FAA. Accordingly,  it concluded that the civil and criminal penalty provisions are preempted to the extent that they apply to executed arbitration agreements.

Conclusion and Dissent

The panel held that §432.6 is not preempted by the FAA because it pertains to pre-agreement behavior, and vacated the preliminary injunction. However, it affirmed the finding of preemption as to AB 51’s civil and criminal penalties because they punish employers for entering into arbitration agreements. The matter was remanded back to the district court for further proceedings.

The sole dissenting Circuit Judge wrote a lengthy analysis, concluding that AB 51 has a disproportionate impact on arbitration agreements in violation of the FAA because it criminalizes mandatory arbitration agreements while permitting mandatory agreements on any number of other employment terms. The dissent notes that AB 51 was the result of several prior failed attempts to circumvent the FAA, and that its purpose was to oppose arbitration while sidestepping the preemption issue. Upholding AB 51 based on a finding that it only penalizes pre-agreement behavior results in a law that punishes the formation of arbitration agreements while upholding their subsequent enforcement. This conclusion also resulted in a split with other circuits that have previously held that such “too-clever-by-half workarounds” designed to block the formation of arbitration agreements are preempted by the FAA in the same manner as laws that block enforcement.

What’s Next?

The plaintiffs have filed a petition for rehearing en banc, meaning that a rehearing by the full Ninth Circuit Court of Appeal is sought due to the significant nature of the issues. An appeal to the U.S. Supreme Court is also likely.

In the interim, given the overall uncertainty of where the law now stands, credit unions that utilize employment arbitration agreements are urged to carefully review them with legal counsel to ensure that that are consistent with the FAA, giving careful consideration as to whether they are voluntary in both language and practice.

Article by Tom Wolfe, Managing Partner of Moore Brewer Wolfe Jones Tyler & North.

 
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