Whither the Future of Non-Judicial Fora?

05 Jan Whither the Future of Non-Judicial Fora?

Posted at 17:06h in Litigation, Securities Litigation & Regulation by

Two late-year 2016 federal administrative and judicial pronouncements combine to raise concerns about the future of non-judicial dispute resolution fora.

On November 28, 2016, the Centers for Medicare and Medicaid Services (“CMS”), a unit of the Department of Health and Human Services, adopted rules which, among other things, prohibit long term care facilities (“LTC”) that receive Medicare or Medicaid funds from entering into pre-dispute arbitration agreements with residents or their representatives.  On December 27, 2016, the 10th U.S. Circuit Court of Appeals issued a decision that found that the Securities and Exchange Commission’s (“SEC”) administrative proceedings violate the Appointments Clause of the Constitution when administrative law judges (“ALJs”) whom the Commissioners or a federal judge did not directly appoint conduct to the proceedings.  Both of these pronouncements, one a rulemaking and the other an appellate decision, target non-judicial dispute resolution fora.  In combination with other recent attacks on consumer arbitration and the SEC’s administrative forum, these developments suggest that non-judicial dispute resolution fora may begin to lose their attractiveness as a locus for resolving disputes.

The CMS release explaining and adopting rule 483.70(n) gives many examples of how both pre-dispute arbitration agreements and the arbitration process itself adversely affect the rights of LTC residents to a fair dispute resolution process, to such an extent in CMS’ view as to warrant a declaration that pre-dispute arbitration agreements are unconscionable.   (Id. at 401, 402.)  As a result, and consistent with HHS’s mandate to ensure the health, safety, and well-being of Medicare and Medicaid recipients, CMS determined through research from a variety of sources, including congressional reports, statements from senators, court opinions, law review articles, the observations and analyses of various state attorneys general, trade groups, and over 1000 letters from commentators on all sides of the issue, that such agreements should be prohibited.

This does not mean the new rule prohibits all arbitrations.  In fact, the new rule does not affect existing arbitration agreements, affect arbitration agreements entered into after a dispute has arisen, so-called post-dispute agreements, which CMS believes is the preferred time to enter into such agreements.  (Id. at 431.  The rule acts only to prohibit LTCs from proposing or entering into pre-arbitration agreements after its effective date, November 28, 2016.

Yet, coming in the wake of a spate of media attacks on arbitration in several consumer areas the adoption of this rule, affecting an entire industry, appears to be a kind of canary in the coal mine; an early sign of things possibly to come.  Might similar rulemaking soon occur in other federally regulated areas?  The prospect of this happening should cause every business that includes a pre-dispute arbitration clause in any of its standard agreements to consider whether these provisions will eventually be upheld or tossed aside.  Some of the concerns CMS cited with respect to such agreements in the LTC context may carry over to color perceptions of the fairness of such agreements, and the arbitration process generally, in other areas.  For example, CMS noted that such agreements are not always separate stand-alone documents, but often are included in larger packets of information and may not always be recognized for what they are, namely, a waiver of both the right to have any dispute adjudicated in court and the right to appeal.  (Id. at 392, 409.)  From this perspective, CMS believes pre-dispute agreements deprive LTC residents of the ability to be fully informed when they consent in advance to have disputes resolved via arbitration, particularly where they are seeking care at the most vulnerable stage of their life and can’t really anticipate what type of disputes could arise in the future, or how they might feel about arbitration at that time, and where consent to arbitration is presented as a precondition to acceptance at a LTC facility, effectively negating any opportunity for negotiation.   (Id. at 399, 405.)

Companies hoping to retain the ability to manage customer disputes through arbitration should compare their arbitration contracting practices and provisions against those that raised concerns with CMS and other constituencies and commentators, to identify ways to ameliorate the most egregious terms and characteristics in the hope of saving the agreements.

The 10th Circuit’s decision in Bandimire v. SEC hit the legal landscape with the heavy thud of a large stone.   As the first appellate court to find that the SEC’s administrative forum violates the Constitution, it breaks with a string of appellate opinions that have consistently turned back these claims over the past two years.  The defense strategy and trend of attacking the appointment of SEC ALJs began in June 2015 with a challenge based on the Appointments Clause of Article II of the Constitution.  That clause requires so-called “inferior officers” of the U.S. Government to be accountable to the president, as part of his charge to faithfully execute the laws of the United States.

Since SEC ALJs construe and apply the federal securities laws in cases they oversee, and are hired through the SEC’s human resources department in conjunction with the government’s Office of Personnel Management, rather than directly by the President, the Commission, any Commissioner or federal judge, they are not directly accountable to the president.  This, challengers contend, impairs the president’s ability to ensure faithful execution of US law by not having ALJs in his direct chain-of-command.  In response, the SEC has argued that ALJs are merely employees, whose work must be reviewed and approved by the Commission – the five members of which are appointed by the president – to have any legal effect.  Therefore, they are not officers within the meaning of the Appointments Clause.

The Bandimere court looked at the various functions ALJs perform and concluded that, notwithstanding the Commission’s ultimate authority to approve, reverse or modify an ALJ’s ruling, the ALJs perform sufficient substantial functions of a government officer to be considered “inferior officers” and therefore must be directly appointed by the President, the Commission, or any of its members, or a federal judge.  (Id. at 16-17.)

In light of this break with other court rulings, most notably the D.C. Circuit’s opinion in Lucia v. SEC the Supreme Court will ultimately have to decide this issue.  In the meantime, the effectiveness and legitimacy of the SEC’s administrative tribunal is now under a cloud, at least as concerns who oversees administrative cases.  It has been suggested that the SEC could undertake a do-over by formally appointing all of its ALJs.  Failing this, persons charged in SEC administrative actions, particularly in the 10th Circuit, will be able to force the SEC out of its preferred forum and into court, just as residents entering Medicare and Medicaid supported LTC facilities will now be able to do with those entities.

Ron Wood

Ron Wood

Ron Wood is a partner with Brown White & Osborn LLP. A former Assistant Director in the SEC's Division of Enforcement, Executive Director in the Law Division at Morgan Stanley, and litigation partner with Proskauer LLP, he practices securities law with a focus on regulatory and enforcement matters. He also conducts internal investigations and complex commercial litigation.
Ron Wood

Latest posts by Ron Wood (see all)