A financial institution recently learned what happens when it does not include language in an arbitration agreement to permit a customer to opt out of the arbitration clause. A U.S. district court denied a motion to compel arbitration based on the flawed provision, concluding that it was unenforceable because the bank failed to give the customer an opportunity to opt-out. The Court of Appeals for the Second Circuit affirmed, concluding that the consumer did not receive clear notice that he was bound by the arbitration provision, as required by applicable law. ABALitigation Section leaders applaud the decision, which they believe illustrates the inherent pitfalls in arbitration clauses that courts perceive to be unfair to consumers.

In Lipsett v. Popular Bank, Frankie Lipsett sued Popular Bank in the U.S. District Court for the Southern District of New York alleging claims stemming from a banking arrangement he established with the bank starting in 2004. The bank asserted that it included an arbitration clause in the 2008, 2013–2014, and 2021 updates to Lipsett's 2004 customer account agreement. Based on the customer agreement, the bank sought to compel arbitration by arguing that the account updates provided to Lipsett provided terms and conditions incorporating a mandatory arbitration clause. The trial court denied the bank’s motion to compel because it failed to provide Mr. Lipsett with a chance to opt out of the arbitration agreement.

To Notify or to Not Notify

Not to be defeated, the bank appealed the trial court’s ruling. The court of appeals upheld the district court's decision to deny arbitration, although based on different reasons. The Second Circuit affirmed the judgment “on the sole basis that Lipsett did not receive sufficiently clear notice that he was bound by the arbitration provision at issue in this case, as required under New York law.”

The bank conceded that Lipsett was only provided the 2013–2014 Agreement that contained an arbitration provision, along with an attached notice. The Second Circuit concluded that 2013– 2014 documents failed to constitute “a definite offer to arbitrate this dispute,” because they “d[id] not permit existing accountholders like Lipsett to clearly understand their options for rejecting arbitration.”

The Second Circuit pinpointed three concerns regarding the wording in the 2013–2014 Agreement and the accompanying notice. First, it found that the notice letter was misleading with the language providing that there “continues to be a Mandatory Arbitration Provision,” even though there was no evidence that Lipsett had ever agreed to arbitrate before.

Second, the notice letter did not effectively inform Lipsett about the terms by which he could either accept or decline the arbitration provision. And third, the notice letter was unclear regarding whether the 2013–2014 Agreement constituted an entirely new deposit agreement or simply an amendment to Lipsett's previous agreements, leading to ambiguity for a reasonable customer regarding which opt-out provisions outlined in the documents would be relevant.

Due Diligence and Time Rectifies All

Litigation Section leaders generally agree with the Second Circuit’s conclusion that the plaintiff did not agree to the arbitration clause. “New York law provides that mutual assent must be sufficiently definite,” says Jason Kellogg, Miami, FL, cochair of the Section’s Class Actions & Derivative Suits Committee. “Under these facts, there is enough evidence of confusion and contradictory statements that supports the affirmation of the lower court’s ruling,” he adds.

The failure of the arbitration provision was grounded in basic contract doctrine. “The ruling is consistent with longstanding contract law,” observes Ebony Morris, New Orleans, LA, Young Advocate cochair of the Section’s Business Torts & Unfair Competition Committee. “There must be a meeting of the minds for a valid contract or agreement to exist,” she adds.

Section leaders also believe it was appropriate for the Second Circuit to affirm the decision on different grounds. “When a ruling is under de novo review, the appellate court can always essentially take it as if it is brand new, and not have to consider what the lower court did,” says Kellogg. “When the standard of review is de novo, courts review the entire case from the beginning and may have a different interpretation of the facts and law,” adds Morris.

It is imperative that clients ensure they have binding arbitration agreements. “Clients should include a 24-hour review period,” says Morris. “A 24-hour review period will help lessen any alleged unconscionability by allowing the consumer to seek counsel for assistance with reviewing the agreement,” she suggests.

Choice of law can also drive whether a party has an enforceable arbitration clause. “Whenever there is an amendment that creates or amends an arbitration provision, clients should drill down on what governing law applies,” counsels Kellogg. “You need to know the laws of the jurisdiction to which potential arbitration challenge could occur and also what creates mutual assent in that jurisdiction,” he concludes.

Republished with permission. This article, "Court Rejects Arbitration Clause Without Opt-Out Provision" was published in American Bar Association Litigation Section News on June 10, 2024.