February 2, 2023

Best Practices: Tips for Creating a Legally Binding Employment Arbitration Agreement

Arbitration is the process of resolving disputes outside the court system. Employment arbitration agreements can be used to ask employees to agree to individually arbitrate employment-related claims and waive their right to bring any class or collective claims in court.  In an employment arbitration, each party (the employer and the employee) presents their side of the dispute to a private arbitrator (or panel of arbitrators) jointly selected by the parties’ utilizing procedures set forth in the arbitration agreement. The arbitrator then decides the merits of the case, fashions an appropriate remedy, and issues an opinion which the parties have voluntarily agreed to accept. 

Below are a few key tips to creating a legally binding arbitration agreement:  

Contract Formation: To create a legally binding arbitration agreement there must first be an understanding between the parties that results in the formation of a contract. This first step is satisfied if the parties enter into a mutually binding agreement. In other words, both sides (the employer and the employee) must be bound by the agreement to arbitrate and its terms.  

Unconscionability: When deciding issues of enforceability, the court will focus its determination on whether there are facts to support allegations of “unconscionability.” A contract law term used to describe a defense against the enforcement of a provision of a contract (such as an arbitration agreement), unconscionability focuses on the presence of terms that are excessively unfair to one party. An arbitration agreement must be both “procedurally unconscionable” and “substantively unconscionable” to be unenforceable and the two factors are weighed together to assist the court in reaching its decision. 

The weight of evidence of procedural and substantive unconscionability affects enforceability of the arbitration agreement—the more procedurally unconscionable the agreement is, the less substantive unconscionability is needed to render it unenforceable and vice versa. The amount of procedural or substantive unconscionability needed to invalidate an arbitration agreement varies depending on the legal jurisdiction (e.g., California applies a sliding scale while in other jurisdictions a showing of either alone may suffice.)  

Notice, Review, and Consent: Typically, claims of unconscionability focus on the means or method by which the employer secured the employees contractual consent to the arbitration agreement. The best means of defending against claims of unconscionability is to focus on notice, review, and consent. For prospective employees this means notifying applicants in writing, early in the hiring process, that signing an arbitration agreement is a condition of employment.i If the decision is to require current employees to sign an arbitration agreement, it is equally important they receive advance notice and the opportunity for review. 

The employer’s ability to demonstrate—if challenged—that the employee knowingly agreed to arbitrate their claims and waive the right to a civil court trial is an important defense tool. If the agreement is presented with the expectation of a pen-and-ink signature, the employer must be careful to make sure each employee’s signed agreement makes it into the personnel or arbitration file. If the agreement is presented for electronic signature the employer should require username and password access; a place for the employee to electronically sign the document; and check-the-box acceptance. Employers relying on electronic signatures should check with their e-document provider to determine how documents are stored and accessed for verification and later use.ii 

Applicable Rules and The Cost of Arbitration: Unless the employee is considered a “highly compensated executive,” most arbitration agreements will require the employer to bear the full cost of the arbitrator’s fees and expenses. Other agreements require the employee to pay the initial arbitration filing fees, in keeping with what an employee would pay to bring a lawsuit in civil court. Employers should consult with legal counsel in their respective jurisdiction to determine whether fee sharing provisions can be included in the arbitration agreement. 

If the arbitration agreement designates the use of a specific arbitration group (e.g., American Arbitration Association or JAMS) to conduct the arbitration, a copy of (or link to) that entity’s procedural rules must be provided to the employee.